Kenanga Research & Investment

Plantation - Flattish Inventory on Healthy Demand

Publish date: Tue, 11 Jun 2024, 12:01 PM

May 2024 palm oil production of 1.704m MT (+13% MoM, +12% YoY) was above the 10-year average, 8% higher than Kenanga, and 2% better than market, expectation. Exports of 1.378 MT (+12% MoM, +28% YoY) was also slightly above trend and, coupled with higher domestic consumption, May ended with flattish MoM inventory of 1.754m MT (+1% MoM, +4% YoY) which was just 2% above Kenanga estimate but 2% below consensus’. May 2024 CPO price softened MoM to RM3,903/MT (-8% MoM, +3% YoY) and should ease further as sizeable South American soyabean harvest ends while US soyabean is maturing for 3Q harvest. Maintain CPO price of RM3,800/MT for CY24-25 along with our NEUTRAL call. Sector’s PBV of 1.1x is defensive but lacks strong upside catalyst given flattish CPO price prospects. Planters with more growth potentials remain our preference, such as PPB (OP; TP: RM17.50) for its regional consumer agri and food operations, TSH (OP; TP RM1.30) and its ongoing upstream expansion, and UMCCA (OP; TP: RM6.00) for its maturing Indonesian estates.

Easier edible oil inventory should keep CPO prices firm. Despite weather-induced production downgrades, the Brazilian soya bean season is coming to an end, and coupled with estimated Argentinian harvest of 50m MT, a record soya bean output is expected for CY24. This is a welcome relief as edible oil demand is set to outstrip supply due to flat palm oil output with only modest increase in rapeseed harvest. Therefore, CY24 inventory level is likely to moderate though staying manageable. Given such supply-demand scenario; CY24-25 CPO prices are expected to stay firm, trading sideways, averaging at RM3,800/MT.

Easing cost pressures. Monthly energy and fertiliser prices have fallen by 15%-35% YoY. Many planters have reported higher palm kernel (PK) prices in 1QCY24 and high PK sales proceed helps contain CPO cost as PK is a byproduct when milling FFB to extract CPO. Labour cost pressure is rising but still manageable. Indonesia has seen higher minimum wages and Malaysia may follow suit. However, many planters have progressively raised productivity, from replanting with higher yielding planting materials to automation and upgraded infrastructure including mills. Coupled easing production cost with flattish CPO prices, upstream margins have inched up 2%-3% on average in 1QCY24 and should stay so for the rest of the year.

Downstream margin, on the other hand, is expected to stay soft in 1HCY24 but headwinds could be abating. Some oleo-chemical restockings have been taking place but overall demand remains soft. However, refining margins are not expected to recover soon due to excess capacity in the region as Indonesia is promoting the integration of the country oil palm sector with its own downstream capability.

Maintain NEUTRAL. The Bursa Plantation Index inched up 2% MoM in April but is now diverging from the weakness in CPO prices. Nevertheless, the sector’s valuation is not excessive, trading at 1.2x PBV and 16x prospective PER. However, there is no strong upside catalyst in sight, with firm rather than bullish CPO price expectation. Overall, the plantation sector provides defensive exposure with gradual increments in price inflation over time as: (i) palm oil is largely (70%) used for food usage despite a growing biofuel market, (ii) gearing among most planters are manageable with cash generative upstream operations, and (iii) the value of agriculture land, especially those along the west coast of Peninsular Malaysia, are often much higher than their book value.

Within the sector, we prefer growth over income for the next 3-6 months. We like:

PPB (OP; TP: RM17.50). Despite a weak 1QFY24, full-year’s earnings should still inch up YoY. Associate Wilmar suffered from weaker commodity trades in 1Q and several relocations also disrupted PPB’s cinema chain. Further ahead, Wilmar enjoy strong positions in the Chinese and Indian edible oils and processed food markets while PPB’s regional flour and feed businesses is also growing. Altogether, good exposure into the region’s expanding middle class consumers at below book value and market PER.

TSH (OP; TP: RM1.30). After de-gearing over FY22-23, TSH is now in expansion mode once more. Work on planting 8k-10k Ha of oil palm (20-25% expansion) has commenced and it is also exploring regional carbon-related opportunities.

UMCCA (OP; TP: RM6.00). Although UMCCA’s Indonesian earnings could still be volatile, its Sumatran estate is maturing; hence, forward yields are trending up. Coupled with lower unit cost, the group’s Indonesian earning base looks set to improve moving ahead.

Source: Kenanga Research - 11 Jun 2024

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