We continue to be positive on PMETAL as we expect further earnings growth on higher USD/MYR and aluminium price appreciation supported by strong Asia ex-China demand. Margin expansion will continue as the company sees full production volume at its new smelter and increases high value alloy production volume. We upgrade FY17E CNP by 13% to RM519m. Maintain OUTPERFORM on PMETAL with higher TP of RM2.15 (from RM1.79).

Bonus from USD appreciation. Aluminum prices recovered strongly in 2016, at +16% to USD1,733/metric ton (MT) and was even higher after conversion at +21% to RM7,775/MT. Looking ahead, we expect 2017 USD aluminum prices to stabilize at the USD1,600-1,800 level with an average of USD1,700/MT. Meanwhile, we believe PMETAL will benefit from the recent appreciation of the USD as we gather that the bulk of its revenue is USD-denominated while only c.30% of its costs (alumina) is denominated in USD, with the balance denominated in CNY (carbon anodes) or RM (electricity, transport, labor, etc.).

Demand outlook still positive. Global demand has steadily increased in 2016 to 4.90m MT as of Oct 2016, on par with production figures which have been on a downtrend due to the closure of inefficient plants, particularly in China. Although Chinese supply/demand is still at a 287k MT at 1% production surplus, we note that Asia ex-China demand deficit is far more substantial at 2.34m MT or a 7% deficit to production. We expect Asian players such as PMETAL to benefit from this trend, as international automakers such as Japan and Korea count among its major clients.

Margin to expand on stronger USD and plant. With the full commissioning of its new smelter at Samalaju, we expect PMETAL to continue improving its net margins in FY16-17E to 6.2-7.3% from 5.4% in FY15. We think there is still room for margin expansion in 2017, in view of: (i) USD appreciation, (ii) rising operational efficiency due to better full-year utilization, and (iii) increased volume of higher margin aluminum alloy products.

Upgrade FY17E CNP by 13% to RM519m as we update our USD/MYR assumption to 4.25 (from 4.10) and tweak our margin assumptions to reflect productivity improvements and higher alloy volumes. We also update our dividend payout assumption to 65% (from 45%) to reflect the average 3-year payout ratio, which we think is more appropriate after the inception of its quarterly pay-out policy.

Maintain OUTPERFORM with higher TP of RM2.15 (from RM1.79) based on higher Fwd. PER of 16.0x coupled with higher FY17E EPS of 13.4 sen post earnings upgrade. We update our applied Fwd. PER to 16.0x in line with previous trends of PER expansion due to capacity growth. This implies an unchanged valuation of close to +1.0SD. We continue to be positive on PMETAL as the stronger USD/MYR complements aluminum price recovery while margin expansion should continue with higher production volume and increased production of high-value alloys. PMETAL is our TOP PICK for 1QCY17.

Source: Kenanga Research - 06 Jan 2017