Plantation – Regional - UOB Kay Hian 2019-09-06: CPO Prices Rising

WILMAR INTERNATIONAL LIMITED (SGX:F34) BUMITAMA AGRI LTD. (SGX:P8Z)

Plantation – Regional - CPO Prices Rising

We remain positive on the recovery in CPO prices on the back of lower production growth with older-age profiles, replanting in Malaysia and a lack of fertiliser application. There is no major impact from a weak El-Nino on 2019 production, but there might be a mild impact in 2020.
Biodiesel demand would continue to be the main catalyst as Indonesia and Malaysia are targeting to implement B30 and B20 biodiesel mandates respectively.
Maintain MARKET WEIGHT.

Two speakers were invited to our UOB Kay Hian Palm Oil Seminar to share their news on the palm oil market outlook and the impact of reduced fertiliser application on productivity.
The recovery in CPO prices would continue on the back of:
1. lower production growth after a strong recovery in 2018;
2. smaller areas coming into maturity; and
3. lower FFB yield due to the lack of fertiliser application from end-18.

Additional 5% import duty for RPO. India added another 5% import duty on refined palm oil (RPO) products from Malaysia to 50% on 4 Sep 19. However, the speakers shared that this might not affect Malaysia’s exports of palm oil to India, mainly due to the strong palm oil demand in India where palm oil is cheaper than other soft oils.
Smaller new mature areas. New plantings in Malaysia and Indonesia have slowed down significantly since 2015. This structural change might start to impact global palm oil supply from 2023 as there are limited mature areas coming on stream. There are also limited new planting areas due to more stringent sustainable policy and lower CPO prices.
Replanting in Malaysia withdrawing supply from market. A sizeable proportion of ageing oil palm in Indonesia (24%) and Malaysia (29%) needs to be replanted. Some companies have started to replant aggressively. Replanting will affect production growth for at least five years. For example, Malaysia replanted 80,000-100,000ha a year, and this would potentially withdraw about 1m tonnes of CPO from the market.
Healthy soybean inventory. The current soybean stock is at 107m tonnes, which is still good and with no shortage in the 2018/19 season. However, the current drought and fire in Brazil (mainly Mato Grosso which contributed about 30% of total soybean production in Brazil) may have some impact on soybean production in the 2019/20 season where the planting season begins in September-October.

Palm oil is the largest feedstock used in biodiesel production, contributing about 37% (estimate 40% for 2019) of total biodiesel production in 2018. There are some challenges coming from the EU which has proposed to phase out palm oil biodiesel usage by 2030. The EU uses 3.9m- 4.0m tonnes of palm oil for biofuel. We remain positive on biodiesel demand as Indonesia and Malaysian are able to soak up an estimated additional 3.3m tonnes of palm oil with the implementation of B20 and B30 biodiesel mandates respectively.

Dr Lee from FGV Bhd shared that fertiliser application is correlated to planters’ profitability. With the lower fertiliser application at end-18, this would have more significant impact on production in 2020. In 1H19, fertiliser sales dropped by 30% y-o-y. The reduction in fertiliser application usually occurs when palm price is low, as fertiliser cost is a major cost component that makes up about 30-40% of total production cost.
Based on field research by Dr Lee, if planters stop applying fertiliser, FFB yield would drop by as much as 39% compared with FFB yield under full fertiliser application.

Mr Ling from Ganling Sdn Bhd shared that there will be no major supply disruption due to benign weather in 2019. Some areas in the East Coast and Peninsular Malaysia have drier weather due to a weak El Nino. However, the current weak El Nino conditions will have some mild impact on supply in 2020. Global production is forecast to reach 73m tonnes in 2019 and 75m tonnes in 2020.
We expect CPO prices to continue to recover if Malaysia inventory levels continue to drop to below 2.4m tonnes.

We maintain our CPO price assumptions at RM2,100/tonne (US$525) and RM2,250/tonne (US$562.50) for 2019-20 respectively.

2019 should see higher biodiesel usage, supported by the expanded biodiesel mandates in Indonesia and Malaysia. 7M19 biodiesel consumption in Indonesia was 3.49m kl, 56% of the full-year target of 6.2m kl by the Indonesia Biofuel Producers Association.

Maintain MARKET WEIGHT on the sector as CPO prices should have bottomed and downside risk is cushioned by improving soybean prices. We also expect palm oil oversupply to ease, leading up to 4Q19-2020. CPO prices have started to recover in August, up 15% from the recent low of RM1,865/tonne in Jul 19.
For pure plantation play, we maintain BUY on BUMITAMA AGRI (SGX:P8Z) for its higher production growth on the back of its its younger age profile, as well as compelling valuation.
We re-iterate our BUY on WILMAR INTERNATIONAL (SGX:F34) for better 2H19 earnings and rerating from the listing of its China operation – Yihai Kerry Arawana towards end of 2019. Selldown post weak 2Q19 is not justifiable as 2Q is seasonally the weakest quarter for Wilmar.

Leow Huay Chuen UOB Kay Hian Research | Jacquelyn Yow UOB Kay Hian | https://research.uobkayhian.com/ 2019-09-06

SGX Stock Analyst Report BUY MAINTAIN BUY 4.500 SAME 4.500

BUY MAINTAIN BUY 0.730 SAME 0.730