INVESTMENT HIGHLIGHTS

• 3QFY17 profit lagged expectations

• Revenue growth driven by higher selling prices

• GP margin lesser than expected

• Earnings impacted by finance costs and effective tax rate

• Maintain NEUTRAL with a revised TP of RM4.09 based on a EPS18 and PER18 of 19.5sen and 21.0x respectively

3QFY17 profit lagged expectations. MSM returned to the black after two consecutive quarters of losses, reporting 3QFY17 earnings of RM10.4m (-55.3%). Despite the encouraging results, the company’s cumulative 9MFY17 earnings lagged our and consensus full year FY17 earnings estimates by a variance of more than >10%.

Revenue growth driven by higher selling prices. MSM’s 3QFY17 revenue grew by +5.6%yoy to RM668.5m premised on higher selling prices while total sales volume increased marginally at +0.8%yoy to 253k MT. Segment-wise, the revenue for industries and export segments grew strongly of +19.2%yoy and +45.3%yoy respectively while domestic segment fell by -3.6%. Correspondingly, the total sales volume for industries and export segments increased by +2.1%yoy and +25.8%yoy respectively while domestic segment dropped by -6.3%yoy. The total average selling prices (ASP) increased by +7.92%yoy during the quarter to RM2,545 per MT.

GP margin lesser than expected. The international raw sugar price has declined from approximately USD0.20 per pound beginning of 2017 to USD0.14 per pound currently (a decline of -30%). Nevertheless, the average cost of raw sugar for MSM has dropped by a lower quantum of about -25%qoq to approximately RM1,800 per MT in the 3QFY17. This is due to the higher remaining balance of high cost raw sugar inventory. Consequently, GP margin for the quarter was recorded at 11.3% (-0.9ppts yoy). We expect the high-cost raw sugar inventory to be drawn down by the end of the year.

Earnings impacted by higher finance costs and effective tax rate. Finance costs for 3QFY17 rose by +RM7.2m yoy to RM10.4m. We believe that this is a consequence of the RM425m borrowings drawn down largely for the purpose of financing the new refinery in Johor, which is 70% completed.

In addition, the effective tax rate increased to 58.8% (a +30%ppts yoy) due to the underprovision of tax in FY15. Nevertheless, the increase in finance costs and effective tax rate was mitigated by the decline in selling and distribution costs as well as administrative expenses by -15.1% and -16.1% respectively.

Prospects. The FY17’s recovery in earnings is slower than expected due to: (i) the continuous decline in the sales volume of domestic segment since the hike in the retail sugar price and; (ii) higher remaining balance of high-cost raw sugar inventory. We continue to believe that the prospects for FY18 would be better due to: (i) the downtrend of the international raw sugar price due to the expected oversurplus of raw sugar next year; (ii) commencement of the Johor refinery plant in the 2HFY18 which is expected to boost export revenue and; (iii) stronger Ringgit which is expected to lower the cost of raw sugar.

Impact to earnings. Due to the aforementioned reason, we reduce our FY17 earnings by -84.8% while maintaining our FY18 forecast.

Maintain NEUTRAL with a revised TP of RM4.09. We maintain our NEUTRAL stance with a revised target price of RM4.09 (previously RM3.31 per share). We also revised our target PER18 to 21.0x (from 17x) as it better reflects the expected recovery in earnings in FY18 onwards. Nevertheless, we believe that the stock is trading at fair valuation at this current juncture.

Source: MIDF Research - 23 Nov 2017