• Promising earnings outlook though could be weighed by higher operational costs.

• The widen discount of CPO price against SBO price, weaker Ringgit and slower growth in Malaysian PO production to keep CPO price supported.

• KLK (BUY: TP: RM28.77) and IOI (BUY: TP: RM4.75) emerge as our ‘Top Pick’ for the big cap space while Sarawak Plantation (BUY: TP: RM2.85) is our best bet for the mid-cap.

• Maintain ‘OVERWEIGHT’ call on the sector with 2022 and 2023 average CPO price forecast of RM5,000/MT and RM3,500/MT respectively.

Encouraging YTD Performance.

A remarkable quarterly average selling price (ASP) of palm products realised drove plantation’s players revenue and earnings higher during the recent corporate earnings season. Earnings were pushed by higher ASP of palm products realised that negated the decline in production and a jump in operational costs. The average selling price realised of CPO improved significantly to RM4,378/MT – RM6,308/MT in 1Q22 from RM2,997/MT – RM3,885/MT in 1Q21 and RM4,007/MT – RM5,468/MT in 4Q21 respectively.

Earnings Outlook Promising amid Higher Operational Costs.

Although the prospects of plantation sector earnings could be capped by higher operating costs i.e., an increase in minimum wage, higher fertiliser price, energy and recruitment costs, to name a few – we are of the view that these costs pressure will be mitigated by higher ASP realized of CPO which is expected to be higher YoY in 2022, to be aided by a seasonally higher palm oil (PO) production in 2H22 that should see the plantation segment fetching better margins. This would negate or partially cushion earnings volatility in the downstream segment amid the expected moderation in CPO prices in the 2H22.

Inventory Drawdown in May, but…

Malaysia’s palm oil stocks dropped to 1.52m tonnes in May (-7% MoM; -4% YoY) on higher exports thanks to Indonesia’s export ban which has shifted demand to Malaysia prior to Muslim festivities in April and May. Malaysia’s stockpiles will gradually pick up from June onwards post Indonesia export ban as there will be abundant of PO stocks in Indonesia ready for exports. We expect PO stock to end this year at 1.7m tonnes (2021: 1.58m tonnes) with production and export expected to reach 19.15m tonnes (2021: 18.12m tonnes) and 16.38m tonnes (15.56m tonnes) respectively.

Near-term CPO Price Support in Sight.

Downside risk to CPO price in the short-to-medium term will be cushioned by 1) the strengthening of competing oil prices i.e., soybean oil (SBO) price, given prevailing tight supply situation of global edible oils supplies especially sunflower oil (prolonged Russia-Ukraine conflict) – which has widened price differential between SBO and palm oil (PO), 2) a hiccup in soybean supply and inventory from South America due to weather issues and biofuel policies, and 3) the growing risk of PO supply disruption due to unresolved labour shortage issue in Malaysia that may hinder planters in Malaysia to optimise their production and hence, below potential PO supply. This would only be resolved at the earliest in 3Q22 or by end of this year, in our view. Our base case scenario is for CPO prices to continue trading at a range of RM4,000/MT-RM5,000/MT in the short-to-medium term – due to the factors discussed earlier – before moderating in the later part of 3Q22 which coincides with higher PO production months, further aided by rising global supplies of oilseeds. As such, maintain our average CPO price forecast of RM5,000/MT and RM3,500/MT for 2022 and 2023 respectively.

Maintain OVERWEIGHT Call on the sector.

At present, any price upswing would provide trading opportunities for plantations stocks, especially companies with high leverage on CPO price. Against a backdrop of share price volatility, our preferred stocks would be KLK (BUY: TP: RM28.77) and IOI (BUY: TP: RM4.75) for the big-cap and Sarawak Plantation (BUY: TP: RM2.85) for the mid-cap space which derive their earnings mostly from oil palm business. In the event of CPO price reversal, IOI and KLK would be our best bet given greater earnings resilience, strong fundamentals and strong organic growth. Maintain OVERWEIGHT recommendation on the sector.

Source: BIMB Securities Research - 1 Jul 2022