We have lowered our FY15E CPO price by 12% to RM2200/MT (previously RM2500/MT) mainly due to lower Brent crude oil assumption. Additionally, we have also trimmed our assumption for soybean oil (SBO) and increase our estimate for USD Index. We think that cost of production should decline as planters implement cost-saving measures, while fertiliser cost decline is likely to lag the decline in crude oil due to advance buying by planters. Nearterm CPO prices could be supported by declining inventories and lower soybean production, although upside is capped as we expect to see a weaker 4Q14 earnings season. However, we believe downside is also limited as the lower CPO prices are already priced into planters’ share price. As a result, we maintain our NEUTRAL call for the plantation sector with lower TP for all planters and downgraded IOICORP to UNDERPERFORM with new TP of RM4.40

(Old TP: RM4.95). Other stocks recommendations are all maintained. Our top pick is SIME (OP; New TP: RM9.92; Old TP: RM10.10) due to potential spin-off exercise within its business divisions. Maintain MARKET PERFORM on KLK (New TP: RM21.50; Old TP: RM23.80), FGV (New TP: RM2.30; Old TP: RM4.00), PPB (New TP: RM15.26; Old TP: RM15.60), TSH (New TP: RM2.18; Old RM2.27), IJMPLNT (New TP: RM3.30; Old TP: RM3.50), TAANN (New TP: RM3.70; Old TP: RM4.55), UMCCA (New TP: RM6.68; Old TP: RM7.15) and CBIP (New TP: RM2.05; Old TP: RM2.43). Maintain UNDERPERFORM on GENP (New TP: RM9.20; Old TP: RM9.55).

3QCY14 results see more disappointments. Out of eleven stocks under our coverage, five companies (SIME, IOICORP, KLK, FGV and UMCCA) reported earnings which came in below consensus estimate. Key reasons behind the miss are lower than expected CPO prices and weaker than expected downstream margin (specifically for IOICORP, KLK and FGV). On the positive side, IJMPLNT’s earnings came in above expectations due to its higher-than-expected FFB growth of 41% YoY in 1H15 while TAANN’s timber division performed better than expected. PPB benefited from improved margin in its own Grains, Flour and Feed Milling (GFF) division. Companies that met expectations are GENP, TSH and CBIP.

Average 2015 CPO price reduced to RM2200/MT. We have lowered our CPO price by 12% to RM2200/MT (previously RM2500/MT) mainly due to lower Brent crude oil assumption. Additionally, we have also trimmed our assumption for soybean oil (SBO) and increase our estimate for USD Index. Despite the recent Brent crude oil decline of 40% to ~USD60/barrel, we wish to highlight that the demand from biodiesel segment contributed to about 10% of total demand for palm oil historically and this explained why our CPO price estimate reduction is only at 12%. We maintain our 2014 CPO price assumption at RM2,400/MT as it is close to YTD CPO spot price of RM2,432/MT (note that during the 3QCY14 result, we have trimmed our 2014 CPO price to RM2400/MT from RM2500/MT previously.

But we believe cost of production should decline as well. As CPO price is likely to stay low, we think that planters are likely to implement cost saving measures and increase its harvesters productivity to reduce their cost of production. In addition, we believe that transportation cost should decline YoY in 2015 in line with low Brent crude oil prices. Note that planters are using commercial petrol and diesel (in which prices have declined according to international price). These potential cost-saving measures are likely to cushion earnings impact from lower CPO price and hence overall earnings cut is limited to average 12% for planters under our coverage. Fertiliser cost to decline at a slower rate. Although fertiliser prices are tied to crude oil performance, we gather that fertiliser cost could see some lag effect of about 3 - 9 months before seeing any significant price declines as producers tend to secure a large portion of their fertiliser in advance to meet planting schedules. Hence, we think planters are only likely to see the impact of lower fertiliser cost after 2H15.

Source: Kenanga