We recently organised a conference call for investors with SLP Resources (SLP) to get an update on the Covid-19 impact and its 2020 outlook. While the lower resin cost and a weaker RM are a boon to SLP’s profit margins, we expect the overall weaker demand amidst Covid-19 to weigh on earnings. We slashed our 2020-22E EPS by 14%- 21% and cut our TP to RM0.40 (from RM0.46). At a 16x 2020E PER, the valuation looks demanding. Maintain SELL.

Operating at <50% Production Capacity During MCO Period

The Covid-19 pandemic is having an unprecedented impact on SLP’s dayto-day operations. With approval from the authorities, SLP has been running its operations at a c.42% production capacity during the Movement Control Order (MCO; vs. 62% in 4Q19), as SLP’s products are part of the essential goods supply chain. We estimate that >85% of SLP’s plastic packaging and polymer products are essential items used in the hygiene and food & beverage sectors, except for the fashion bags and poly-film for cement paper sacks. We are comforted to learn that stricter measures and enhanced screening have been put in place to ensure the basic health and safety protection of the workforce; its existing workforce is also divided into 3 groups, working on staggered shifts.

Anticipating a Bleak Revenue Picture as Covid-19 Takes Hold

To recap, SLP’s 2019 revenue fell by 11% yoy to RM167m, dragged down by lower sales from both the domestic (-16% yoy) and export (-8% yoy) markets. We gather that SLP’s customers were adopting a ‘wait-and-see’ stance, in anticipation of lower selling prices from the softer resin cost. We estimate that SLP’s revenue will contract by 25% yoy in 2020E, as we expect the MCO to drag on its 1H20 revenue even further, while softer consumer spending does not bode well for the 2H20 outlook either.

Export Demand Will Not be Spared, We Believe

The export market contributed to 60% of SLP’s 2019 revenue (Fig 4). Although SLP shared that there has not been any drastic reduction in export demand, the Covid-19 disruption has delayed a week’s shipment to SLP’s key export customers. In our view, export sales will likely not be spared from the prospect of a global recession moving forward.

Potentially Affected by a Challenging SME Landscape

Notably, management pointed out that >90% of the Group’s customers are Small-to-Medium Enterprises (SME) during the conference call. According to a NST article, most SMEs are struggling to stay afloat during this challenging time. We learnt that one of SLP’s long-term customers had already requested for an extension of payment terms, and in our view, the weakened economic climate may encourage other customers to follow suit. Hence, we think there could be further downside risks to SLP’s earnings if the Covid-19 pandemic were to continue into 2H20.

A Blessing in Disguise From China

On a brighter note, we learnt that SLP has received inquiries from China for breathable films used for the production of personal protective equipment (PPE). This is to address the global shortage of PPE for medical professionals and testing kits to combat the Covid-19 pandemic. Since the launch of the diaper backsheet business has been delayed, we gather that SLP intends to channel this additional capacity to produce PPE. Management guided that the margins are thinner than for the breathable films for diapers. We have not factored in any contribution from the PPE segment in our 2020-22 earnings forecasts as the deal is still at a preliminary stage.

Still Benefitting From Low Resin Cost and Weaker RM

Although the cheaper resin prices and weaker RM (vs. US$) augur well for SLP’s long-term margins, we estimate the 2020E EBITDA margin to shrink slightly to 17.9% (vs. 2019 EBITDA margin: 18.4%), due to weaker sales and a higher proportion of lower-margin sales, likely to be exacerbated by lower production efficiency and higher operating costs during the MCO period. The lower resin costs and better cost control had contributed to a 1.4ppts yoy increase in the 2019 EBITDA margin.

Solid Balance Sheet; Attractive Dividend Yield of 7%

SLP was in a net cash position of RM74m, with zero debt as of Dec 2019. We believe SLP’s strong management team and solid balance sheet should be able to weather a temporary economic downturn. SLP has adopted a stable dividend policy: steady DPS of 2.0sen between 2010-14, followed by 4.5sen between 2015-18. It then increased the DPS to 5.5sen in 2019. Management guided that it intends to maintain this dividend trend to instil investor confidence in the company. As such, we increase our DPS assumption to 5.5sen (from 3.5-4.7sen) for 2020-22E, translating to an attractive dividend yield of 7%.

Cut 2020-22 EPS Forecasts by 14-21%; Maintain SELL

We cut our 2020-22 core earnings forecasts by 14%-21%, mainly to account for weaker top-line growth, on top of the revisions made in our strategy report given the weak global economic growth. Thus, we cut our TP to RM0.40 (from RM0.46) based on an unchanged 2020E target PER of 8x. We peg the target PER at 1SD below its 12-year mean PER, in view of the heightened uncertainty in the external environment and softening global demand. At a 16x 2020E PER, the valuation looks demanding, and so we maintain our Sell rating. Upside risks include an improvement in the economic climate, lower resin costs and higher export sales.

Source: Affin Hwang Research - 14 Apr 2020