Heng Huat Resources Group (Heng Huat) is a Penang-based company which is mainly involved in integrated manufacturing of coconut and oil palm biomass and value-added products. We are positive on the company’s prospects because of: (i) its significant 47% market share in the biomass industry, (ii) high earnings growth potential with FY14E-FY15E earnings growth expected at 18%-32%, (iii) profitable mattress manufacturing business to drive future earnings, and (iv) dividend outlook comparable to the FTSE Bursa Malaysia Small Cap (FBMSC) Index. Hence, we ascribe to Heng Huat a fair value of RM0.53, based on Fwd. PER of 7.7x on FY15E EPS of 6.9 sen. Our target PER is based on a 25% discount to the FBMSC due to its smaller market cap.

Pioneer in biomass manufacturing industry. Heng Huat is an integrated manufacturer of coconut and oil palm biomass and value-added products which was established in 2007. It converts oil palm and coconut biomass waste into fibre, fibre sheet, and briquettes. Heng Huat commands 47% market share in the biomass materials industry, which we believe is the largest within this industry. Segmental-wise, the biggest earnings contributor is Oil Palm EFB Fibre (Palm Fibre) segment (62% of Group Gross Profit (GP)); followed by Mattress & Related Product (Mattress) segment (20% of GP); Coconut Fibre, Coconut Peat and Coconut Fibre Sheet (Coconut Fibre) segments (16% of GP); and Briquette segment (2% of GP).

Good growth in Mattress division post-acquisition. In 3Q12, the Group ventured downstream and commenced its mattress manufacturing business under the brands of “Fibre Star” and “Xiong Mao”. In addition, Heng Huat is also the OEM of fibre mattress for several local brands. Within the 1st year of acquiring the business, Heng Huat Mattress division achieved GP of RM3.3m in FY12 which grew 91% to RM6.3m in FY13. We are positive on this as it indicates that the products have been wellreceived so far, perhaps due to the benefits of natural fibre mattress which are well ventilated, provide good spinal support and are also anti-dust mites. As a result, we think the Mattress division has good prospects since revenue is expected to grow significantly due to good demand seen in both Malaysia and China because of increasing urbanization and rising affluence of the general population.

Expecting FY14E earnings growth of 18% followed by another 32% in FY15E. Key driver behind the FY14E earnings is expected to be the Mattress division for which we expect its GP to grow 20% to RM7.6m while other segments’ GPs are expected to be largely stable. For FY15E, the key earnings driver is still expected to be the Mattress division for which we expect its GP to grow 47% to RM11.1m.

Dividend yield of 2.2% comparable to FBMSC. In its prospectus, Heng Huat mentioned that it envisaged a dividend payout ratio of up to 20%. Hence, we expect Heng Huat to deliver dividend of 1.0 sen in FY14E which represents a dividend yield of 2.2%. This is better than its peers which did not pay any dividend in FY13. Against FBMSC FY14E dividend yield, Heng Huat’s 2.2% is comparable to FBMSC’s 2.0%.

FY13 Core Net Profit (CNP) decline is not a major concern as it was due to high depreciation charges while EBITDA is still growing. Although Heng Huat’s CNP declined 26% to RM9.1m in FY13, we wish to highlight that FY13 EBITDA actually grew 1% to RM18.6m. Hence, we are not very concerned on the lower CNP as it is mainly due to higher depreciation cost due to new acquisitions in the Mattress and Briquette segments, while the business cash flow actually improved.

Source: Kenanga