Background

MKH Oil Palm (East Kalimantan) Berhad (MKHOP) is principally involved in the cultivation of oil palm and the production and sale of crude palm oil (CPO) and palm kernel (PK). The group currently owns two oil palm plantation estates with a total land area of 18,205.3 hectares (ha), one palm oil mill and one jetty in East Kalimantan, Indonesia.

IPO Statistic

The IPO entails a public issue of 220,000,000 new ordinary shares and an offer for sale of 30,707,700 shares at an IPO price of RM0.62/share.

Public Issue:

• 51,209,800 new shares for application by the Malaysian public.

• 168,790,200 new shares by way of a private placement to selected investors.

Main Competitive Advantages

1. Favourable plantation profile

2. Strategic estate location

3. Experienced management team

4. ISPO certified products

Valuation

We fairly value MKHOP at RM0.62 per share, based on CY24 PER of 16x, which is 2x multiples lower than our sector target PER of 18x after taking into consideration MKHOP’s smaller market capitalisation.

Business Overview

MKH Oil Palm (East Kalimantan) Berhad (MKHOP) is principally involved in the upstream activities - the cultivation of oil palm and the production and sale of crude palm oil (CPO) and palm kernel (PK). The group owns two oil palm plantation estates with a total land area of 18,205.3 hectares (ha), one palm oil mill, and one jetty in East Kalimantan, Indonesia.

The palm oil mill has a processing capacity of 90 FFB tonnes per hour or 540k tonnes/annum. In FY23, the group processed a total FFB of 433k tonnes, representing around 80.2% utilisation rate. We gather that around 5.3% of the total FFB processed were sourced from third parties in FY23, while the rest are from owned plantation estates. Most of the CPO and PK are primarily sold to local customers who have entered into sale and purchase agreements with them.

Utilisation of Proceeds

The estimated gross IPO proceeds of RM136.4mn are expected to be utilised for the followings:

Key Competitive Advantages

1) Favourable Plantation Profile The majority of MKHOP’s oil palms (94.9%) consist of prime mature oil palms that are in their peak production years while the remaining are young mature oil palms (5.1%). None of its oil palms are immature (<aged 3 years) or older than 25 years

The group has been able to sustain its high CPO extraction rate of more than 18%. Besides that, the FFB yields for the group, which is more than 23 tonnes/ha are also higher than Indonesia and Malaysia’s national average. The drop in FFB yield in FY21 and FY22 was mainly due to lower FFB harvest as a result of heavy rainfall from the La Nina phenomenon. Management expects the FFB yield to improve to around 26 tonne/ha from 24.1 tonne/ha as more young, maturing trees progress into full maturity.

2) Strategic Location

MKHOP’s plantation estates are located in a prime area within the vicinity of the new capital city of Indonesia in East Kalimantan, namely Samarinda; and the financial centre of Kalimantan, namely Balikpapan. This will enhance the visibility and exposure of MKHOP to investors and traders. Besides, it is also situated along the equator with adequate levels of rainfall and sunshine. Meanwhile, the group also has a private jetty located 48km away from its plantation estates and along the Mahakam River, thus easing the logistics management.

3) Experienced Management Team

The group is led by an experienced management team consisting of its Executive Director, Dato’ Lee Khee Meng. He is supported by the Executive Directors and Key Senior Management who have more than 20 years of experience in their respective field and key expertise, industry experience, and in-depth knowledge of its business operations.

4) ISPO Certified Products

MKHOP’s plantation is amongst the first batch of pioneers to be awarded the Indonesian Sustainable Palm Oil (ISPO) certification. The group produces and sells quality ISPO-certified CPO as well as PK. Having an ISPO certification is important which would help to increase the market acceptance of their production of sustainable palm oil. Besides, it would also help to raise the exposure of MKHOP as well as its reputation in the industry.

Key Risks

Too Dependent on Major Customers

MKHOP is too dependent on certain major customers, which accounted for 88.2%, 95.9%, and 99.9% of its total revenue for FY20 to FY22, respectively. In FY23, the group only transacted with 4 customers, and sales to these 4 customers made up 100.0% of its total revenue. Thus, the group’s business will be affected if there are significant reductions in purchases from these major customers.

Unpredictable Weather Pattern

Upstream business is highly sensitive to weather conditions as it is one of the factors that affect FFB production in both near and long-term. Drought season will decrease FFB yield while extremely wet conditions will affect the application of fertilizer, thus lowering fruit quality and impacting OER.

Highly Volatile CPO and Palm Product Prices

MKHOP’s earnings are highly sensitive to fluctuations in CPO and FFB prices. A sustained depressed CPO price will adversely affect the bottom line. Note that CPO is closely correlated with soybean and crude oil prices. This would indirectly expose CPO to other factors such as extreme weather in US, Brazil, and Argentina as well as geopolitical tension and OPEC’s decisions on crude oil production.

Increase in Operating Costs

Production costs can increase due to soaring fertiliser costs, an increase in minimum wages as well as recruitment costs.

Change in Government Policy and Regulations

The change in local government policy, import tariffs, taxes, and other import restrictions imposed by importing countries can affect the demand for CPO due to substitution effect (Soybean).

MKHOP’s revenue increased from RM282.3mn in FY20 to RM338.0mn in FY23, mainly attributable to increases in CPO and PK prices (2000-2022); and higher sales volume for CPO (+29.3% YoY in 2023) which more than offset the decrease in CPO price in 2023.

For FY21, MKHOP’s reported profit increased by triplets to RM72.2mn. The commendable results were mainly attributable to high average selling prices (ASP) for CPO and PK, which increased by 32.2% and 47.3%, respectively. For FY22, profit decreased by 23.1% YoY to RM55.5mn, mainly due to an increase in operating costs (+20.1% YoY). The profit decreased further to RM30.4mn in FY23, dragged by lower CPO (-13.0% to RM3,348/tonne) and PK prices (- 39.5% to RM1,589/tonne) as well as an increase in the operating cost in the plantation segment.

Future Plans and Business Strategies

The Group’s Future Plans and Business Strategies Are as Follows:

1) Expansion of Plantation Estates

MKHOP intends to grow its oil palm plantation business by acquiring additional land near current estates in Kutai Kartanegara, East Kalimantan for better coordination of operational and logistics management. The group has identified companies with potential landbank measuring 5k ha with estimated planting area of approximately 4k – 4.5k ha. Management expects the acquisition to be finalised by the 2Q of 2024 and they intend to spend about RM42mn from the IPO proceeds to fund the acquisition.

2) Enhancing Operational Efficiency

MKHOP intends to purchase additional machinery and equipment to enhance the efficiency of its FFB harvesting activities and palm oil milling activities. This is expected to improve the OER, which would eventually improve the financial performance of the group.

3) Expansion of Capabilities and Offerings

To increase revenue streams, MKHOP intends to set up a PK crushing facility with a processing capacity of 90 tonnes per day, to crush and press PK for extraction and processing into CPKO, which includes PKE (a by-product of CPKO from PK crushing). Management expects to commence the operations of PK crushing facility by 2Q of 2024.

4) Improving Living Conditions

The group intends to spend RM10mn from the proceeds to refurbish existing staff quarters to enhance the living conditions of the workers and their family members as part of the continuous accommodation upgrading initiative. MKHOP plans to progressively construct 59 blocks (289 units) of new houses using a combination of bricks, concrete, and wood which are safer and less exposed to hazards.

5) Expansion of Electricity Coverage From Use of Turbines

MKHOP plans to expand the coverage of the electricity generated by its turbines to other regions of its plantation estates to reduce diesel fuel costs as well as part of the group’s effort for environmental conservation. The electricity supply system is expected to be commissioned within 24 months from MKHOP’s listing and the total cost of this plan is estimated to be RM10.0mn.

Outlook

According to an independent market research report prepared by Smith Zander International, which was enclosed in the IPO prospectus, the growing demand for food is expected to drive the demand for edible oils and fats. Meanwhile, palm oil is also a popular base ingredient for a wide range of food and non-food applications.

We expect the CPO price to average at RM4,000/tonne in 2024 and RM3,800/tonne in 2025. With soybean supply expected to rise in 2024, we believe it would be tough to paint a bullish price outlook for CPO due to the substitution effect. The premium of soy oil futures over palm oil futures has reduced from its peak of USD803/tonne to less than USD100/tonne recently. This may weaken the competitive advantage of palm oil and limit the upside of CPO price to a certain extent. All in, we expect CPO prices to soften from May onwards as palm oil productions would enter the uptrend cycle, while South American soybean supplies would enter the market.

The United States Department of Agriculture’s (USDA) April 2024 Oilseeds reports pegged the global 2023/24 vegetable oil production forecast to reach record levels at 223.2mn tonnes (+2.4% YoY), mainly driven by high production from soybean oil, palm oil, and rapeseed oil. The pressure on global oilseeds supply may become increasingly prominent.

Balance Sheet

On a pro forma basis, the balance sheet is expected to improve from a net gearing of 0.2x to a net cash position, post listing and utilisation of IPO proceeds.

Dividend Policy

The group's dividend policy is to distribute at least 50% of the group’s net profit at the discretion of the Board.

Earnings Forecast

We expect the group to register a net profit growth of 29.8% and 1.9% to RM39.5mn and RM40.2mn for FY24 and FY25, respectively. The higher earnings would be driven by higher CPO prices, FFB production, and lower production costs.

All in, our FY24 and FY25 earnings projections are premised on the key assumptions below:

• FFB production growth of 8.8% and 5.0% for FY24 and FY25 respectively.

• Increase in the total annual plant utilisation rate to 89% and 93% for FY24 and FY25 respectively.

• For 2024 and 2025, we assume the average CPO price to be RM4,000/tonne and RM3,800/tonne to derive our earnings forecasts.

• Lower production cost is mainly due to improvement in FFB production yield at plantations and lower fertilizer costs.

Valuation

We fairly value MKHOP at RM0.62 per share, based on CY24 PER of 16x, which is 2x multiple lower than our sector target PER of 18x after taking into consideration MKHOP’s smaller market cap and we believe the offer price of RM0.62 has already fully reflected its value.

Source: TA Research - 15 Apr 2024