KLK reported a sterling set of 1QFY23 results which exceeded both our and consensus expectations. Core net profit (CNP) rose both QoQ and YoY despite softer CPO price which was offset by higher FFB output and healthy downstream contributions. Hence, we are upgrading our FY23F earnings and TP from RM25.50 to RM27.00. Maintain OUTPERFORM on its stellar track record, defensive balance sheet and long-term growth potentials in its strong upstream operations

1QFY23 core net profit of RM533m came in at 31% and 32% of our full year forecast and the full-year consensus estimate, respectively. It is also significantly higher than the PATMI of RM443m, due mainly to a RM144m foreign exchange loss which was offset to a certain extent by a RM42m surplus from land acquisition by the government. 1QFY23 FFB output of 1.399m MT (+3% MoM, +11% YoY) was strong as initial labour issues in Indonesia following the acquisition of IJM Plantations have largely been resolved. Average CPO price in 1QFY23 was RM3,737/MT (-2% QoQ, -8% YoY), lower than what we had expected which dampened plantation PBT both QoQ and YoY, but downstream performed better QoQ on better margins. Net gearing inched up QoQ from 46% in Sept to 47%.

Upstream headwinds ahead. Recovering supply of edible oil is putting pressures on palm oil prices. Nevertheless, demand is also likely to recover. We believe the reopening momentum is still ongoing as buyers who delayed purchases last year due to high prices return. Meanwhile, China, the world’s biggest edible oil market (c.40m MT) only started relaxing its zero-Covid stance in late 2022 while biodiesel demand is also poised to grow. Indonesia, the world third largest biodiesel user and the largest palm-based biodiesel market raised its B30 biodiesel blend to B35 on 1 Feb 2023 which will need 1-2m MT of palm oil as additional feedstock. US and Brazil are also expected to use more soya-based biodiesel in 2023 which should support demand for edible oil. We maintain FY23-24F CPO prices at RM3,800-3,500/MT.

Downstream is also expected to face challenges. Unlike food and fuel-driven upstream operations, KLK’s downstream operations is also involved in refining and driven by food and fuel as well, but oleochemical operations are driven by toiletries, cosmetics, commercial and industrial manufacturing sectors. Hence, some slowdown is expected in its oleochemical arm in view of the impending economic slowdown. Meanwhile, KLK has raised its stake in UK-based associate, Synthomer, which specialises in performance polymer, from 21.3% to 26.3%.

We raise our FY23-24F net profit by 8% each and lift our TP by 6% to RM27.00 (from RM25.50) based on 15x FY23F PER which is in-line with the historical rating for integrated players. We also accord a 5% premium for its 4-star ESG rating (see Page 3).

Maintain OUTPERFORM. Beside good ESG credentials, KLK is well regarded for its excellent track record, asset-rich NTA and strong upstream operation which allows the group flexibility to expand regionally. This is reflected in the fact that KLK is one of the few planters to have expanded upstream over the past five years when others have either saw their planted area stagnating or even shrinking.

Risks to our call include: (i) weather impact on edible oil supply, (ii) unfavourable commodity prices fluctuations, and (iii) production cost inflation.

Source: Kenanga Research - 23 Feb 2023