SELL
Price
Target Price
Market Cap
Shares Outstanding (million)
Investment Highlights
We maintain a SELL on Indofood Agri-Resources (IFAR) even though its share price has fallen below our target price. We see little potential for a re-rating as CPO prices are expected to remain under pressure. Our target price is based on FY09F PE of 10x.
We are revising IFAR’s FY08F earnings forecast downwards by 25% to account for lower CPO price assumption of RM3,000/tonne versus RM3,500/tonne previously and higher-than-expected minority interest.
IFAR preferred not to give a view on CPO prices as CPO prices have been volatile in the past couple of weeks. However, in its results announcement yesterday, another plantation company, Wilmar International Ltd said that CPO prices are expected to remain subdued for the rest of the year due to ample supply and moderating demand.
IFAR’s plantation operating margins shrank YoY and QoQ in 2QFY08 not only due to increased fertiliser costs but also because of subsidiary, PP London Sumatra’s (LonSum) higher operating cost structure.
Going forward, to streamline costs, IFAR plans to cut LonSum’s headquarter expenses, reduce reliance on third-party contractors for transportation of fruits and increase proportion of own estates compared to the high-cost Plasma estates.
We understand that group operating cost is currently US$300/tonne. Excluding LonSum, IFAR’s operating cost would have been US$205/tonne to US$220/ tonne.
The cooking oil division continued to do well in 2QFY08. Demand for cooking oil in Indonesia remains strong in Indonesia despite a 60% increase in selling prices YoY. However, demand for industrial margarine has been weakening due to high prices.
1HFY08 PRE-TAX IN LINE
After adjusting for the Rp646bil gains from changes in fair value of biological assets, Indofood Agri-Resources (IFAR)’s 1HFY08 net profit fell short of expectations due to higher-than-expected minority interest and taxation expense. On the pre-tax level, however, core profit was in line with estimates.
FY08F earnings estimates revised down by 25% - This is to account for lower the CPO price assumption of RM3,000/tonne for FY08F and higher minority interest arising from PP London Sumatra (LonSum). Our previous assumption was an average CPO price of RM3,500/tonne for FY08F.
CPO price outlook not given - Interestingly, IFAR chose not give a view on the trend of CPO prices as they have been very volatile in recent weeks.
However, in its results announcement, Wilmar International said that palm oil prices more likely to remain subdued for the rest of the year due to ample supply from Malaysia and Indonesia and moderating demand resulting from a slowing global economy.
Plantation operating margin declines - This is largely due to higher fertiliser costs and increased fertiliser application in 2QFY08 compared to 1QFY08. We understand that fertiliser accounts for 25%-30% of total production costs currently versus 15%-20% previously.
IFAR said that they have locked-in supply of fertiliser for 2HFY08 but not the price. Hence, if fertiliser costs decline due to falling crude oil prices, then there is a possibility that IFAR would benefit from lower fertiliser costs in 2HFY08.
Comparing 1HFY08 against 1HFY07, group plantation operating margin shrank from 61% in 1HFY07 to 49.5% in 1HFY08. Apart from increased fertiliser costs, the erosion in margin was also due to LonSum’s higher operating costs.
Group operating cost/tonne is about US$300/tonne currently. We understand that without LonSum, Indofood Agri-Resources’ operating costs would be between US$205/ tonne to US$220/tonne.
Delays in planting programme - IFAR’s planting plan is to cultivate 30,000 ha to 35,000 ha of land into oil palm estates annually. However, there has been delays this year due to the rainy season in 1HFY08. As at end-June 2008, only about 7,000 ha of land were planted.
IFAR would try to catch up with its planting programme in 2HFY08. Despite this, the size of planted areas in FY08F is likely to fall short of the internal target. The group estimates that about 25,000 ha to 30,000 ha of land would be planted this year compared to the internal goal of 30,000 ha to 35,000 ha.
Cooking oil demand remains strong
Operating profit of the cooking oil and margarine division surged 483.3% YoY to Rp147bil in 1HFY08 underpinned by an increase in the sales volume of cooking oil and higher selling prices for both cooking oil and margarine.
IFAR has increased the selling price of its cooking oil products by six times since December last year. We understand that the average selling price of the cooking oil division rose by nearly 60% YoY in 2QFY08. Despite this, sales volume of cooking oil remains resilient, growing by 18% YoY to 207,684 tonnes in 1HFY08.
The same cannot be said for the margarine division. Sales volume of industrial margarine shrank by 8% YoY to 80,948 tonnes in 1HFY08 as demand was affected by higher selling prices.
IFAR’s market share in the branded cooking oil segment in Indonesia increased from 42% as at end-FY07 to 45% currently.
SELL MAINTAINED
Although IFAR’s share price has fallen below our target price of S$1.50, which is based on 10x FY09F PE, we are maintaining our SELL recommendation on the group. We see little catalyst for share price- rerating due to uncertainties in the outlook for CPO price.
Going forward, IFAR is expected to continue with its costcutting measures for LonSum. Some of these measures include reducing LonSum’s corporate expenses and using own trucks instead of relying on external contractors to transport its fruits. However, to be conservative, we have assumed that group plantation operating margin would remain flat at 51% in FY09F.
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