1H16 core net profit of RM72.5m is above our and consensus expectations at 107% and 426% of estimates, respectively. The positive variance was mainly due to: (i) higher-than-expected margins, and (ii) lower-than-expected raw material costs and effective tax rate. Declared special dividend of 6.0 sen is above our expectation of 0.5 sen. Upgrade FY16-17E earnings by 85-93% to RM125.3-133.0m. Post-earnings upgrade, we maintain MP call with higher TP to RM1.69 (from RM1.23) based on higher valuations of +2SD FY17E PBV of 0.76x (from 0.58x).

Surpassed expectations. ANNJOO’s 1H16 CNP of RM72.5m came in above our and consensus expectations making up 107% and 426% of estimates, respectively. The positive variance was due to: (i) higher-than-expected margins from better margin product mix, (ii) lower-than-expected raw material costs, and (iii) lower-than-expected effective tax rate. We derive our CNP after stripping off reversal of inventories written down to net realisable value of RM19.3m and unrealised forex gain of RM5.7m. A 6.0 sen special dividend was also declared, surpassing our initial 0.5 sen assumption.

Results Highlights. 2Q16 CNP of RM90.3m improved six-fold QoQ from 1Q16 CNL of 17.9m, on the back of: (i) increase in manufacturing and trading revenue by 19.4%, and (ii) improvement in manufacturing division margin by 17.3ppt. This was mainly driven by the recovery of steel prices and ANNJOO’s improved cost structure. 1H16 CNP of RM75.2m increased 315% YoY underpinned by: (i) lower financing cost (-19.5%), and (ii) improved manufacturing (+10.5ppt) and trading margins (+5.7ppt) due to reasons stated above. We note that ANNJOO has pared down RM437m of debt in 2Q16 driving its net gearing down to 0.8x from 1.2x previously.

Outlook. We are turning positive on the outlook for the steel sector premised on several factors i.e. (i) China’s depleting steel inventory, (ii) closure of lossmaking steel mills in China, and (iii) China governments’ initiative in reducing steel production capacity coupled with its construction activity set to pick up from a slow quarter due to the rainy season previously. We expect our steel ASP assumption of RM2,000/MT to be sustainable due to fewer imports and less steel dumping activities from China in the mid-to-near term underpinned by the reasons above.

Upgrade FY16-17E earnings by 85-93%. Post-results, we upgrade FY16-17E earnings by 85-93% after adjusting for: (i) lower raw material prices (ii) a higher USDMYR rate of 4.1 (previously 4.0) which inline with our in-house target, and (iii) lower financing costs in view of pared down debt in 2Q16.

Maintain MARKET PERFORM with a higher target price of RM1.69. Postearnings upgrade, we increase our target price to RM1.69 (from RM1.23) based on higher +2SD FY17E PBV of 0.76x (previously mean of 0.58x) implying FY17E PER of 6.4x with an unchanged MP call. We believe our valuations is justifiable on the back of: (i) ANNJOO’s higher expected dividend yield of 4.3% (post special dividend) implying 28% DPR on our FY16 earnings estimates, (ii) pared down net gearing of 0.8x, (iii) ANNJOO’s flexible production method allowing them to adjust towards the lowest cost model by changing compositions of the raw materials depending on the raw material prices, (iv) capability to produce own billet and not relying on imports unlike other local steel players, (v) commencement of cut and bend service allowing ANNJOO to secure a wider range of projects, and (vi) the expected increase in steel demand locally in view of the pick-up of construction activities from mega infrastructure projects in FY17.

Risks include lower-than-expected steel selling prices, softer-than-expected steel demand, and higher-than-expected raw material costs.

Source: Kenanga Research - 16 Aug 2016