We came away from PMETAL’s 2Q18 results briefing cum extrusion plant tour feeling positive on its long-term earnings outlook. However, in the short-term, the company is besieged with uncertainties arising from recent events such as US sanctions on Rusal and partial closure of Brazil’s Alunorte plant. No change to FY18-19E CNP. Maintain MARKET PERFORM with an unchanged TP of RM5.00.

New extrusion capacities ready. PMETAL recently expanded its extrusion capacity, in China to 160k MT from 120k MT, and in Klang to 50k MT from 40k MT. The new facility in China has been operational since Mar 2018, while the new Klang facility was commissioned a few weeks ago. With the new capacities, the utilisation rate is currently running at c.70% (from >80% previously). Management has indicated that it would likely take 8-12 months to ramp up production to previous levels. Nevertheless, we note that the incremental bottom-line contribution from this is minimal at c.1%. The segment currently contributes c.10% of the group’s PAT.

High-value products to boost profit. Currently, PMETAL is in the midst of expanding its wire rod capacity by an additional 50k MT (148k MT currently) and billet capacity by 60k MT (180k MT currently), which are slated for completion by 4Q18. Management has indicated that this would increase high-value product composition to 50% by year-end (vs. 41% in 2Q18 and 30% in 1Q18). The group aims to achieve 70% highvalue product composition in 2019 by further expansion of wire rod and billet lines. The incremental profit for high-value products is c.USD70/MT. All else constant, a 30ppt increase in high-value product composition to 70% would translate into c.9% growth from FY18E CNP. We are currently assuming an average of 65% composition for FY19E.

Better control over the supply chain. PMETAL’s 20% JV with Sunstone in China for the manufacture of pre-baked carbon anodes is on track to begin operations by October 2018. PMETAL currently consumes c.390k MT of pre-baked carbon anodes annually (used for smelting), while the JV facility is planned for an annual capacity of 320k MT. Management has indicated that it will source about half the carbon anode requirements from the JV company and continue to source the balance externally. This should give PMETAL better control over its supply chain, especially in the current volatile carbon anode market. PMETAL has an option to increase the JV stake by an additional 20% to 40% after three years.

Going vertical. Given its solid balance sheet, PMETAL is on the lookout for acquisition opportunities in either upstream or downstream. That said, management is mindful that target upstream companies (alumina or carbon anodes) may be hard to come by given the current high prices. Hence, while we acknowledge it is a strategic move, we do not expect any deal for the rest of FY18.

No change in FY18-19E CNP of RM720-1.01b as we believe our FY18E aluminium price assumption of RM2,000/MT remains valid despite 1H18 averaging RM2,207/MT. This is because we see potential pullbacks in aluminium prices to RM1,800/MT on possible Alunorte plant restarting and Rusal sanction relief.

Maintain MARKET PERFORM with an unchanged TP of RM5.00

based on 19.4x FY19E EPS of 25.8 sen. This reflects earnings growth of 20-40% on the basis of aluminium ASP averaging USD2,000- 2,100/MT in FY18-19. We continue to like PMETAL given its long-term positive operating outlook and earnings growth potential. However, at recent prices, we see limited upside on the stock and we expect substantial volatility in both aluminium and raw materials prices.

Risks to our call include a plunge in aluminium prices and major plant disruptions/closure.

Source: Kenanga Research - 17 Aug 2018