KLK's FY24 earnings came 25% short of Kenanga's forecast and 28% below consensus'. Core net profit (CNP) dipped 25% YoY on poor downstream earnings and UK-associate losses. Otherwise, upstream earnings rose on improving FFB output and firm CPO prices. CPO and PK prices are expected to stay healthy but downstream is now expected to remain weak, thus FY25F core EPS is cut by 14% to 117.1 sen and TP is cut by 9% to RM21.00 but MARKET PERFORM rating is maintained.

FY24 CNP fell 12% YoY to account for only 75% of Kenanga, and 72% of consensus, estimate. Adjusting out net fair value gain (RM150m), net forex loss (RM128m) and net impairment charge (RM160m), FY24 CNP stood at only RM729m as 4QFY24 penciled in a barely profitable RM2.8m profit. CNP slipped on weaker downstream and continuing losses from UK-associate Synthomer. 3Q tax of RM169m also translated to a very high effective tax rate 78%.

Otherwise, upstream PBT rose 39% YoY on higher FFB harvest (+4%), CPO prices (+0.4%) and PK prices (+15%). Net debt rose QoQ from RM8.78b (60% net gearing) to RM9.90m (67% net gearing). KLK normally declares the final dividend later but we expect a final DPS of 30 sen to firm up full-year FY24 DPS to 50 sen.

Brighter prospects expected for upstream. CY24 global edible oil inventory is edging lower YoY. A repeat is likely for CY25 as supply will probably struggle to grow faster than demand again, thus nudging inventory even lower YoY. Therefore, the supply environment is supporting of firm edible oil prices, including palm oil.

• Upstream margin is likely to expand. Malaysia sector CPO price is now expected to average at RM4,000 per MT for CY25 then easing to RM3,800 for CY26. Cost is expected to stay manageable as Indonesian FFB output recovers from El Nino which plagued yield in FY24. Weak fertiliser prices and strong PK prices helped cushion rising wages in both Malaysia and Indonesia moving into FY25-26.
• Slower downstream recovery likely. Oleochemical contribution should improve as expected but challenges at refining and other resource-based manufacturing are now expected to stay longer than expected. UK-based associate, Synthomer, is also expected to continue reporting losses into FY25 to only start breaking even in FY26 from cost restructuring and improving demand.

Forecasts. FY25 core EPS forecast is cut by 14% to 117.1 sen but we are introducing a strong FY26 core EPS of 134.9 sen (+15% YoY).

Valuations. Arising from the FY25 downgrade, TP is trimmed by 9% from RM23.00 to RM21.00 based on 1.5x PBV instead of 16x PER previously in view of further possible earning swings from provisions or restructuring charges as the downstream operations and UK-associate are still facing some headwinds. Our revised TP of RM21.00 would have implied a PER of 18x. However, a 5% premium for its 4-star ESG rating as appraised by us is still imputed into the TP (see Page 3).

Investment case. KLK has a longstanding upstream history with defensive balance sheet. Downstream margin is likely to stay challenging despite the group venturing into the less competitive and more lucrative specialty oleochemicals segment. As such we are keeping our MARKET PERFORM call.

Risks to our call include: (i) weather impact on edible oil supply, (ii) unfavourable commodity prices fluctuations, and (iii) cost inflation.

Source: Kenanga Research - 27 Nov 2024