Maintain NEUTRAL with new MYR3.35 TP from MYR3.75, total expected return of -7.6%. Southern Acids’ 1HFY19 core net profit was below our and consensus forecasts. The oleochemical division remained in the red on lower sales volumes and margins, while depreciation charges doubled in 2Q18. Its healthcare and plantations divisions came in within expectations. We believe it will take some time for any value-unlocking exercise to take place, particularly in the current lacklustre property environment. The key catalyst remains the timing of such value unlocking.

Southern Acids’ 1HFY19 (Mar) net profit was below our and consensus expectations. Although core earnings swung back to positive territory of MYR3.3m (from -MYR0.1m in 1QFY19), this was still below our and consensus net profit of MYR20m and MYR33m for FY19F. The main reason was the higher depreciation charges in 2Q18 (doubled QoQ) due to the commissioning of its hydrogen plant and cooling tower at its oleochemical operations.

The oleochemical division remained in the red, with core loss before tax of MYR5.5m (1QFY19: MYR6m). This was as utilisation rates fell further to 84% from 98% in 2Q18. Ex-EI margins for the oleochemical division were -7.6% (from 2.3% in 1HFY18) on lower sales volumes (-12% YoY) and selling prices of fatty acids (-11% YoY).

The healthcare division performed in line with expectations, posting an 8% YoY increase in PBT contributions in 1HFY19 on higher revenue/inpatient (+6% YoY).

Higher FFB output and external FFB available for milling. The plantations division posted a 59% YoY rise in PBT in 1HFY19 on higher FFB output (+29%) and higher FFB processed (+16% YoY). This was offset by lower CPO (-19%) and PK prices (-20%).

We cut our FY19F-20F earnings by 10-14% after cutting down our margins for the oleochemical business to -4% (from -1.5%) for FY18 and to 1% for FY19 (from 2%) and raising depreciation charges.

Our SOP-based valuation is lowered to MYR3.35 based on unchanged target P/Es of 15x 2019F for the plantations division and 12x for the oleochemical wing, as well as an EV/bed of MYR1.5m for the healthcare business. We apply RHB’s TP for Paramount Corp (PAR MK, BUY, TP: MYR2.56) to account for its 4.6% stake in the company, included its latest net cash position of MYR166.6m, and applied a 25% holding company discount.

Maintain NEUTRAL. While we like Southern Acids’ undervalued assets, we continue to highlight the key “value trap” risk, as the value-unlocking timeline remains hazy. We do not believe the company will make any moves to unlock value on its assets anytime soon, as management remains extremely conservative and does not seem to be in any hurry. The current lacklustre property market remains a key obstacle.

Source: RHB Securities Research - 29 Nov 2018