Regional Plantation - UOB Kay Hian 2017-05-08: Indonesia Biodiesel Volume Below Market Expectations

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Plantation Sector GOLDEN AGRI-RESOURCES LTD E5H.SI FIRST RESOURCES LIMITED EB5.SI INDOFOOD AGRI RESOURCES LTD. 5JS.SI WILMAR INTERNATIONAL LIMITED F34.SI BUMITAMA AGRI LTD. P8Z.SI

Regional Plantation - Indonesia Biodiesel Volume Below Market Expectations

• Indonesia is expected to consume up to 1.35m kilolitres (1.19m tonnes) of biodiesel in May-Oct 17. This is lower than market expectations as the market was expecting a volume similar to that of the third biodiesel contract. This is negative to the sector as the market had been expecting Indonesia’s biodiesel demand to absorb the excess supply which will come on stream in 2H17. 
• Meanwhile, we reckon the old biodiesel pricing of CPO base price+US$125/tonne will remain for now. 
• Maintain OVERWEIGHT.

WHAT’S NEW

Fourth biodiesel procurement contact for PSO segment of 1.35m kl was below market expectations. 

• According to Directorate-General of New and Renewable Energy at Energy and Mineral Resources Ministry (EBTKE), Indonesia’s state energy companies Pertamina will get 1.35m kiloliters (kl) (or 1.19m MT) for the period May-Oct 17. This caught us by surprise as the amount is below market expectations. 
• The market had been expecting a volume similar to that of the third biodiesel contract of close to 1.5m kl. The awarded volume is lower than the volume awarded for Nov 16-Apr 17 (1.51m kl or - 10.6% hoh) and for May-Oct 16 (1.51m kl or -10.8% yoy). 
• On the flipside, AKR Corporindo will get a higher supply of 24,000 kl from 6 companies (+14.3% hoh, +47.8% yoy).

Old pricing mechanism remains unchanged for now. 

• No new biodiesel pricing had been mentioned in this announcement. Thus, we reckon that the old biodiesel pricing with a formula of CPO base price+US$125/tonne could be maintained for now. 
• However, we do not rule out the possibility of BPDP reducing biodiesel pricing in the near term with a formula of CPO base price+US$100/tonne vs the current CPO base price+US$125/tonne for the PSO segment, while allocating part of the CPO fund to facilitate subsidies of up to Rp2,000/litre for the non-PSO segment in order to increase the subsidised volume to support the CPO prices.

Impact on companies. 

• In the fourth announcement, the allocations to Wilmar (WIL SP), First Resources (FR SP) and Bumitama (BAL SP) are lower, which decreased in the range of 15-31% hoh compared with the third contract. We believe the adjustment was made as more biodiesel capacities have come on-stream. 
• There are three new players included in the fourth contract - Dabi Biofuels, Sinarmas Bio Energy (Golden Agri’s (GGR) 97.2%-owned subsidiary) and Kutai Refinery Nusantara. Despite the awarded volume having decreased, we reckon that companies will still generate positive returns as they will be supported by the subsidy scheme.

ACTION 

Maintain OVERWEIGHT. 

• We expect CPO prices to stay firm in 1H17 and to weaken in 2H17 when production recovers and inventory starts to pile up. We forecast CPO prices would average RM2,600/tonne for 2017 (2016: RM2,653) and RM2,500/tonne for 2018.
• We are reviewing our sector weighting on the back of: 
  1. increase in palm oil supply in 2H17 on the back of production recovery, 
  2. demand being weaker than expected on lesser demand from Indonesia biodiesel blending and stagnant demand from key importing countries such as China and India, and 
  3. anticipation of ample soybean supply from the US.
• CPO prices are likely to weaken in 2H17, given that production is expected to pick up, while demand will be stagnant. Thus, only companies with high production growth will be able to offset the weakening CPO prices. 
• All in all, Singapore-listed plantation companies are still our preferred picks. 
• We like Bumitama (BAL/Target: S$1.25) for its young tree age profile, which spells strong production, and because it consistently delivers a high OER. 
• We also like First Resources (FR/Target: S$2.15) for its efficiency in keeping costs low and strong FFB production growth, as well as Kim Loong (KIML/Target: RM4.20), Astra Agro (AALI/Target: Rp19,045) and Sampoerna Agri (SGRO/Target: Rp2,300).

ESSENTIALS 

2016 biodiesel realisation volume higher than targeted. 

• Based on Indonesia Biodiesel Bulletin, the biodiesel realisation volume of 2.6m kl is higher than targeted volume of 2.50m kl. 
• For 2017, the targeted volume for Jan 17-Oct 17 is about 2.35m kl. Thus, the biodiesel volume from the PSO segment for 2017 is likely to match 2016’s level of 2.6m kl, but could be lower than earlier market expectation of 2.8m-3.0m kl.

SECTOR CATALYSTS 

• Weather disruption. Agricultural production is usually impacted by extreme weather. Any negative impact from the weather would be positive to prices.
• Demand from key importing countries picking up significantly. Higher demand from Indonesia’s non-PSO.

ASSUMPTION CHANGES 

• No change on our CPO price expectations for 2017-18.

RISKS 

• Backtracking of biodiesel mandates in Indonesia and Malaysia.

Singapore Research Team UOB Kay Hian | http://research.uobkayhian.com/ 2017-05-08

UOB Kay Hian SGX Stock Analyst Report HOLD Maintain HOLD 0.450 Same 0.450

BUY Maintain BUY 2.150 Same 2.150

NOT RATED Maintain NOT RATED 99998.000 Same 99998.000

HOLD Maintain HOLD 3.500 Same 3.500

BUY Maintain BUY 1.250 Same 1.250