Another dreary quarter. The sector posted substandard results for the third consecutive quarter. While earlier quarters disappointed on steep FFB production declines due to tree stress, 3Q12 results were primarily impacted by a plunge in CPO ASP and higher costs, which offset a rebound in production. Expectations are rife that 4Q12 will be another washout on still-weak CPO ASPs. While NEUTRAL on a 12M view, we had advocated a “take profit” strategy at the start of 4Q. We estimate that Malaysia’s palm oil stockpile peaked in Nov 2012 at ~2.6m tonnes (+4% MoM) and expect a steady recovery in CPO prices in 1Q13 as stocks recede. Sarawak Oil Palms, Sime are our top BUYs in Malaysia.

Upstream hurt by low CPO ASP and high costs. All nine stocks under our coverage reported lower-than-expected 3Q12 results (2Q12: six stocks) as CPO ASPs plunged from ~MYR3,000/t to ~MYR2,400/t during the quarter and high production costs offset the strong quarterly rebound in FFB production (+12% to +62% QoQ, except for FGVH – see overleaf). Pure upstream players in Sabah and Sarawak were affected by higher “discounting” of CPO prices to offload their CPO stocks to nearby refiners, as stocks had been plentiful since Sep 2012. These discounts (which have persisted) take the form of higher freight charges, raising overall cost of production for these companies.

Timely hedges differentiate the downstream players. KLK and IOI reported strong downstream earnings due to timely hedges, benefiting from low raw material input cost. However, Sime and SOP were not as fortunate. Nonetheless, with the current low (and stabilised) CPO cost, Malaysian refiners ramped up utilisation in Oct/Nov 2012 as they enjoyed net positive refining margins of MYR100-150/t in these two months. Key positive surprises in 4Q12 may come from this division.

A washed-out 4Q12. Weak CPO ASPs persisting into 4Q12 have wiped out all hopes of a quick rebound in profits for upstream players in the final quarter of the year. CPO prices have fallen another 14% since end-3Q12 and it is now down 35% YTD. Nonetheless, we believe the market has priced in this potential negative and look forward to a recovery in CPO prices and hence upstream earnings in 2013.

Malaysian plantation earnings cut by 13-40%. Following the weak 3Q results, we have lowered our FY12 plantations earnings forecasts by between 13% and 40%, and by 5% to 16% in FY13, on: (i) a lower CY12 CPO ASP forecast of MYR2,950/t (vs. MYR3,150/t previously; CY13 forecast unchanged at MYR3,000/t), (ii) a 2-7% cut in FY12 FFB production estimates (for selected few stocks), and a similar quantum of cuts in FY13 forecasts for a selected number of companies, and (iii) higher cost of production in FY13 in the form of higher “freight charges”, as current price discounting will continue to be the new norm with the introduction in Malaysia of a new CPO export tax structure of 4.5-8.5%, effective 1 Jan 2013.

Source: Maybank Research - 06 Dec 2012