Indofood Agri Resources - DBS Research 2018-08-02: Undemanding But Lacks Catalyst

SGinvestors.io

INDOFOOD AGRI RESOURCES LTD. SGX:5JS

Indofood Agri Resources - Undemanding But Lacks Catalyst

• Earnings revised down on still weak edible oil and fats outlook.
• Inventory drawdown to help boost volume and 3Q18 earnings.
• Profitability improvement is the key share price catalyst.
• Maintain HOLD with lower Target Price of S$0.21.

Target Price lowered to S$0.21, maintain HOLD rating.

• We have accounted for the unexpected losses in 2Q18, and lower profitability contribution from sugar business in 2H18, and its ex. LSIP plantation division in FY18 and FY19. This, we lowered FY18/19F earnings by 45%/3%. 
• Moving forward, we see some scope of a rebound in earnings in 2019, albeit limited due to still low profitability from Indofood Agri Resources (IFAR)’s edible oils and fats segment.

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Where we differ: Limited profitability expansion in sight.

• We expect margin expansion to be insignificant (which is a critical driver to IFAR’s share price). Moreover, in our view, a steady CPO price outlook means that IFAR has limited room to improve its downstream division's profitability performance.

Potential catalyst: Improving downstream division market.

• An improving downstream market may help IFAR to fix its downstream division’s profitability. For now, Indofood Agri Resources (IFAR)’s performance will be supported by its profitable upstream plantation division, such as LSIP.

Valuation: 

• We lowered our DCF-based Target Price (FY19F as base year) to S$0.21, assuming 11.6% WACC and 3% terminal growth rate. 
• Our target price implies 7% share price upside potential; maintain HOLD.

Key Risks to Our View: 

• Commodity prices. Indofood Agri Resources (IFAR)’s share price is driven by CPO price expectations and, to a certain extent, by refining margins and sugar prices. There would be downside risk to our CPO price forecast if output expands substantially ahead of industry projections. 

WHAT’S NEW - Undemanding, but lacks catalyst

Earnings revision: Earnings revision, still on margin issues.

• We accounted for the unexpected losses in 2Q18, lower profitability performance from its ex. LSIP’s upstream plantation division in FY18 and FY19, including sugar, which led us to cut FY18/19F earnings by 45%/3% to Rp194bn/Rp309bn. 
• Moving forward, we see some scope of a profitability rebound in 2019, albeit limited due to still low profitability from IFAR’s edible oils and fats segment. Our earnings revision implies 3Q18 and 4Q18 earnings estimate of Rp70bn each, which is similar to Indofood Agri Resources’ 1Q18 net earnings as we believe the inventory drawdown will help boost sales volume and revenues, besides stricter cost control.
• Our earnings forecast is below consensus - we believe Indofood Agri Resources’ edible oil and fats profitability performance will remain weak as seen in the last two years, on weak pricing trend due to competition.

What happened in 2Q18: Earnings swung into the red in 2Q18, on still weak edible oil and fats profitability.

• Indofood Agri Resources (IFAR) booked core net losses of Rp27bn, sending 1H18 core earnings to Rp54bn, below expectation. Upstream contribution contracted q-o-q due to lower top-line performance, on lower-than-expected quarterly sales volume and ASP trend of Palm Kernel (PK) despite the still robust quarterly CPO ASP and sales volume. 
• Meanwhile, Indofood Agri Resources’ downstream division was still weak. As other non-operating expenses such as SG&A and financing cost were relatively flat q-o-q, Indofood Agri Resources reported losses at the bottomline.

Rating and target price: Maintain HOLD with new Target Price of S$0.21

• Our DCF based target price of S$0.21 (WACC: 11.6% and TG: 3%) implies 11x FY19F P/E, which we believe is fair considering the weak consolidated earnings performance despite the sublime yield and productivity of its upstream division.
• Moreover, valuation premium over a pure upstream planter does not apply here, due to its subpar profitability performance. Indofood Agri Resources (IFAR)’s downstream product line also does not have strong brand power and price elasticity as pure consumer products – as it is still pretty much linked to commodities prices.
• Asset based valuation metrics reveal that upstream plantation assets are valued at EV/ha of US$2,721 per hectare which is at a 40%-50% discount vs. its upstream players, and even more vs. its Malaysian based peers, but we believe Indofood Agri Resources deserves the discount due to the lackluster performance on its edible oil and fats division. 
• Steady yield performance on its upstream division did not translate into a higher margin performance by venturing downstream.

William Simadiputra DBS Group Research Research | Rui Wen LIM DBS Research | https://www.dbsvickers.com/ 2018-08-02

SGX Stock Analyst Report HOLD Maintain HOLD 0.21 Down 0.240