We are optimistic on Sern Kou Resources Bhd (“Sern Kou”) as prospects on their earnings growth are encouraging from their expansion. The company is likely to achieve record earnings for FY20 and FY21. Hence, we have a BUY with target price of RM1.03 premised on 12.4x PER FY20 as per valuation for FBM Small Cap Index.

Sern Kou is an established timber group with exposure in upstream, midstream and downstream activities. The group’s downstream furniture manufacturing operations are based in Muar, Johor while the sawmills (midstream activities) are located in Kuala Krai and Gua Musang, Kelantan.

Its sawmill business will be the key growth driver from the new plants which commenced operations in 2018. To recap, the sawmill plants in Kuala Krai and Gua Musang were acquired in 2016/17 and reached optimal capacity recently. The group is in the midst of setting up another 2 new production lines, adding to the current 3 lines. This will boost Sern Kou’s sawmill production capacity to 60,000 tonne p.a. from the current 36,000 tonne p.a.

Meanwhile, the group’s downstream furniture manufacturing (mainly dining furniture) which had been loss-making is turning around and on track to return to the black in FY20. Besides increasing exports to the US, it has formed a strategic alliance with a leading online furniture retailer in China where both parties leverage on each other’s expertise to boost market share.

Due to the ongoing US-China trade war, opportunities are arising with many US customers switching to Southeast Asia with Sern Kou being one of the beneficiaries. The group is setting up a new kitchen cabinet production line for a new US customer and production is expected to commence by mid- 2020. This would catapult the group’s earnings to a new high once it reaches optimal capacity.

With the sawmill capacity expansion, new dining furniture line, and new kitchen cabinet line in place, we expect the group’s growth momentum to continue with EPS to chart double digit growth by 86% and 24% for FY20 and FY21 respectively.

Source: Rakuten Research - 26 Nov 2019