Plantation - UOB Kay Hian 2017-06-22: Supply Outweighs Demand, Downgrade To MARKET WEIGHT

Plantation - UOB Kay Hian 2017-06-22: Supply Outweighs Demand; Downgrade To MARKET WEIGHT Plantation Sector BUMITAMA AGRI LTD. P8Z.SI FIRST RESOURCES LIMITED EB5.SI GOLDEN AGRI-RESOURCES LTD E5H.SI WILMAR INTERNATIONAL LIMITED F34.SI

Plantation - Supply Outweighs Demand; Downgrade To MARKET WEIGHT

  • We downgrade the regional plantation sector to MARKET WEIGHT in view of rising risk of significant CPO price weakness going into 2018 due to the oversupply of palm oil by mid-18. 
  • Our latest checks reveal that palm oil production could make a greater-than-expected recovery but demand has not been able to absorb the additional supply and amid strong competition from record soybean supplies. 
  • We trim our 2018 CPO ASP assumption to RM2,400/tonne from RM2,500/tonne.



WHAT’S NEW


Greater-than-expected production recovery. 

  • The CPO production recovery in 1Q17 was stronger than expectations. Oil World has lifted its 2017 global CPO production estimate to 65.81m tonnes (+11.7% yoy) from 64.95m tonnes, driven by expected higher production from Indonesia. 
  • Meanwhile, market expectations of Malaysia’s CPO production have been raised to 19.5m-20.0m tonnes (+12.6-15.5% yoy) for 2017 from 18.8m-19.0m tonnes (+8.5-9.7% yoy). We forecast inventory at 2.1m-2.3m tonnes as at end-17, which is equivalent to 1.24-1.36 months of production.

Demand unable to absorb additional palm oil supply. 

  • There is no change to our expectation of a marginal improvement in demand (net add of 1.5m tonnes) in 2017. Demand growth is mainly driven by small increases in imports from China and India, while Indonesia’s biodiesel demand is likely to be marginally lower than or similar to 2016’s level. 
  • We understand that Indonesia’s delivery of biodiesel to the public sector obligation (PSO) segment of the diesel market was slightly slower in May-Jun 17, which could lead to a lower take-up rate for 2017. 
  • Longer-term demand growth will be crimped by the global decline in palm oil consumption due to food safety concerns and the campaign against palm oil.

Expect another year of strong soybean production. 

  • Soybean has recorded five consecutive years of good production. Based on Oil World’s latest forecast, soybean supply for 2016-17 is expected to grow 8.3% yoy, surpassing demand growth of 4.0% yoy, resulting in stock levels likely to approach 100m tonnes at the end of the 2016/17 season. 
  • The high stock levels are keeping a lid on soybean prices, which in turn is capping palm oil prices.


ACTION


Downgrade regional plantation to MARKET WEIGHT. 

  • We downgrade Singapore plantation to MARKET WEIGHT from OVERWEIGHT, and Malaysia plantation to UNDERWEIGHT from MARKET WEIGHT. This is because: 
    1. production recovery is stronger than expected, 
    2. demand has not been able to absorb the additional supply, and 
    3. there is ample soybean supply from the US and South America.
  • Plantation stocks are expected to underperform the market when CPO prices weaken. We trim the Singapore plantation sector’s PE to 13x from 15x, while ascribing a 5-year mean PE to Malaysia’s plantation sector.
  • After making earnings adjustments to take into account the new CPO price assumptions, we: 
    • Downgrade First Resources to HOLD from BUY.
    • Downgrade Genting Plantations, IJM Plantations, Sime Darby and Sarawak Oil Palms to SELL from HOLD.
    • Maintain BUY on Bumitama Agri, Wilmar International and Kim Loong Resources.
    • Maintain HOLD on Golden Agri-Resources and Kuala Lumpur Kepong.
    • Maintain SELL on IOI Corporation and TH Plantations.


ASSUMPTION CHANGES


Maintain CPO ASP assumption for 2017 but trim 2018 ASP.

  • CPO ASP stands at RM2,999/tonne (+19.9% yoy).
  • For 2017, we maintain our CPO ASP forecast at RM2,600/tonne as CPO prices could fall to as low as RM2,200/tonne when production picks up in 2H17. However, we trim our 2018 CPO price forecast to RM2,400/tonne (from RM2,500) as we expect: 
    1. a strong production pick-up, 
    2. lacklustre demand, and 
    3. ample supply of soybean.


SECTOR CATALYSTS

  • Higher biodiesel consumption.
  • Potential development of El Nino in 2H17.
  • Worse-than-expected labour shortage.


RISKS

  • Backtracking of biodiesel mandates in Indonesia and Malaysia.






Singapore Research Team UOB Kay Hian | http://research.uobkayhian.com/ 2017-06-22
UOB Kay Hian SGX Stock Analyst Report BUY Maintain BUY 1.03 Down 1.250
HOLD Downgrade BUY 1.95 Down 2.150
HOLD Maintain HOLD 0.34 Down 0.450
BUY Maintain BUY 4.400 Same 4.400



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