Sarawak Oil Palms (SOP’s) 1Q  results  appear  weak-ish  but  we  believe subsequent  quarters  will  make  up  for  the  shortfall.  Its  production  is running  at  growth  rate  in  excess  of  20%.    SOP  is  among  the  cheapest plantation  play  in  Malaysia  with  forward  PERs  of  15.0x  and  11.3x.   Although  offering  only  a  7%  upside,  we  maintain  our  Buy  with  FV unchanged  at  MYR7.04.    A  drought  impact  on  production  larger  than CPO price rise and low refining margins represent the key risks.

Slightly  short of  expectations.  SOP’s 1QFY14 core earnings came in at  MYR33.7m,  making  up  16.9%  of  our  full  year  forecast  of  MYR199m. This  compares  unfavorably  against  1Q  last  year  which  made  up  19.4% of  full  year  number.  We  are  not  concerned  as  1Q  is  low  crop  season which refinery margin tends to be zero or negative.  

Production  grew  strongly.  The company’s FFB production grew by a commendable  18.4%,  which  is  much  stronger  than  management guidance  of  low  teens  growth.  We  expect  production  to  grow  stronger still  in  the  subsequent  quarters  with  full  year  expectation  of  1.167m tonnes  (+21.8%  y-o-y).  Up to April, SOP’s cumulative FFB production has reached 298k tonnes (+21.3% y-o-y).  

Maintain  forecast.  We  are  keeping  our  forecast  unchanged  as  we believe  the  subsequent  quarters  will  prove  to  be  stronger  as  its production ramps up further. The slowdown in new mature area will also aid  its  profitability.  Refining  margin  should  also  improve  with  the seasonal production starts to move upwards.  

Keeping as Buy. Although upside is less than 10% at the moment, we are keeping SOP as a BUY pending a review in our valuation horizon.  

Key risk. 1) Drought impact on production larger than CPO price rise. 2) Refining margin continues to stay low.

Key takeaways from Plantation Corporate Day

Production outlook

Management expects FFB production to grow to 1.05m tonnes this year compared to 960k  tonnes  last  year.  We expect SOP’s production to hit 1.17m tonnes. There will probably be some 4k ha of new mature area this year (9k ha in 2013) and 1k ha in 2015. 

Yield turnaround in 2015 / 2016

SOP’s yield is expected to start climbing in 2015 or latest 2016 after sliding in the past  5  years  due  to  new  area  coming  into  maturity.  The  slowdown  in  newly  mature area this year onwards will result in its FFB yield eventually rising.

New acquisition

New acquisition is expected to be completed in Sept this year and should contribute about  100k  tonnes  of  FFB  per  annum  next  year  onwards.  To  recap,  SOP  has proposed  to  acquire  60%  stake  in  2  companies,  namely  DD  Pelita  Sebungan Plantation  and  Mutiara  Pelita  Genaan  Plantation  for  a  total  of  MYR134.9m,  to  be satisfied  by  MYR66.8m  cash  and  9.2m  SOP  shares  at  MYR7.40  each.  Dilution impact  is  minimal  as  the  new  SOP  shares  only  increases  the  share  base  by  2.1%. The  two  companies  have  collective  planted  area  at  9,660  ha.  This  translates  into  a bargain  MYR23,275  per  ha,  especially  considering  the  soil  is  mineral  soil.  The acquired asset also has some 5k ha of new planting to be done. SOP has a long term target of reaching 100k ha of planted area.

Biodiesel plant progress

The  company  has  obtained  ISCC  certification  for  its  refinery  and  half  its  plantation, which will be useful for its upcoming biodiesel plant if it were to export. For its 100k tonnes  biodiesel  plant  slated  to  start  operating  in  3Q  this  year,  Sarawak’s  B5 biodiesel requirement will take up only 60k tonnes.

Refining business

Refining profit will be worse this year compared to MYR12m last year due to thinner refining  margin.  This  is  despite  the  company  having  more  oil  throughput  following Wilmar’s new buying policy which takes effect from 2016 onwards.

Financial Exhibits

SWOT Analysis

Company Profile

SOP is involved in oil palm cultivation and CPO refining in the state of Sarawak.

Recommendation Chart

Source: RHB