Better y-y profits in 2Q08 on higher output, CPO prices
FFB growth to help buffer lower CPO prices
Still well positioned for longer-term growth
BUY
Price RM2.26
Market capitalization RM933 million
Analyst Linda Koh
TSH Resources’ earnings results in 2QFYDec2008 were slightly below our expectations. We attribute this to higher cost of production for the palm and bio-integration arm as well as weaker earnings from its subsidiary, Ekowood.
Total turnover was up a strong 60.6% y-y to RM338.9 million in 2Q08. This was due, primarily, to the near doubling of revenue from its palm and biointegration business – where revenue rose to RM261.8 million from RM134.6 million in the previous corresponding quarter.
The better revenue was driven by higher fresh fruit bunch (FFB) throughput and selling prices. FFB processed in 2Q08 is estimated to have increased by about 35% y-y, of which about 15% was harvested from its own plantations. The company has a very high percentage of immature area, which will gradually yield higher output in the next few years.
Meanwhile, selling prices for crude palm oil (CPO) averaged at around RM3,250 per tonne in 2Q08, well above the RM2,300 per tonne in the previous corresponding quarter.
However, operating earnings for palm and bio-integration improved by just about 27% y-y to RM29 million from RM22.9 million in 2Q07. We believe this was due to higher costs, particularly for fertilizer as a result of sharply higher crude oil prices.
Contributions from TSH-Wilmar, the company’s jointly owned associate, were also higher at RM11.3 million compared to RM2.9 million in 2Q07. The company operates a CPO refinery in Sabah.
Aside from plantation-related businesses, TSH’s cocoa processing arm also fared very well. Revenue was 49% higher y-y to RM45 million in 2Q08, on the back of higher throughput and cocoa butter ratio. Operating earnings improved to RM6.4 million, up from RM3.4 million in 2Q07.
On the other hand, the wood products business, primarily held under Ekowood, did not do as well. Revenue fell by 31% y-y to RM32.1 million, dragged down slowing sales in most of the company’s key markets including the US, Europe and South-west Pacific. Local sales also dropped by about 40% y-y in 2Q08 to RM3.7 million. The domestic market accounted for some 12.5% of total sales during the quarter.
In all, TSH’s pre-tax profit rose 46.3% y-y to RM43.7 million in 2Q08. Net profit grew by a lesser margin of 31.6% y-y to RM29.5 million due to higher effective tax rate of 22% during the quarter, compared to 12% in 2Q07.
Outlook and recommendation
TSH’s share price has fallen sharply in the past few weeks, in line with the sell-off in plantation stocks as CPO prices tumble.
The outlook for CPO has turned distinctly more bearish, at least for the near term. Prices had been holding fairly steady at around RM3,500 per tonne since retreating from record high of RM4,486 per tonne in early March – but started falling precipitously in mid-July. Benchmark futures contracts traded on the Bursa Derivatives have now dropped below RM2,700 per tonne.
The fall was triggered, primarily, by weaker crude oil prices – crude futures on the New York Mercantile Exchange fell from US$147 per barrel to the current US$116 per barrel. Lower crude oil prices translates into less financial incentive to produce biofuel, for which corn and other oilseeds including CPO are used as feedstock. The drop in crude oil prices has pushed prices for most commodities lower.
Malaysia’s production of CPO has also been rising faster than demand in recent months. Stock levels rose above 2 million tonnes in June as higher average prices deterred buyers. Global crop production outlook has also improved some with more favourable weather conditions.
Currently, the market expects CPO prices to fall further in the next few months. 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. We are still fairly positive on the longer-term outlook for CPO. Global consumption of edible oils should continue to grow at a steady pace.
Cheaper CPO prices could also revive stalled biodiesel programs. For example, the government is reassessing the possibility of using up to 500,000 tonnes of CPO for biodiesel production. Previously, high prices rendered such projects economically unfeasible.
Elsewhere, demand for biofuel is supported by mandatory quotas in the US and Europe. 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. The use of crops, primarily corn, as feedstock for biofuel has been blamed for spiraling food prices.
TSH 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. High double-digit growth in FFB processed will also lend some support going forward.
We are revising our earnings forecast down by about 6% in 2008, after taking into account weaker CPO prices and Ekowood earnings. We are, however, keeping our CPO price forecast of RM2,800 per tonne in 2009-2010. 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. But sentiment for the stock would likely remain subdued as investors wait for CPO prices to stabilize.
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