Highlights from our recent virtual meeting with KLK include (i) FFB output will continue to grow further in FY23 on easing labour constraint and continuation of mechanisation efforts; (ii) CPO production cost to increase further in FY23 on higher fertiliser costs and full impact of minimum wage hike in Malaysia (but will be partly mitigated by FFB output growth); (iii) manufacturing performance to improve in 4QFY22 on relaxation of export curbs in Indonesia. Moving into FY23, increasingly challenging operating environment at oleochemical sub-segment will likely be partly mitigated by the partial completion of an integrated refinery and oleochemicals complex in East Kalimantan. All in, we tweak our FY22-24 marginally higher, mainly to account for as we raise our FFB yield assumptions (closer to management’s guidance). Post earnings revisions, we maintain our BUY rating on with a higher sum-of-parts TP of RM27.27 (from RM26.80 earlier).

FFB output to grow further in FY23. 10MFY22 FFB output grew 27% to 4.0m tonnes, boosted mainly by contribution from IJMP. Management guided that FFB output growth will sustain for the next 2-3 months, on the back of seasonal factors. Moving into FY23, we understand that FFB output will grow further (albeit gradually) and hit FFB yield of 21.5mt/ha (translating to FFB output of 5m tonnes), on the back of easing foreign labour constraint in Malaysia operations (as it expects to receive ~1k foreign workers by end Sep, and awaiting approval for another 2k foreign workers), alongside continuation of mechanisation efforts.

Production cost to increase further in FY23. KLK’s ex-mill CPO production cost fell by 3% QoQ to RM1,940/mt (bringing 9MFY22 production cost to ~RM1,900/mt), due mainly to higher FFB output. Management guided that CPO production cost will increase further to ~RM2,000/mt in FY22, due to higher fertiliser prices and application. Management shared that CPO production cost will increase further in FY23, due to higher fertiliser costs and full impact of minimum wage hike in Malaysia operations, but partly mitigated by higher FFB output.

Manufacturing segment: expect better 4Q. Recall in 3QFY22, operating profit contribution from manufacturing segment fell 39% to RM229.1m, as improved performance at oleochemical sub-segment was more than offset by Domestic Market Obligation (DMO) policies and export ban in Indonesia (which has in turn resulted in losses at refineries and kernel crushing plant). We expect the segment’s performance to improve in 4QFY22, on the back of relaxation of export curbs in Indonesia. Moving into FY23, increasingly challenging operating environment at oleochemical sub segment (arising from challenging demand prospects, high energy costs, and intensifying competition from Indonesia) will likely be partly mitigated by the partial completion of an integrated refinery and oleochemicals complex in East Kalimantan (which will allow KLK to capture further margins from its nearby plantation operations (measuring ~80,000 ha).

Property contribution to remain stable. Contribution from property development segment will remain stable (with earnings contribution of RM15-20m a quarter), supported by property launches in small phases.

Forecast. We nudge up our FY22-24 core net profit forecasts by 1.4/2.1/2.6%, as we raise our FFB yield assumptions (closer to management’s guidance).

Maintain BUY; TP: RM27.27. Post earnings adjustments, we maintain our BUY rating on KLK, with a higher sum-of-parts TP of RM27.27 (from RM26.80 earlier). KLK remains as one of our top picks for the sector, given its decent valuations. At RM21.94, KLK is trading at FY22-24 P/E of 10.3x, 12.9x, and 14.0x, respectively.

Source: Hong Leong Investment Bank Research - 20 Sept 2022