Kenanga Research starts coverage of Sime Darby Plantation with 'market perform'

PETALING JAYA: Kenanga Research has initiated coverage on Sime Darby Plantation Bhd with a "market perform" recommendation at a target price of RM5.50, on the account of the plantation giant’s market leadership position, emphasis on sustainable palm oil production, fresh fruit bunch (FFB) production recovery, research and development efforts and integrated operations.
The research house gave a 5% premium to Sime Darby Plantation’s forward price-to-earnings ratio (PER) at 26 times against the 25 times of average valuation given to its integrated peers, namely IOI Corp and Kuala Lumpur Kepong Bhd.
However, Kenanga Research said Sime Darby Plantation's high net gearing of 0.56 times may preclude mergers and acquisitions (M&As) and previous production setbacks have pushed up unit production cost.
With it being the largest plantation company (by planted area) and among top three in the world for milling capacity, FFB production and refining capacity as well as producing 4% of global palm oil production of which 98% is certified sustainable palm oil (CSPO), the research house said this affords the group a pricing premium of an estimated US$20/metric ton (MT) or more depending on oil grade.
In FY16-17, severe droughts had resulted in production being flat, which also led to slow earnings recovery and high production cost/MT.
However, going forward, yields are expected to improve in line with the industry of 8% for higher FY18-19 FFB production of 4%-7%.
Kenanga Research also highlighted that as an integrated planter with both upstream plantations and downstream manufacturing, Sime Darby Plantation’s earnings are less affected by crude palm oil (CPO) price movements as lower CPO prices lead to lower downstream feedstock cost, despite its CPO prices are expected to soften by 6%-10% to RM2,417-RM2,569 given sector wide production recovery.
Meanwhile, the research house said the group's "Mission 25:25” aim of producing FFB at 25MT/hectare and 25% oil extraction rate target by year 2025, is within reach with long-term productivity outlook looking positive, implying a compound annual growth rate (CAGR) of 6% per year based on its CPO production estimates.
“Our projections indicate the targets should be achievable, with estimated FFB yield of 24.6MT/ha and OER (oil extraction rate) of 24.8% by 2025 through the use of high-yield planting material and technological improvements."
On dividend policy, Kenanga Research said Sime Darby Plantation's strong cash flow of between RM1.65 billion and RM1.7 billion for FY18-19 “should easily support” the management’s minimum dividend policy of 50%.
“Based on historical payout ratio (ex-FY17 which saw a large one-off land transaction boosting net profit) of 66%, we anticipate FY18-19E payout ratio at 65% for DPS (dividend per share) of 13.0-14.0 sen/share, which translates to a decent dividend yield of 2.4-2.6% (vs sector average of 2.6%)."
Sime Darby Plantation's share price gained 52 sen or 9.5% to close at RM6 last Friday on some 18.3 million shares done.