This article first appeared in The Edge Financial Daily on July 6, 2018

IJM Plantations Bhd
(July 3, RM2.25)
Maintain sell with an unchanged target price (TP) of RM1.84: IJM Plantations Bhd’s share price has corrected by approximately 20% since we downgraded the stock to “sell” from “buy” in November 2017. However, we do not see any silver lining as its shares would continue to be bogged down by weak earnings due to high production costs and depreciation charges. Our recent meeting with the group’s management reaffirmed our view that the group is set to face another tough year ahead.

Management guided that FFB production for financial year 2019 (FY19) is estimated at 1.02 million tonnes (+9.35 year-on-year [y-o-y]), underpinned by increases in planted areas in Indonesia reaching maturity and yield recovery in both Malaysia and Indonesia estates from the effects of El Nino. We understand that approximately 6,000 to 8,000ha of young plants in Indonesia will move into prime age over the next two years. Management expects fresh fruit bunch (FFB) production to improve further in the second half during the peak season of harvesting in September to October in Malaysia, and November to December in Indonesia. Note that for the first two months of FY19 (2MFY19), FFB production decreased by 3% y-o-y to 164,000 tonnes, mainly due to a high base effect (2MFY18: +43.9% y-o-y). We are conservative in our forecasts and expect FFB production to be slightly lower than management’s estimates at 982,000 tonnes for FY19.

FFB yield has dropped significantly since FY16 as a result of proliferation of young plants in Indonesia and the impact of El Nino. However, management expects its FY19 average FFB yield to improve from 18 tonnes per hectare in FY18 to 19 tonnes per hectare in FY19, followed by 20 tonnes per hectare in FY20.

IJM Plantations has about 10,000 employees currently in Malaysia and Indonesia. According to management, every RM100 hike in minimum wage will reduce its earnings by approximately RM4.5 million (assuming that IJM Plantations will need to bear the full impact). The cost of production (include palm kernel credit) in Malaysia is estimated to be around RM1,612 per tonne in FY18, while Indonesia’s is about RM2,142 per tonne (on the industry high side). Management guided that production cost for FY19 should increase marginally as the group has already purchased 75% of the fertiliser requirements at the same price paid in FY18. Management guided that the capital expenditure requirement for FY19 is approximately RM120 million (cater mainly for its Indonesia operation).

Note that IJM Plantations’ quick ratio has declined from 5.8 times in FY10 to 0.8 times in FY18 as the group has mostly funded its new planting programme via borrowings. This strategy would tend to lower cost of capital. However, it has limited the cash flow available for dividend payments and finance cost would remain high over the next few years. Moreover, young plant maturity in Indonesia would still require higher fertiliser application, palm maintenance and overheads, which would continue to put pressure on its bottom line. Having said that, no fundraising exercise is needed to be undertaken at this moment. However, as a pure upstream player, any downside risk to crude palm oil prices may deteriorate its balance sheet quality further. There’s no change to our earnings forecasts. Note that we have already factored in higher depreciation charges due to the adoption of Malaysian Financial Reporting Standards (MFRS) 116 and MFRS 141. We maintain our “sell” call on IJM Plantations with an unchanged TP of RM1.84 per share, based on an unchanged 24 times price-earnings ratio for calendar year 2019. — TA Securities, July 5