FY17 Results Briefing. We recently attended Hap Seng Plantations Holdings Berhad (HSPLANT)’s FY17 Results Briefing, which was well attended by c.30 participants. While operationally HSPLANT should maintain its consistency amidst a stable replanting program and on- going cost efficiency measures, we remain lukewarm in the near term on its proposal to acquire Kretam Holdings Berhad (KRETAM) given the negative immediate earnings impact, although management assured that it would maintain its minimum 60% dividend pay-out.

Further details on KRETAM deal. At the briefing, management shared their rationale and expectations on their proposed KRETAM transaction. Highlights include; (i) management re-affirmed their intention to maintain the listing status of KRETAM, which we note would mean a minimum 25% public shareholding spread, (ii) refinery utilization to improve by >2x to 52% inclusive of HSPLANT’s production, (iii) the close proximity of KRETAM and HSPLANT’s estates and mills, (iv) the good location and characteristics of the KRETAM estates, (v) management expressed confidence in improving yields in KRETAM given the quality of planting material and HSPLANT’s know-how in operating in Sabah, (vi) majority holding company Hap Seng Consolidated (HAPSENG) is allowed to vote in the EGM, with resolution requiring only simple majority, and (vii) management reassured that they intend to maintain >60% dividend pay-out ratio, although we note that quantum of dividend could be reduced should the acquisition lower HSPLANT’s bottom line.

But still short-term earnings dilutive. Despite increasing our forward earnings assumptions on KRETAM based on management guidance, we expect the deal to remain negative to HSPLANT’s earnings at least in the next 1-2 years, with potential to turn earnings neutral only by FY20. Summary of our projections are shown overleaf, assuming the minimum and probable maximum stake acquisition. Note that a higher final acquisition stake could lead to higher net earnings contribution, albeit at the risk of higher net gearing position. Long-term investors may be reassured that the deal would boost earnings over the long run, while also launching HSPLANT into the downstream manufacturing segment with its refinery and biodiesel plant included. However, short- term investors may turn wary in view of potentially sharp (up to 30% in FY18E) earnings drops.

Maintain FY18-19E CNP of RM118-120m as the final earnings impact will be unknown until the acquisition stake is confirmed.

Upgrade to MARKET PERFORM with an unchanged TP of RM2.30 based on unchanged Fwd. PER of 15.5x applied to average FY18-19E EPS of 14.9 sen. Our Fwd. PER of 15.5x implies a -0.5SD valuation basis which we think is justified by the potentially negative short-term earnings impact of the KRETAM deal, combined with the average FDY18-19E FFB production outlook at 6-2%. However, with the slight share price correction seen since the deal was announced, we think that market has adjusted its risk-reward expectations accordingly and thus we up our call to MARKET PERFORM (from UNDERPERFORM).

Risks to our call include: (i) better-than-expected FFB production, (ii) higher-than-expected CPO prices, and (iii) better-than-anticipated outcome on the KRETAM deal.

Source: Kenanga Research - 02 Mar 2018