• Malaysia Smelting Corp's earnings were impacted by depressed tin prices, higher operating costs amid rising inflationary pressure and lower smelting output. Malaysia Smelting Corp is expected to show a more meaningful growth in 2023 backed by stronger production and better margins from its new eco-friendly plant.
• Market sentiment is expected to remain fragile in the near term given the weak macro environment globally. Prices may rebound at a moderate pace as China gradually lifts its lockdown.

Malaysia Smelting Corp (MSC)'s 3Q22 Results Below Expectations

• Malaysia Smelting Corp reported a 3Q22 core net loss of RM24.9m (vs. core net profit of RM39m and RM29m for 2Q22 and 3Q21) on revenue of RM344.1m (-16% q-o-q, +58% y-o-y). This brought 9M22 core earnings to RM79.5m (+43% y-o-y), below our expectation as it only accounts for 68% of our full-year estimates. The negative variance was mainly due to:
  1. a decline in tin prices to around US$23,000/mt (- 35% q-o-q, -26% y-o-y),
  2. rising operating cost, and
  3. longer-than-expected furnace re-bricking at Pulau Indah.
• However, on a y-o-y basis, the improvement is largely due to higher average tin prices and stronger production post-lockdown.
• We foresee Malaysia Smelting Corp recording lower earnings q-o-q in the subsequent quarter on lower average tin prices. However, we expect the ramp-up in production volume may help to partially offset the impact of weak tin prices.

Mining Continues to be the Major Earnings Contributor

• The mining division remains profitable albeit at a lower range. It recorded lower 3Q22 earnings of RM11m (vs RM48m and RM39m in 2Q22 and 3Q21) on revenue of RM65m (-34% q-o-q, -19% y-o-y), as tin prices took a further hit in 3Q22 due to weak market sentiment, despite the higher production output.
• Malaysia Smelting Corp’s mine managed to increase its average daily mining output to 11mt/day (from 8mt/day) in 2021. In 1Q22, although output fell to 9.5mt/day due to COVID-19 disruption, it has rebounded back to 11.1mt/day currently and will continue to jump to 12mt/day by end-22 with the utilisation of new technology and exploration of new deposits.
• With the new mining area from Asas Baiduri (ABSB), Malaysia Smelting Corp is expected to enhance its mining output to over 15/mt day (boost earnings by around 20%) in the next 2-3 years.

Full Utilisation of the New Plant Will Help to Improve Margins in 2023

• Smelting was pressured by higher smelting cost (energy, fuel, reductant) coupled with declining tin prices. The Pulau Indah plant is also still undergoing rebricking (supposed to be completed in 3Q22), which impacted production accordingly. This was due to a logistical delay in obtaining specialised fire rated furnace bricks. However, once the rebricking is completed, Malaysia Smelting Corp can allocate higher capacity and achieve a good balance between smelting of third-party ore and intermediates, which will improve margins.
• There has been an increasing inflow of external tin ores for toll smelting activities lately as compared with smelting Malaysia Smelting Corp’s own tin intermediates, which typically commands higher margins. With full commission, Malaysia Smelting Corp expects higher operational efficiency to boost margin.

Tin Prices Poised for a Strong Rebound

• Given the weak market sentiment, LME tin prices have retraced to US$21,724/mt (average price year-to-date US$32,000/mt, still well above Malaysia Smelting Corp’s cash cost of around US$16,000/mt). While the tin market is still in deficit structurally, tin prices remain sluggish as sentiment is expected to remain fragile in the near term given the volatile macro environment.
• China’s gradual lift of its lockdown will help to support prices ahead. In the long run, we believe tin prices will stay higher than historical average (>US$18,000/mt), backed by structural supply shortage and the decarbonisation agenda. Inventory at warehouses still remain low with Shanghai Futures Exchange (ShFE) stocks declining to around 1,792mt in September (-59% q-o-q).

Tin Prices Expected to Rebound as Supply Constraint Worsens

• The world's top tin exporter, Indonesia, is reviewing its local industry readiness if it were to implement a ban on tin exports, which it has already implemented on some other metals such as nickel. Note that last year, its president has also indicated that the country may potentially stop tin exports by 2024. This is part of its efforts to attract investment into the resource processing industry.
• While we believe the ban will take some time to be implemented as Indonesia needs to prepare adequate investment for the local industries to be ready to absorb the tin ores, this policy will definitely pressure the ongoing tin supply shortage and push tin prices further.
• Note that Indonesia only consumes 5% of its tin metal production so in order to completely ban its tin export, the country will need to prepare the local industries to be capable of processing the remaining 95% of its tin.

Malaysia Smelting Corp – Earnings Forecast Revision & Recommendation

• We cut our 2022-24 earnings forecasts for Malaysia Smelting Corp by 31%/4%/3% to reflect the prolonged impact of rising inflationary pressure and the delay of Pulau Indah full utilisation.
• Maintain BUY on Malaysia Smelting Corp with a lower target price of RM2.42 (9x 2023F P/E, pegging close to -1 standard deviation to its 5-year mean P/E). Based on our analysis, every US$2,000/mt change in our tin price assumptions would affect Malaysia Smelting Corp's earnings by about 10% a year.

Source: UOB Kay Hian Research - 22 Nov 2022