We initiate coverage on Press Metal Berhad (PMETAL) with an OUTPERFORM rating and Target Price of RM8.87 based on a target Fwd. P/E of 14x on FY15E EPS of 63.4 sen. Our P/E is based on the FBM Mid 70 Index (FBM70) FY15E Fwd. P/E of 14x. We like PMETAL due to: (i) bullish aluminium price outlook leading to strong earnings growth, (ii) industry-leading margins due to structural cost advantage, (iii) tax exemptions due to its Pioneer Status and Investment Tax Allowance, and (iv) good long-term expansion potential as SCORE development continues. FY14EFY15E core earnings are estimated to be RM215m-RM322m based on aluminium prices assumption of USD1860/MT-USD2100/MT. Trading at 9.5x FY15 PE with decent dividend yield of 3.2%, valuation looks attractive, more so considering its strong FY14EFY15E earnings growth of 70%-50%.

Expecting eightfold jump in upcoming 3Q14 earnings. We expect to see more than 8x increase in 3Q14 CNP vs 3Q13 CNP of RM8.6m. This is partly due to the low base effect after a temporary plant closure due to a state-wide power outage in mid-2013. With operations fully restored and new contribution from the Samalaju smelter, we expect the huge earnings improvement trend to persist into 4Q14. Hence, we forecast FY14E CNP to rise 70% to RM215m which should be positive to PMETAL’s share price.

Positive mid-term outlook as we are bullish on aluminium prices. Our aluminium price forecast of USD2100/MT in FY15E (+13%) should result in strong earnings growth of +50% to RM322m. We are bullish on aluminium prices due to growing demand in the automotive sector and emerging markets, while global production is declining. We believe the recent aluminium price decline is temporary, as underlying fundamentals remain supported by steady Chinese manufacturing activity and the global economic recovery; hence aluminium prices should improve in 4Q14 and increase to an average USD2100/MT in FY15.

Globally competitive margins due to structural cost advantage. PMETAL commands among the best EBIT margins in the industry at 9.3% in FY14E vs global peers’ average of 5.7%. The superior margin is due to the low cost of production arising from its competitive power cost, high-efficiency smelting technology and economies of scale. Its Power Purchase Agreement (PPA) should last another 22 years, leading to a long-term structural cost advantage over global peers. We estimate that cost/metric ton (MT) of production should decline another 16% in FY14E due to improved economies of scale.

To enjoy tax exemptions for next 9 years. With the Pioneer Status and Investment Tax Allowance of RM215m on its Samalaju and Mukah smelters, PMETAL enjoys tax exemptions which we believe should reduce effective tax to an estimated 15% annually (below the 25% statutory rate) for at least the next 3 years.

Good long-term growth outlook with SCORE development. We believe PMETAL’s long-term growth is secure for the next 10 years due to the abundant power resources scheduled for development in the SCORE region in Sarawak. We think PMETAL is likely to continue expanding once it secures additional power, and has ample room for expansion as it is currently using only one-third of its Samalaju landbank.

Source: Kenanga