UOB Kay Hian Research 2015-07-07: Halcyon Agri Corp - A Turnaround Story. Upgrade To BUY, TP Increased.

We upgrade HACL to BUY as share price has declined 19% since our downgrade in May 15.
We forecast 2015 and 2016 net profit to increase 8.4% and 17.5% respectively due to lower financing costs, bottoming out of rubber prices and a stronger US dollar.
In addition, we think HACL is trading attractively at 7.9x 2016F PE vs peers’ average of 11.2x despite the group’s higher 2016F ROE of 20.5% (vs peers’ average of 9.6%).

On the back of:
1. lower financing costs,
2. a successful upgrade to the SGX mainboard,
3. bottoming out rubber prices, and
4. the strengthening of the US dollar,
we upgrade HACL to a BUY.
We spoke to management recently for an update on the group’s progress towards its transformation to be a rubber supply chain manager.

HACL has secured a 3-year committed US$388m financing package comprising amortisable term loan facilities of up to US$188m and working capital facilities of up to US$200m from ABN AMRO, Credit Suisse and DBS.
The group has also access to US$25m in credit facilities with EFA group.
As of 1Q15, the group’s loans had an annualised average interest rate of 5.5%.
However, post refinancing, we expect the group to incur lower financing costs on the back of additional working capital loans, which charge a lower interest rate.
As such, we lower our assumption for 2016 financing expenses from US$31m (average interest rate of 7%) to US$19.8m (average interest rate of 4.8%).
We understand management’s priorities would be to pay down the higher-cost term loans, strengthen its balance sheet and solidify its financial position.

In addition to previous debt holders Credit Suisse and DBS, HACL has managed to secure ABN AMRO as an additional book runner.
We understand these three banks will finance HACL’s new debt facilities (US$388m) equally.
In addition, compared with the prerefinancing bridging loans comprising term loans and working capital loans expected to expire in Aug 15, the new facilities ensure funding certainty and allow HACL to fortify its working capital resources and further ramp up production and distribution.

HACL’s upgrade to the Mainboard on the 29 Jun 15 marks an important milestone as it enhances the corporate status of the group.
We view the upgrade positively as this will reduce liquidity risk, elevate visibility, extend HACL’s investor base and attract a higher level of interest from institutional funds.

According to the Association of Natural Rubber Producing Countries (ANRPC), 1H15 natural rubber (NR) consumption growth of 2.3% outpaced the 0.7% yoy dip in production. Supply is tight in Vietnam and China, particularly Hainan, owing to the El Nino phenomenon that has been linked to droughts in Southeast Asia and Australia.
In addition, the International Tripartite Rubber Cooperation between Thailand, Indonesia and Malaysia has discussed with Vietnam to reduce NR supply by encouraging rubber farmers to do intercropping or utilise rubber lands for other agricultural alternatives.
Moreover, we expect the dry wintering season during February to April in Southeast Asia will likely further shore up NR prices.

According to LMC Automotive, global lightweight vehicle sales are likely to be the strongest since 2010 and China will drive growth significantly.
The principal input for automobile tyre is rubber. Tyre demand is expected to enter a recovery phase on replacement demand and improving new-car sales.
Market sentiments are that rubber prices may be bottoming out and there could be a recovery.
We note that technically specified rubber 20 (TSR20) rubber prices have increased 7.9% to US$1.49/kg as of 6 July from its one-year low of US$1.38/kg.
As a result, we raise our rubber price estimates to US$1.55/kg (+2%) and US$1.62/kg (+5%) for 2015 and 2016 respectively.

HACL’s reporting currencies as well as its sales are in US dollar while the majority of the group’s expenses are denominated in the local currency of the country where its operations are based, ie Indonesian rupiah, Malaysian ringgit, euro and Singapore dollar.
We understand HACL hedges 50-60% of its forex risk and is a net beneficiary of a rising US dollar. The group is expected to mostly benefit from a weakening Singapore dollar against the US dollar as a 10% weakening of the Singapore dollar is expected to increase profit by US$9.0m.
We note the Singapore dollar is likely to face weakness against the US dollar, given the expected uplift in interest rates in the US.

We increase our 2015 and 2016 net profit forecasts by 8.4% and 17.5% respectively and expect stronger earnings potential should any of the following occur:
1. successful capture of upstream and downstream margins,
2. ability to better manage operating costs through economies of scale,
3. acquisition of new customers,
4. sales growth, and
5. improving utilisation levels and operating efficiency.

Upgrade to BUY with a target price of S$0.73, based on HACL’s 2016F EPS of 7.04 S cents pegged to Sri Trang’s historical mean PE of 10.4x.
Given HACL’s higher 2016F ROE of 20.5% (vs peers’ 9.6%), we think the group is trading attractively at 7.9x 2016F PE, vs peers’ average of 11.2x.

(Bennett Lee, CAIA; Andrew Chow, CFA)

Source: http://research.uobkayhian.com/

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