After our recent meeting with management, we are positive that the lower hedging cost for raw sugar should lead to a sequentially stronger 4Q17 net profit. As the global raw sugar price is projected to remain low over 2017/2018, management has locked in 50% of its raw sugar requirement at USD14-16 cts/lb for 1H18, which could extend the potential earnings recovery into FY18. Nevertheless, we are cautious over MSM’s export sales upon the completion of the Johor refinery due to its thin margin and competitiveness in the global market. We raise the TP to RM3.70, but maintain our SELL rating.

Improvement in Earnings Outlook

MSM posted a net loss of RM46m for 9M17 due to a higher average raw sugar cost (USD 18-20 cts/lb vs. FY16: USD 16-17 cts/lb). But, we understand that the higher-cost inventory is trending down. Management has fully locked in its cost at USD14-16 cts/lb for 4Q17 and we expect a stronger 4Q17 sequentially. We forecast that profits can be sustained into FY18 as management has fully covered 50% of the group’s total raw sugar requirement for 1H18 at USD 14-16 cts/lb.

Favourable Global Sugar Price Outlook

Based on the United States Department of Agriculture (USDA) report in Dec. 2017, the global raw sugar production for 2017/2018 is projected to rise 5% to almost 180m mt compared to a consumption of 170m mt. The record production in response to a production deficit in the past 2 years will likely lead to a lower global raw sugar price at around USD14-16cts/lb in FY18, as reflected by the forward price of NY sugar No. 11.

Potential Earnings Drag From the Johor Refinery

The new refinery with a capacity of 1m mt (vs. current capacity of 1.25 m mt) is expected to begin production in June 2018 and it will be mainly for the export market. We believe that MSM’s gross margin will be diluted as the export margin (RM150/tonne) is much lower than the domestic margin of (RM1,000/tonne). We assume the depreciation and interest expenses for the refinery will weigh on MSM’s earnings, especially for FY19E.

Increase TP to RM3.70 But Maintain SELL

We reduce our earnings forecasts for FY18-19 by 8-11% to adjust for the ASP and interest expenses. But we now apply a higher PE target of 20x (from 16x) to reflect the improvement in the earnings outlook, and raise the TP to RM3.70. We still maintain our SELL call as we expect limited growth in FY19. Upside risks: i) favourable hedged raw sugar prices, ii) sharp increase in sugar ceiling price, and iii) stronger-than-expected demand.

Source: Affin Hwang Research - 18 Jan 2018