Investment Highlights

• Upstream net profit growth of 10% to 55% YoY in 1Q2020 driven mainly by CPO price. The quarterly results of most plantation companies were weaker than consensus estimates in spite of the strong 10% to 50% YoY growth in upstream profits. Upstream earnings were tempered by softer downstream profits and lower-than-expected FFB production in 1Q2020. Also, CPO prices have fallen since 1Q2020 and are expected to remain unexciting in 2Q2020.

• Strong CPO prices helped compensate for the YoY fall in industry FFB production in 1Q2020. Average CPO prices realised by the planters ranged from RM2,599/tonne to RM2,704/tonne in 1Q2020, more than 30% YoY higher.

• FFB production growth was poor YoY in 1Q2020. The YoY decline in industry FFB production in 1Q2020 can be attributed to the lagged impact of the drought and haze in Malaysia and Indonesia, which took place in 3Q2019. In the case of FGV Holdings, the group’s FFB yield was also hit by lower fertiliser application in FY19. FGV only applied 65% of its fullyear fertiliser requirements in FY19. FFB production of the planters in our universe plunged by 9.8% to 32.6% YoY in 1Q2020. In our coverage, FGV recorded the sharpest YoY drop in FFB production in 1Q2020. In contrast, IJM Plantations and TSH Resources bucked the downward trend by achieving YoY increases of 2.1% and 1.6% in FFB output in 1Q2020 respectively.

• Going forward, we believe that industry FFB production would rise QoQ in 2Q2020. Oil palm trees are entering the peak production period in 3Q2020. Also, as estate workers are not allowed to return home for the Aidilfitri holidays, they would be harvesting more FFB in the estates. In previous years, estate workers took a two- to four-week break for the Aidilfitri holidays. This resulted in industry CPO production being weak for the month.

• Downstream earnings were mixed in 1Q2020. IOI Corporation experienced a YoY erosion in downstream margin in 1Q2020. This was mainly due to lower sales volume and a surge in CPO prices in 1Q2020, which resulted in a higher cost of feedstock. In contrast, Sime Darby Plantation’s (SDP) downstream EBIT margin improved YoY in 1Q2020 on the back of fair value gains of RM62mil in commodity hedges.

• IOI’s manufacturing EBIT margin declined to 2.7% in 1Q2020 from 7.9% in 1Q2019 while SDP’s manufacturing EBIT margin rose to 3.8% in 1Q2020 from 2.7% in 1Q2019. Going forward, we think that downstream earnings would remain lacklustre. Although CPO prices have declined in 2Q2020, we believe that oleochemical companies would be affected by lower selling prices and weaker demand resulting from Covid-19.

• 2Q2020 upstream earnings to be weaker than in 1Q2020 and 2Q2019. We believe that upstream results of plantation companies would be weaker in 2Q2020 compared with that of 1Q2020 due to the decline in CPO prices. Average MDEX spot price has been RM2,188/tonne so far in 2Q2020 compared with average MPOB spot price of RM2,703/tonne in 1Q2020. Comparing 2Q2020 against 2Q2019, we reckon that plantation results would be flat or lower. Average MPOB spot price was RM1,978/tonne in 2Q2019.

• UNDERWEIGHT. We maintain UNDERWEIGHT on the plantation sector as CPO prices are expected to be unexciting for now. We believe that any increase in CPO price would be capped by weak global demand. We are keeping our average CPO price assumption of RM2,300/tonne for Malaysia in 2020F (2019 MPOB spot price: RM2,119/tonne).

Source: AmInvest Research - 2 Jun 2020