FY14’s  MYR36.2m  core  net  profit  was  below  our  and  street  estimates, no  thanks to  the  plunge in steel prices  and  weak sales on competition from  imported  steel.  We  downgrade  to  NEUTRAL  (from  Trading  Buy)and  lower  TP  to  MYR1.12  (from  MYR1.37),  0%  upside,  as  we  foresee further deterioration in the local steel market  affecting steel prices  and, hence, Ann Joo’s profit margins.

Core  numbers  missed.  We  reckon  that  Ann  Joo’s  headline  loss  in 4Q14  was partly attributed to exceptional items,  including an  unrealised forex  loss  and  one-off  payroll  arrears,  following  the  finalisation  of  acollection agreement with its employees. That said,  excluding those,  itsFY14  core  net  profit  of  MYR36.2m  is  still  short  of  our  and  street estimates.  We  understand  that  local  steel mills  are  still  competing  with intensified dumping of steel bars and wire rods from China  that continuesto dent  sales tonnage. Furthermore, the  plunge  in  oil  prices  that spread weakness across all commodity prices has also pulled down steel prices by an average of 20% QoQ in USD term s.

Near term outlook deteriorating?  While  Ann Joo’s  blast furnace (BF)has  reached  better  efficiency  since  3Q14,  its  cost  advantage  over electric  arc  furnace  (EAF)  operations  has  diminished  quickly  as  scrap prices  plunged  by  26%  in  just  over  four  months  to  USD250/tonnerecently. By  comparison,  iron ore dropped by  merely USD20/tonne  over the  same  period.  Furthermore,  the  International  Trade  and  Industry Ministry  (MITI)  recently  decided  to  terminate  its  investigation  into  the import of  Chinese  steel bars.  This suggests  extended competition from imported  steel  –  particularly  from  China  –  which may  continue  to  drag Ann Joo’s razor-thin margins.

Downgrade to NEUTRAL.  We expect prices of local steel bars and wire rods may soon drop below MYR1,800/tonne despite  having  been fairly firm  in an international steel price drop environment.  Together with  Ann Joo’s  worse-than-expected results,  we  slash our  earnings  estimates  by 56%/51%  for  FY15/FY16  respectively  while  introducing   our  FY1 numbers.  Following  that, our  TP  is cut  to MYR1.12  (from MYR1.37) on the back of  lower  earnings while  our book-based valuation is  reduced  to0.54x FY15F P/BV, or -1SD (from -0.5SD) of the stock’s 5-year historical trading range.  Our recommendation is also,  accordingly,  downgraded  to NEUTRAL (from Trading Buy).

Source: RHB