INVESTMENT MERIT

We recommend a “Trading Buy” on SOP with a fair value of RM4.85 based on applied PER of 12.0x. SOP is trading at bargain valuation of FY18E PER of 9.4x despite its sizeable planted area and young estate age-profile. We think longterm prospects are good with FFB production growth of FY18E of 7% YoY. We also like SOP for its potential margins recovery from FY16 low and all-in cost of production of c.RM840/MT, below or on par with large peers.

Undervalued stock. At a bargain valuation of forward PER of 9.4x on FY18E EPS of 40.2 sen, we believe SOP is undervalued, as the stock is trading below -0.5SD its 3-year mean Fwd. PER of 14.6x. This is unjustified given its positive FFB growth and yield outlook, combined with its integrated business model whereby SOP operates one of the only five refineries in Sarawak. We estimate SOP accounts for 32% of the state’s total refining capacity. As such, in our view the stock has ample room to re-rate higher considering that the valuations of its integrated peers such as IOICORP, KLK and GENP are presently trading at 22-26.2x Fwd PER – though we would only expect parity if SOP further develops its downstream capabilities and expands upstream to reach a scale closer to the larger players.

Higher FFB yields. We forecast FY17-18E FFB output to grow by 36-7% to 1.37b-1.47b MT lifted by higher FFB yields as highlighted above. Our FY17E output growth is supported by industry-wide production recovery, favourable weather and additional contribution from SYOP. Meanwhile, FY18 forecast is premised on rising contribution from maturing hectarage. Overall, we expect to see FY17-18E revenue rising by 2-4% to RM4.50b-4.68b. Despite the high quantum of FY17 FFB growth, we note that revenue has not increased as much due to a higher base after its refinery came onstream and boosted FY14-15E revenue by 68-28%. Furthermore, the higher internal FFB reduced buying requirements for the refinery, resulting in the lower share of external purchases.

Flat margins as higher FFB output offsets softer CPO prices. We expect net margins recovery from the FY16 low of 3.0% to 4.9% for FY17-18E, respectively. This is supported by lower production cost due to higher FFB yield leading to cost efficiency. Our model indicates that SOP achieved a low all-in cost of production at c.RM840/MT in 2016, despite its young age profile. We estimate FY17 CPO price of RM2,600/MT, but lower assumption of RM2400/MT for FY18 on softer 2018 CPO prices outlook due to over-supply in production, given that most planters in Malaysia and the regions could see recovery from severe drought seen in 2015-2016. Overall, we expect FY17-18 net profit to grow by 66%-4% to RM220m-230m.

Trading Buy with fair value of RM4.85 based on an applied PER of 12.0x on FY18E EPS of 40.2 sen, below its historical 3-year mean Fwd. PER of 14.6x. Our undemanding valuation implies a 50% discount to our plantation universe PER of 23.1x given SOP’s smaller profit base and market capitalisation of RM2.16b (vs. sector average of c. RM8.19b). We believe our discount is fair considering its belowaverage FY17-18E PAT margins of 4.9-4.9% against downstream players’ average of 7.4%, as well as its smaller planted land bank of 87.7k ha against the integrated players’ average planted land bank of 145.9k ha. In spite of this, our valuation is still attractive providing a total return of 29.8% (upside: 27.6%, dividend yield 2.1%).

Source: Kenanga Research - 25 Jan 2018