1HFY20 CNP of RM358m (+16% YoY) came in below our (47%) and consensus (43%) estimates due to lower-than-expected CPO price realized. Historically, the 1HFY accounted for 54% of full-year profits (based on 5-year average). Lower CPO price (QTD3QFY20:-18% QoQ)is likelyto overshadow recovery in production (Apr2020: +6% YoY; +11% MoM), leading to potentially lower earnings in 3QFY20. Reduce FY20- 21E CNP by 8% eachon lower CY20-21E CPO price forecast (RM2,300- 2,400 vs. RM2,550 previously). Still a MARKET PERFORM with higher TP of RM20.70 based on rolled over FY21E PER of28x (-1.0SD), in-line with peers.

2QFY20 deemed below expectations. Kuala Lumpur Kepong Berhad (KLK) registered 2QFY20 core net profit* (CNP) of RM179m (+57% YoY), bringing 1HFY20 CNP to RM358m (+16% YoY), below both our/consensus’ estimates at 47%/43%. Historically, the 1HFY accounted for 54% of full-year profits (based on 5-year average). Note that we have excluded unrealized FOREX losses of RM145.3m to arrive at our 2QFY20 CNP. The negative deviation is due to lower-than-expected CPO price realized. 1HFY20 FFB output of 1.87m MT (-11% YoY) is within expectation at 47%. DPS of 15.0 sen was declared, as expected.

Upstream to the rescue. YoY, 1HFY20 CNP rose (+16%) mainly driven by upstream as plantation segmental profit rose (+38%) on higher CPO/PK prices (+25%/+4%) which outstripped lower FFB output (-11%). QoQ, 2QFY20 CNP remained flat as the impact of higher CPO/PK prices (+17%/23%) was negated by: (i) lower FFB output (-9%), (ii) 67% decline in property revenue, and (ii) 60% fall in investment holding revenue.

Potential sequential decline in profits. While we note that Apr 2020 FFB output is up (+6% YoY; +11% MoM), QTD3QFY20 CPO price has fallen (-18% QoQ). Given that planters’ earnings are more sensitive to changes in CPO price, we believe KLK could see a decline in 3QFY20 earnings. Over the longer term, KLK’s earnings growth is expected to remain consistent in view of its stable organic and inorganic expansion tracks. Meanwhile, the sector’s outlook has improved after risks associated with demand from failure to implement biodiesel mandates (B30 Indonesia, B20 Malaysia) have been addressed. Having said that, CPO price is still expected to come under pressure as we enter peak production season.

Reduced FY20-21E CNP by 8% each on lower CY20-21E CPO price forecast of RM2,300-2,400/MT (vs. RM2,550/MT previously).

Maintain MARKET PERFORM, but with higher TP of RM20.70 (from RM19.20) based on rolled over FY21E PER of 28x (in-line with large cap peers’ average), reflecting -1.0SD valuation. At current price, KLK is trading at FY21E PER of 30x, implying slightly below -0.5SD from mean. As we anticipate CPO price to come under pressure as production rises in the coming months, upside is limited at this juncture and we believe a MARKET PERFORM call is appropriate.

Risks to our call are sharp increase/decline in CPO prices and significant rise/fall in fertiliser/transportation costs.

Source: Kenanga Research - 28 May 2020