We rate TEOSENG a “Trading Buy” with a Fair Value of RM1.45. We see the group benefiting from normalising egg prices and favourable input prices. In addition, the group is regionally diversified and on track to produce 5.0m eggs/day(+25%) by FY22. Coupled with being the only egg player in Malaysia with complementary businesses, we believe our valuation based on a PER of 10x (+1SD of its 3- year mean) on its FY20E EPS of 14.5 sen is fair.

Positive from normalising egg prices and favourable input cost.

Net profit fell sharply in FY17 to RM3.5m (-83%,YoY) as egg prices fell to a 5-year low of 30.2 sen (Source: Department of Veterinary), due to severe oversupply. This was worsened by higher feed import costs (i.e. maize, soybean), resulting from the weakening of the MYR (to RM4.25/USD). However in FY18, egg prices recovered to a 4-year high (FY15-FY18) of 32.7 sen (+8%), as the layer industry implemented an early depopulation to cull total production. Meanwhile, lower soybean prices (c.USD910/mt, -5% YoY) which was likely due to the US-China trade war have benefited the group. Going forward, we expect these favourable situations to persist with the 9MCY19 egg prices already at c.34.0-38.5 sen. And, the unlikely truce between China and U.S in the near term may keep soybean prices low.

Regionally diversified with capacity expansion on track.

TEOSENG’s revenue achieved a CAGR of 6.5% from FY14-FY18, backed by the group’s expansion plan since FY14 to achieve an output of 5.0m eggs/day (+67%) by FY22. The group’s capacity currently stands at 4.0m eggs/day. Throughout this period, the group has expanded its market regionally to even out cyclical risk with exports accounting for 40% of its FY18 sales. This is evident through its strategic farm locations primarily located in Johor, of which half is accredited by the Singapore Food Agency. The group also benefits from the higher egg ASP (c.3-4 sen higher) in Singapore which translates into better margins.

Self-sufficiency could support earnings. TEOSENG is the only egg player in Malaysia with complementary businesses such as: (i) feed mill plant; (ii) animal and health care product; (iii) paper egg tray plant; (iv) automated fertiliser plant; and (v) a central packaging system. This provides better operational efficiency and reduces reliance from third party sources. The synergies are demonstrated by the group’s better PBT margin of 8.4% in FY18 as compared to LTKM of 4.0%. In addition, we believe such business structure could be difficult to replicate as it requires scale and expertise.

Earnings estimates. 2QFY19 recorded a poorer set of results which we believe is normal owing to the lapse between CNY festivities and fasting season. Thus, we expect a seasonally stronger 2HFY19 for the group with higher sales volume supported by the progressive expansion of the group’s daily egg production capacity. With this, we believe FY19E/FY20E sales could amount to RM574.0m/RM605.5m (+17%/+6%) driven by the said higher sales volume. Meanwhile, earnings could improve to RM41.3m/RM43.2m (+36%/+5%) due to better operational efficiency and margins attributed to its complementary businesses and better egg prices. We also impute a dividend pay-out of 30% (4.1sen/4.3sen), as the company’s intended pay-out policy stands at 20-50% of PAT.

Trading buy with a FV of RM1.45. Our ascribed TP is based on a PER of 10.0 on FY20E EPS. The applied valuations (in-line with the stock’s +1SD over its 3-year mean) are above the average of 8.0x Fwd. PER. We believe this is fair, premised on: (i) more stable egg price and cost environment in the future, (ii) increasing diversification in export markets, (iii) gradual expansion in its complementary businesses to provide better earnings security, and (iv) more robust dividend yields backed by better earnings visibility.

Other salient points

Risk to our call includes TEOSENG’s cyclical risk due to its pure egg play integrated livestock segment (ILF) (contributing c.83%-90% of FY15-FY18 revenue). Note that in FY17, despite a marginal decline of average egg ASP to 30.2 sen (-3.7%), the group’s PBT dropped significantly to RM4.1m (-84.3%). In addition, no dividends were declared during that year. However, in FY18, PBT jumped to RM41.3m (+911.0%) due to the recovery of average egg ASP to 32.7 sen (+8.4%). Thus, any weakness displayed in the share price can be seen as an opportunity, as we believe the group’s well-integrated supply chain is better positioned to ride the poultry market against other poultry players.

Source: Kenanga Research - 23 Oct 2019