Sime Darby’s 1Q20 core PATMI of RM307m (-13.5% QoQ, +55.8% YoY), was above HLIB (31.3%) and consensus (31.6%), driven mainly by strong industrial equipment demand from Australia’s mining sector and China’s infrastructure sector. The industrial segment is expected to remain on a growth trajectory, supported by Australia, China and potentially Malaysia. Increased FY20-21 earnings by 24.8% and 18.6% and introduce FY22 earning at RM1.2bn. Upgrade to BUY (from Hold) with higher TP: RM2.70 (from RM2.35), based on 10% discount to SOP: RM3.00, with attractive dividend of 12 sen (5.2% yield).

Above expectations. Core PATMI of RM307m for 1QFY20 (-13.5% QoQ, +55.8% YoY), achieved 31.3% of HLIB’s FY20 forecast and 31.6% of consensus, driven mainly by the continuous strong revenue and earnings growth of Industrial segment especially from Australia’s mining sector as well as China infrastructure spending by the government. We expect sustainable earnings in coming quarters.

Dividend. None. Usually Divvy in 2Q and 4Q.

QoQ. Core PATMI declined by 13.5% to RM307m, mainly due to the yearly dividend investment income from BMW Malaysia accrued in previous 4QFY19, amounting to RM135m. Excluding the dividend, core PATMI would have improved by 39.5% QoQ, driven by Industrial segment.

YoY. Core PATMI improved by 55.8%, driven by both Industrial segment (higher sales and margins in Australia and China) and Motor segment (higher sales volume in China with improved margins following from lower discounting program).

Industrial. Despite the drop in coal prices, management continued to guide for strong demand for industrial equipment in Australia mining sector as the mining operators are still making good profit at current level. Likewise, the demand for construction equipment is expected to remain sustainable in China from government stimulus through infrastructure spending to support its economy. In Malaysia, the anticipated upcoming mega projects would boost the demand for heavy equipment. Order book for industrial segment rose QoQ to RM2.5bn (from 2.4bn) as at end 1QFY20, driven mainly by Australia and China market. The completion of Gough group acquisition (Caterpillar dealership in New Zealand) in Sep 2019 would also provide a new earnings base to the group.

Motor. Despite the on-going trade war concerns and cautious consumer sentiment, China market has outperformed expectations with higher sales and margins. Management is guiding for sustainable earnings in China given the emergence of its middle class segment. While Malaysia market remained muted, Inokom has started its BMW export program into Philippines in Nov 2019, and subsequently to Vietnam.

Forecast. Increased earnings for FY20 by 24.8% and FY21 by 18.6%. Introduce FY22 core profit at RM1.2bn.

Upgrade BUY, TP: RM2.70. Following the positive earnings surprise and higher earnings forecast, we upgrade our recommendation to BUY (from Hold) with higher TP of RM2.70 (from RM2.35), based on 10% discount to SOP of RM3.00. Sime Darby is expected to continue leveraging on its industrial segment especially on Australia mining and China infrastructure sector, while potentially benefitting from upcoming mega projects in Malaysia. Sime Darby is also seen as a proxy to the potential trade agreement between US and China. We have projected dividend of 12 sen for FY20- 22, translating into attractive dividend yield of 5.2%.

Source: Hong Leong Investment Bank Research - 3 Dec 2019