• Stay BUY and MYR3.30 TP, 40% upside and c.2% yield. Post yesterday’s briefing, we remain optimistic on a stronger FY23 performance – stemming from expansion-led growth, Schokinag operations turnaround, and an up- trending combined ratio in 2H23. Management shared its respective strategies to tackle prevailing challenges in the current cocoa market conditions amid elevated cocoa bean prices, higher interest costs, and a lower inventory turnover for Ivory Coast’s exports.

• Results recap. 1Q23 earnings of MYR23.8m (+16.9% QoQ, -55% YoY) were dragged by MYR44m in unrealised losses on commodity futures, lower sales tonnage, and higher interest costs. This was compounded by the unfavourable forward selling prices then and higher interest costs, which jumped 2.5x YoY to MYR26.5m. On a brighter note, higher ASPs and lower energy costs for Schokinag has propelled EBITDA 3.4x YoY to MYR18.8m despite slower sales tonnage (-1.6% YoY).

• Guan Chong’s Ivory Coast operations reported a maiden 1Q23 revenue of MYR144.8m (13% of group topline) and EBITDA of MYR15.4m. However, the production output was sold to internally. Hence, no profit was recognised at the consolidated level. We understand that export sales from this plant will start from 2Q23 onwards, with the utilisation rate set to improve further from the current 81% as FY23 capacity is fully sold. GUAN guided that margins are likely to better than its Asia operations, given the close proximity to cocoa bean sources, 0% import duties to Europe, and a 5-year tax free status plus five years of a 50% reduction in the tax rate.

• Gearing. Management is working to reduce the gearing level (0.92x) by rationalising its inventory holdings. The net drawdown of c.MYR400m in sukuk and USD trade loans are mainly for working capital requirements for the Ivory Coast operations and expansion capex. Due to the slower cash conversion cycle, extra working capital is needed for finished goods and additional bean stocks due to the lengthy process for export sales. Besides, there are extra hedging activities needed for bean crops purchased in the Ivory Coast due to the forward-buying arrangement. Management is working around to improve the conversion cycle and maximise profitability by selling cocoa ingredients to intermediaries or traders instead of directly to Schokinag, which in turn could take a further 3-4 months.

• The current elevated cocoa bean and sugar prices spell some challenges to the chocolate industry as customers tend to delay price fixing, hoping for the terminal price to soften. Buying interest in the spot market has also softened due to the inverted futures prices. This may put pressure on near-term margins, especially for smaller grinders that do little forwarding or have yet to cover their books. Forecasts are unchanged. Our TP is pegged to 17x FY23F P/E (+1SD from its 5-year mean), on par with the Consumer Product Index with 0% ESG premium/discount. Valuations stay undemanding, given GUAN’s unique exposure to the global consumer footprint and decent growth prospects.

Source: RHB Research - 2 Jun 2023