BUY
Price RM2.26
Market capitalization RM933 million
insider asia Analyst Linda Koh
Year-to-date CPO production outpaces demand growth
Downward momentum likely to persist in near term
Bearish sentiment for plantation stocks
But TSH’s shares trading at modest P/E of 7.6x 2008/////Key stock statistics 2007 2008E
EPS (sen) 22.5 29.6
P/E (x) 10.0 7.6
DPS (sen) 6.5 8.9
NTA/share (RM) 1.53 1.74
Issued capital (mil) 413.0
52-week price range (RM) 2.17-3.88
Major shareholders (%)
Datuk Dr Kelvin Tan Aik Pen 10.0%
Tunas Lestari 9.6%
Share Price Chart
Plantation Sector Update
The outlook for crude palm oil (CPO) has turned distinctly bearish in the near to medium term.
After averaging at around RM3,485 per tonne for the first seven months of the year, CPO prices tumbled sharply in the past month. Benchmark futures contracts traded on the Bursa Derivatives are currently trading well below RM2,600 per tonne.
The fall was triggered by sharply lower crude oil prices. After rising to all-time record high of US$147 per barrel in mid-July, crude oil futures on the New York Mercantile Exchange are now hovering around US$113 per barrel, down by some 23%.
This latest price retreat was fuelled by concerns that the slowing global economy will hurt demand. There are nascent indications that oil consumption in the US is starting to slow while China reported lower imports in July. The US and China are the world’s largest and second biggest oil consumers, respectively. A stronger US dollar has further accelerated the fall in crude oil prices and most other commodities.
Cheaper crude oil prices translates into less financial incentive to produce alternative biofuel, for which corn and other oilseeds including CPO are used as feedstock.
There were also some concerns that mandatory biofuel quotas in the US and Europe could be suspended or delayed. Usage of food crops to produce biofuel has been blamed for rising prices for food worldwide.
On the supply side, global crop production outlook has also improved with more favourable weather conditions. The recovery in stockpiles for many edible oils has weakened prices further.
Malaysia’s production of CPO has been rising at a faster pace than demand, so far this year. CPO output up to July increased by some 21% y-y to 9.76 million tonnes. Exports, on the other hand, have grown by a lesser 16% y-y to 8.33 million tonnes during the same period.
As a result, stockpiles have grown – to as high as 2 million tonnes in June. Stock levels were pared back slightly to 1.98 million tonnes in July on the back of higher exports. However, it appears that the momentum for CPO remains downward biased, for now.
While global consumption of edible oils should continue to grow at a steady pace, expectations of double-digit CPO production growth in 2008-2009, could keep stock levels high.
Looking further ahead, much will depend on the direction of crude oil prices, weather conditions that could affect planting and harvests as well as the strength in demand.
For instance, we may see renewed stocking up by buyers if CPO prices continue to slide, especially heading into the later part of the year where demand is seasonally stronger. That would help pare down existing stockpiles.
Cheaper crude oil prices will reduce the incentive to produce alternative biofuel. On the other hand, lower feedstock prices could also revive stalled biodiesel programs. While CPO prices remain high, these projects are economically unfeasible.
So far, the government has issued more than 90 biodiesel licenses, with total production capacity of up to 10 million tonnes. However, recent reports indicate only 12 plants, with capacity totaling 1 million tonnes, are currently up and running – and most are operating at well below capacity. Total output this year is estimated to be less than 100,000 tonnes.
At lower CPO prices, utilisation levels could trend higher. Also, the US Environmental Protection Agency recently rejected calls to suspend a federal mandate on biofuel, which requires the usage of 9 billion gallons in renewable fuels this year. The mandate increases annually to 36 billion gallons in 2022. This bodes well for the biodiesel industry.
We have previously assumed CPO average selling prices of RM2,800 per tonne in 2009-2010 in our earnings forecast. We are keeping these assumptions for the moment, while waiting for prices to stabilize.
Impact on TSH Falling CPO prices are expected to weigh on earnings for most plantation companies.
The impact on TSH Resources is likely to be slightly more tempered. It has locked-in about one-third of projected CPO sales at about RM3,400 up to March 2009. This will buffer the company somewhat in the current sharp price correction. We lowered our average selling prices from RM3,200 per tonne to RM3,100 per tonne in 2008.
High double-digit growth in fresh fruit bunches (FFB) processed will also lend some support to earnings going forward. We estimate total throughput increased by over 20% y-y in 1H08. The company has a very young palm oil age profile. Currently, most of the FFB processed are acquired from external parties. We expect output from its own plantations to increase at a rapid clip in the coming years.
The company’s investment in downstream refinery, a joint venture with Wilmar International, helps diversify some earnings risks. The company is doing well and is estimated to account for roughly 25% of TSH’s pre-tax profit this year.
TSH’s cocoa processing business too generates fairly steady earnings and cash flow. The business is mature with little capital expenditure required. Cocoa processing accounted for about 16% of operating earnings (excluding unallocated expenses) in 1H08.
TSH’s shares are current trading at relatively modest P/Es of 7.6 and 8.3 times our estimated 2008-2009 earnings. Thus, we maintain our BUY recommendation.
Profit & Loss Analysis
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