• Downgrade to SELL from Neutral, with new MYR2 TP from MYR2.50, 21% downside. 1Q23 results disappointed, at 15-17% of our and Street full-year forecasts. While 2H should chalk up stronger earnings on improved output and moderating costs, Sarawak Oil Palms is now overvalued, trading at 8.8x FY23F P/E vs peers’ 6-8x range.

• 1Q23 earnings missed expectations, at 15-17% of our and Street FY23F due to higher-than-expected operational costs and lower-than- expected FFB output. Core net profit dropped 74% YoY to MYR49m, on the back of lower average palm oil (-37% YoY) and PK prices (-54% YoY). SOP recently declared a 6 sen final DPS, bringing its total FY22 DPS to 10 sen, in line with our forecast. This translates to FY22 payout ratio of 18%, or a 3.6% yield.

• Despite improving, output still disappointing. FFB output was +2.8% YoY (-20% QoQ), below our +6.3% YoY projection and management’s 7-8% guidance for FY23. The YoY increase was likely due to labour shortage improvement, currently at 20-25%, from 30-35% in 1Q22. However, 4M23 FFB growth fell to -0.9% likely due to the festive holidays. While 2H should post higher FFB output HoH, we cut our FY23 FFB growth forecast to +3.6% to be conservative, but leave FY24F-25F FFB unchanged. Management has kept its 7-8% FY23 FFB output guidance.

• We believe 1Q23 unit costs have increased YoY on the back of higher fertiliser costs. SOP likely applied the carried forward unused high-priced fertilisers from 2022 to 1Q23, which pushed operational costs up. We anticipate unit costs to be lower in the coming quarters to reflect the lower priced fertilisers (-35% YoY) that it has secured. SOP has applied 15-20% of its FY23 fertiliser requirements in 1Q23. We increase our FY23 cost assumption by 7% to better reflect its 1Q23 performance.

• Downstream. Although no disclosure was given, management has indicated that performance from this segment will be weaker YoY due to lower by-product prices while volumes are expected to remain flattish. Furthermore, the reinstatement of Indonesian export levy would result in increased competition as Indonesian downstream players would have the upper hand given the advantageous tax structure. We understand that SOP’s refinery utilisation rate remains at around 80-90%.

• We slash our FY23F-25F earnings by 22-25% after imputing lower FFB output, lower PK prices, higher interest expense and higher unit costs.

• D/G to SELL. Our TP drops to MYR2.00 based on 8x 2023F P/E, with a 14% ESG discount to account for its ESG score of 2.3. SOP is trading at 8.8x FY23F P/E, at the higher end of its peer range of 6-8x.

• ESG framework update. As there is now greater focus on the E pillar due to critical climate change issues, we have tweaked our ESG weightage. Henceforth, we assign a weightage of 50% to the E pillar, followed by 25% each to the S and G pillars. Further details are in our 2 May thematic research note titled Envisioning a Better Future.

Source: RHB Research - 22 May 2023