Plantation - UOB Kay Hian 2016-08-19: 2Q16 Results Review ~ Tight FFB Supply Supports CPO Prices

Plantation - UOB Kay Hian 2016-08-19: 2Q16 Results Review ~ Tight FFB Supply Supports CPO Prices Plantation Sector FIRST RESOURCES LIMITED EB5.SI  BUMITAMA AGRI LTD P8Z.SI  WILMAR INTERNATIONAL LIMITED F34.SI  GOLDEN AGRI-RESOURCES LTD E5H.SI  INDOFOOD AGRI RESOURCES LTD 5JS.SI 

Plantation – Singapore - 2Q16 Results Review: Tight FFB Supply Supports CPO Prices

  • 2Q16 results were below expectations, except for First Resources, as CPO production was lower than expected. 
  • All companies lowered their 2016 FFB production growth guidance after the low 1H16 production. CPO prices recovered from the recent low of RM2,188/tonne as the market starts to realise supply is really tight, especially in Indonesia, and the yield recovery will come later (peaking in 4Q).
  • Higher production in 2H16 and better ASP will translate into higher 2H16 earnings.
  • Maintain OVERWEIGHT.



WHAT’S NEW


2Q16 wrap-up: Mixed set of results. 

  • 2Q16 earnings of Bumitama Agri (BAL) and Golden Agri-Resource (GGR) were below expectations, Wilmar’s in line and First Resources’ (FR) was above expectations. 
  • Overall, all companies registered weaker yoy FFB production in 2Q16, with only FR recording better qoq FFB production.

Production to pick up in late-September. 

  • Most of the companies indicated that FFB production remained weak in July, affected by the one-week Eid Fitr holidays. We understand the rainfall has normalised in 1H16. However, the lagged impact from the El Nino will still suppress yields. 
  • For 1H16, most of the companies’ FFB yields declined by 18.8-32.5% yoy. 
  • All in all, we are expecting FFB production to pick up from Sep 16 to Dec 16, and about 60% of the year’s production will be harvested in 2H16.

Revised down FFB nucleus production guidance. 

  • During the 2Q16 results briefing, all the plantation companies under our coverage revised down their FFB nucleus production guidance as the FFB production recovery has been slower than expected. 
  • BAL adjusted its guidance by the most and is now expecting 2016 FFB production to decline 5-10% yoy (+8% yoy previously). On average, companies are expecting production to drop 15% yoy (previously -5%). This is also in line with the revised guidance by Indonesian companies.

Recovery in CPO prices to support 2H16 performance. 

  • CPO’s 3-month futures recovered 17% to RM2,561/tonne from the low of RM2,188/tonne on 12 Jul 16. One of the key factors was tight fresh fruit bunches (FFB) supply. 
  • We gather that the total FFB nucleus production for the top 12 plantation companies with estates located in Indonesia declined 20.4% yoy in1H16 (refer to RHS table). Apart from this, the other key factors were: 
    1. higher exports from Indonesia and Malaysia, and 
    2. stable demand from Indonesia’s biodiesel programme.


ACTION


Maintain OVERWEIGHT. 

  • We expect CPO prices to stay firm and trend higher into 1H17.
  • We forecast CPO prices of RM2,500/tonne for 2016 (2015: RM2,158) and RM2,600/tonne for 2017.

Top picks. 

  • Singapore-listed plantation companies are still our preferred picks. We like: 
    1. BAL (Target: S$1.25) for its stronger earnings growth driven by positive production growth and highest leverage to CPO prices, 
    2. FR (Target: S$2.00) for its efficiency in keeping costs low, being a beneficiary of Indonesia’s biodiesel mandate and earnings momentum picking up in 2H16 to reflect higher ASP and production, and 
    3. GGR (Target: S$0.42) for its highest beta to CPO prices.


ESSENTIALS


FR’s and Wilmar’s plantation division outperformed. 

  • FR’s plantation and palm oil mills segment reported a strong performance on higher inventory drawdown and higher-than-expected CPO ASP. This led to a higher EBITDA margin in 2Q16. 
  • On the other hand, Wilmar’s tropical oils segment also registered good results, attributed mainly to higher sales volume from the downstream business.

BAL’s production recovery slowed down. 

  • In 1H16, FFB production declined 17.6% yoy to 834 tonnes. The slow recovery in FFB production prompted management to revise down its FFB nucleus production growth guidance for 2016 from +8% yoy to -5% yoy and at worst -10% yoy. 
  • We are maintaining FFB production to fall 3.6% yoy in 2016 as we believe BAL’s FFB production is likely to be supported by newly mature areas as well as its young oil palm trees approaching the prime age.

GGR’s refinery margin squeezed in 2Q16 as refiners need to pay higher prices to get feedstock. 

  • GGR’s 2Q16 EBITDA margin was squeezed to 0.8% (1Q16: 4.9%, 2Q15: 2.0%) as weakening palm oil supply compressed refining margins. 
  • Similar to FR, GGR suffered an EBITDA loss of US$7.2m in 2Q16, bringing 1H16 EBITDA to -US$4.1m. The loss was mainly due to GGR paying premium prices for CPO in order to secure more feedstock for its refining operations. 
  • Indonesian refineries are facing a shortage of feedstock due to low FFB production after the worst El Nino in 2015. Refiners have to offer higher prices than global prices to get more CPO.



SECTOR CATALYSTS


Weather disruption. 

  • Agricultural production has been impacted by extreme weather. Any negative impact from the weather would be positive to prices. 
  • We observe that hot spots in Indonesia are increasing mom in Jul 16 which could affect production.

La Nina. 

  • Despite some cooling of the tropical Pacific Ocean surface waters, ENSO indicators remain neutral and well shy of La Niña thresholds. A La Niña watch (indicating a 50% chance of La Niña forming later in 2016) remains, but if La Niña does develop, it would most likely be weak. Should La Nina develop this year-end, soybean production will be affected and this will lead to higher soybean prices.


ASSUMPTION CHANGES

  • None.


RISKS

  • Backtracking of biodiesel mandate in Indonesia and Malaysia with weak crude oil prices. 
  • Demand rationing due to strong recovery in CPO prices.




PEER COMPARISON 





Singapore Research Team UOB Kay Hian | http://research.uobkayhian.com/ 2016-08-19
UOB Kay Hian Analyst Report BUY Maintain BUY 2.00 Same 2.00
BUY Maintain BUY 1.25 Same 1.25
SELL Maintain SELL 3.05 Same 3.05
BUY Maintain BUY 0.42 Same 0.42
HOLD Maintain HOLD 0.80 Same 0.80


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