This article first appeared in The Edge Financial Daily on November 12, 2018
KUALA LUMPUR: There has been much discussion about the US-China trade spat and its impact on semiconductor, steel and automotive companies. But a company that has been largely overlooked by investors is Bursa Malaysia-listed PPB Group Bhd, which is becoming an indirect casualty of the spat.
PPB, controlled by the Kuok family, holds an 18.3% stake in Singapore-listed commodity trader Wilmar International Ltd, which contributed 78% of PPB’s net profit of RM1.21 billion for the financial year ended Dec 31, 2017 (FY17) — up 15% from RM1.05 billion for FY16.
And the earnings contribution from Wilmar to PPB’s profit is expected to be a major earnings driver for both FY18 and FY19, according to analysts.
But lately, things have not been quite as rosy for Wilmar, the world’s largest producer of consumer pack edible oils, as it sees the utilisation of its crushing plants in China being affected by China’s move to impose import tariffs on US soybeans.
Wilmar reportedly has more than 50 crushing plants in China as well as a number of joint ventures, while China is the largest buyer of soybeans in the world and needs US imports to satisfy demand.
However, China in July imposed a retaliatory 25% import duty on US soybeans as part of the tit-for-tat trade dispute. As a result, Chinese crushers are turning to soybeans from Brazil and Argentina, even though they have to pay a higher price for these beans and will translate into thinner margins. Soybeans are crushed to make cooking oil and soymeal, a protein-rich animal feed ingredient.
On Aug 13, in conjunction with the release of Wilmar’s financial results for the second quarter of FY18 (2QFY18), its chairman and chief executive officer Kuok Khoon Hong warned that a prolonged dispute between the US and China would have a negative impact on its crush margins due to lower plant utilisation.
Wilmar reported a 30% increase in net profit for the first half of FY18 (1HFY18) to US$519.68 million (RM2.17 billion), from US$400.94 million for 1HFY17, helped by its oilseeds and grains segment that benefited from higher volumes and crush margins.
However, a Bloomberg Intelligence analyst believes that Wilmar’s earnings in the following quarters will be less rosy, as profits made in its other segments will not be able to provide the extra cushion needed.
“Wilmar’s 3QFY18 profit is likely to be lower than a year earlier on deteriorating crush margins, which may have worsened despite [the] China soybean meal price surge. Higher soybean prices have squeezed crush margins by around 17%,” wrote the analyst, Ashley Kim, in an Oct 30 report.
“The soybean inventory purchased prior to the trade war could help blunt some of the impact, yet bright spots in other segments may not be enough,” Kim added.
That shift away from US beans by China saw US soybean sales to China through mid-October slumped 94% from last year, the latest federal data revealed.
Last Thursday, Reuters reported that the US Department of Agriculture (USDA) had raised its US 2018-19 ending stock forecast to 955 million bushels, from 885 million previously. The increase reflected a 160 million bushel drop in the USDA’s soybean export forecast amid reduced sales to top global buyer China.
According to DBS Group Research economist Irvin Seah, US soybeans, now a politically sensitive product, may still find its way to China instead of being substituted by soybeans of other producing countries like Brazil and Argentina.
“This (the widened spread) reflects concerns about demand for US exports to China falling, but perhaps also reflects some rerouting of exports from the US to Argentina, en route to China,” he wrote in a report dated Nov 5.
But while this is a possible outcome, it is evident that fewer Chinese companies are directly buying soybeans from the US. American farmers of the crop are reportedly watching as their harvests accumulate in hills on the verge of rotting, hoping for any price rebound.
Seah noted that two things have ensued since the US fired its first salvo in March: US soybean prices have corrected by about 15% and the spread between US and Argentine soybean prices has widened to 15%-18%.
While a change in its price direction will be key to China-based soybean crushers like Wilmar, which are increasingly concerned over thinning margins, Areca Capital Sdn Bhd chief executive officer Danny Wong Teck Meng said soybean prices are now much more difficult to gauge.
“It is no longer just a case of demand and supply, but more so a policy-driven commodity. If companies have the pricing power, they would not mind pricing it (higher costs) in,” he told The Edge Financial Daily.
“What we worry about is managing the timing gap between the commodity’s futures, and that is when the companies may have to contend with lower margins,” Wong added.
Inter-Pacific Securities head of research Pong Teng Siew said the main factor determining soybeans’ price direction going forward will likely be the meeting between Chinese President Xi Jinping and US President Donald Trump at the Group of Twenty summit later this month.
“Those harvested stocks are approaching the end of their shelf life. But once that is written off, farmers may look to plant other crops [depending on the outcome of the Xi-Trump meeting] and next year could be a different picture entirely,” he added.
Meanwhile, as trade tensions threaten global growth, Wilmar could once again delay its listing of its China business, which The Edge Malaysia weekly on April 3 quoted insiders as saying a listing was seriously being evaluated to take place next year.
The positive news flow surrounding a potential initial public offering of Wilmar’s China operations has also helped kept PPB’s share price supported. PPB’s share price has risen by 22% over the past year to close at RM16.98 last Friday, lifting its market capitalisation to RM24.16 billion.
During the same period, Wilmar shares have fallen by 5% to close at S$3.15 (RM9.55) last Friday from S$3.32 on Nov 13 last year, valuing the stock at S$19.93 billion.