Kuala Lumpur Kepong Berhad (KLK)?s 1Q17 Core Net Profit (CNP*) of RM341m came in within expectations at 29% of consensus and 30% of our forecast. No dividend was announced, as expected. We maintain our FY17-18E earnings at RM1.15-1.17b. No change to our MARKET PERFORM call and TP of RM26.00 based on 24.0x Fwd. PER on CY17E EPS of 108.4 sen.

1Q17 in line. KLK?s 1Q17 CNP of RM341m came in within expectations, making up 29% of consensus RM1.17b and 30% of our RM1.15b forecast. No dividend was announced, as expected. FFB production at 1.04m metric tons (MT) was also in line, making up 27% of our full-year expectation.

Upstream boost. YoY, CNP was flat (-1% to RM341m) as upstream operating profit rose 59% on the back of higher CPO prices (+38%) despite flat FFB volume (-1%). This fully offset the drop in Manufacturing core operating profit (-45% to RM68m) with margins falling to 2.9% (from 7.0%) due to higher input cost of crude palm kernel oil (CPKO), as PK prices jumped 84% to RM2,648/MT. QoQ, CNP improved 12% as upstream operating profit nearly doubled (+90% to RM422m) on higher CPO prices (+9%) and volume improvement (18%). However, Manufacturing core operating profit softened 7% as core operating margin continued to decline to 2.9% (from 3.4%) as PK prices rose +12%.

Expect stronger 1H17. In line with our short-term positive outlook on the sector, we expect KLK to report solid 2Q17 earnings supported by the upstream segment, thanks to high CPO prices (YtD: RM3,283/MT), though seasonally weaker production may cap price upside. Meanwhile, expect thin margins in the downstream segment to continue, as PK prices are only likely to correct in tandem with CPO prices in 2HCY17. Note that despite the cancellation of the MP Evans takeover bid, we would not be surprised by further M&A moves by KLK in 2017 as the event had shown their appetite and capacity for expansion.

Maintain FY17-18E CNP at RM1.15-1.17b as we deem 1Q17 earnings in line with our forecasts.

Reiterate MARKET PERFORM with unchanged TP: RM26.00 based on Fwd. PER of 24.0x applied to unchanged CY17E EPS of 108.4 sen. Our Fwd. PER of 24.0x implies mean valuation which we think is fair as KLK?s short-term positive upstream outlook is offset by the relatively soft downstream prospect. Sustained strength in CPO prices could provide additional earnings upside, while a recovery in crude oil prices should help improve downstream product demand. Risks include extended drought impact heading in early 2017 and earlier-than-expected correction in CPO prices.

Source: Kenanga Research - 15 Feb 2017