Johore Tin (Johortin) announced on Bursa Malaysia yesterday that it will undertake a rights issue of 23,326,333 new ordinary shares of RM1.00 each together with 23,326,333 free detachable warrants on the basis of one rights share and one warrant for every three existing RM1.00 shares in the company, held at an entitlement date to be determined later.

Announces rights issue with detachable warrants. The issue price of the rights shares will be determined at a later date but at an indicative issue price of RM1.10 per share, representing a 27.4% discount to the theoretical ex-rights price of Johortin shares of RM1.51 based on a 5-day WAMP.  The company's major shareholders will fully subscribe for all the shares while the proposed rights issue will raise a minimum of RM25.7m and a maximum of RM60.9m (assuming that the warrants are exercised at RM1.51 each, but we understand that their exercise price will be set at a later date). The warrants will be exercisable at any time within 5 years commencing on and including the date of issuance.

Allocation of funds. The group intends to expand its warehouse and factory and will be allocating RM15m for this purpose. It will also utilize another RM5m to purchase new machinery and equipment and set aside RM5.2m and RM0.5m for working capital and expenses for the proposed rights issue respectively. Under the maximum scenario (if all the warrants are exercised), the group intends to use the proceeds as working capital and to pay overhead expenses or bank borrowings, which will ultimately lower its overall interest cost.

Digesting Able Dairies (ADSB)'s earnings. We highlighted earlier that ADSB could potentially double its revenue once its new machineries and equipments are installed. We understand that the new factory will be used as a warehouse to store its raw materials and ready-made products. We expect minimal changes to its earnings this year as the fund raising exercise is only expected to be completed by 4Q12. Nonetheless, we expect full installation of new machinery and equipment and its new factory to be fully operational by 1H13. As management has guided that the new machineries and equipment could double its production capacity, we expect contributions from ADSB to be significantly higher in 2H13.

To launch evaporated milk product. We note that ADSB owns an evaporated milk making machine which it has yet to utilize. Management is looking to kick start the production line in FY13 upon completion of its new warehouse. It is currently negotiating with a few parties in Taiwan for long-term contracts. Assuming that the company produces evaporated milk at full capacity, ADSB could fetch RM4m revenue per month, bringing Johortin's total revenue close to RM50m. With a net profit margin of some 4-5% for evaporated milk, the company's bottom-line is expected to surge by RM2.0m-RM2.5m per annum. We have incorporated earnings of some RM1.5m from evaporated milk in the company's FY13 earnings forecast.

Sweeter contribution from its dairy business. After revising our earnings estimates, Johortin's FY12 and FY13 earnings are raised by 2.1% and 38.4% respectively, while our revenue forecast moves up from RM239.3m to RM362.5m for FY13. Despite nudging up our earnings forecast significantly for FY13, our EPS growth estimate is nudged up by a minimal 4.5% due to the immediate-term earnings dilution following the rights issue. For the sake of simplicity, we are assuming that the warrants will not be fully exercised until end-2015.

Balance sheet to get to net cash. We forecast that Johortin's balance sheet will get into a net cash position by end 2012 hence with the additional cash raised from the rights issue, Johortin's balance sheet will continue to remain net cash.

Maintain BUY. Subscribe to the rights. Giventhe higher liquidity and stronger earnings growth emanating from its dairy product manufacturing business, we see the counter coming into the radar of institutional investors going forward. As such, we think Johortin justifies a higher PE multiple for its dairy product manufacturing business. We are now valuing the stock at RM2.38 based on our sum-of-parts (SOP) valuation, premised on its FY13 earnings, with a 6.5x PER for its tin can manufacturing business and 10.0x PER (previously 8.0x PER) for its dairy product manufacturing segment (representing a 50% discount from its larger peers such as F&N and Etika). Note that our FV will remain unchanged even excluding rights and warrants as we have already diluted its earnings based on the enlarged share base. However, we have not diluted the earnings per share based on the full exercise of its warrants.

Source: OSK