Post our recent conference call with KLK, we maintain our stable outlook with steady earnings recovery well reflected in the market. FFB production recovery is well in line with our expectations, while Oleo segment should see margin improvement in line with the prospect of cheaper inputs. No change to our FY18-19E CNP of RM1.15-1.22b. Maintain MARKET PERFORM with unchanged TP of RM25.00.

Drought recovery, planting progress. Management noted that the effects of 2015 droughts have largely passed KLK estates, and expect to see FFB production on a rising track at 5-6% in FY18. However, the growth would be felt more in 2H18 as the current spate of heavy rains has slowed harvesting activity and could weaken OER due to high water content in the palm fruit. Longer term, with the conclusion of their (and other large planters’) joint High Carbon Stock (HCS) study, KLK has lifted its self-imposed planting moratorium and hopes to gradually resume planting at its Liberian area in line with the latest sustainability guidelines. Nevertheless, with the slower pace of planting, we expect only modest FFB growth in the coming years.

Oleochemicals improving. With Jan 2018 palm kernel (PK) prices down 34% to c.RM2,400/MT, we expect lower input cost to improve downstream margins. While the recent suspension in Malaysian export tax may not result in an immediate demand effect, we think, in combination with the uptrend in crude oil prices, demand for oleochemical products should remain consistent in the medium term. Accordingly, management expects their downstream businesses to see better contribution in FY18 on the back of internal improvements and lower PK prices.

Status quo on Other segments. We understand that KLK’s smaller segments such as Property, Rubber and Farming have stable prospects with no immediate expansion plans. Despite good Farming segment performance in FY17, management notes that performance is seasonal and dependent on wheat price trends, and expects minimal surprises ahead from the business. Similarly, Property performance is expected to remain slow due to the industry-wide property slowdown. As for Rubber, rubber prices have recovered to c.RM8.00/kg recently; the company noted that this was also due to higher cost and does not expect changes in its rubber planted area going forward.

Maintain FY18-19E CNP at RM1.15-1.22b with an unchanged FFB growth outlook of 6% (in line with the sector’s 8%).

Reiterate MARKET PERFORM with unchanged TP of RM25.00 based on an unchanged CY18E EPS of 109.2 sen applied to Fwd. PER of 22.9x. We maintain our mean valuation basis in line with average FFB growth prospects. While we expect to see recovery in downstream segment margins, the lower CPO price outlook could offset potential gains from higher FFB production and better downstream contribution. We maintain our MARKET PERFORM call on KLK, with potential catalyst being KLK reviving its appetite for M&A that was demonstrated in late 2016 with its attempted MP Evans takeover.

Source: Kenanga Research - 05 Feb 2018