This article first appeared in The Edge Financial Daily on October 11, 2017

Ann Joo Resources Bhd
(Oct 10, RM3.75)
Initiate buy with a target price of RM4.40: We estimate Ann Joo Resources Bhd to record core profit growth of 22.91%, 10.01%, and 8.54% to RM211.4 million, RM232.6 million, and RM252.5 million in the financial year ending Dec 31, 2017 (FY17), FY18 and FY19 respectively, supported by top-line growth as well as a better profit margin from its manufacturing division.

Ann Joo has become one of the most cost-efficient steel players after it successfully developed and incorporated the hybrid blast furnace-electric arc furnace (BF-EAF) technology into the steel production flow. This BF-EAF technology allows Ann Joo to enjoy better cost control in raw-material input and operational flexibility through adjusting the usage of the feedstock such as iron ore, coke and scrap metal for manufacturing of steel products. The flexibility in switching the ratio of feedstock enables the group to manage the input cost efficiently based on the market-price fluctuation of the raw materials. In addition, the off-gas that is produced during the manufacturing process can be used to support the rolling-mill process instead of using natural gas, which can help further lower total cost of production. Hence, the group has achieved cost leadership through cost optimisation in production, which helps it produce relatively cheaper steel products with better margins in comparison with other domestic players.

In Malaysia, demand for steel remains sluggish mainly due to delays in roll-outs of some of the government’s mega projects. However, the steel price, especially for long products, has been trending up mainly due to decreasing imports from China. This allows steel players to have better bargaining power regarding the domestic steel price. Nevertheless, we expect the steel price to be sustainable once the progress of all the mega infrastructure projects such as mass rapid transit line 2, light rail transit, Damansara-Shah Alam Expressway, Duta-Ulu Klang Expressway, Bukit Bintang City Centre, Merdeka PNB 118 Tower accelerate. This should serve as a major catalyst that upturns domestic demand for steel over the medium term. We believe Ann Joo will be the major beneficiary, being one of the major steel suppliers to the large infrastructure projects.

As far as capital expenditure (capex) is concerned, we expect Ann Joo to allocate about RM20 million a year for maintenance capex. Other than maintenance capex, we do not think the group will incur huge additional capex for further plant expansion in the foreseeable future.

Ann Joo has fixed a dividend policy of up to 60% payout. We expect the group to continue to reward shareholders in the coming years by maintaining about 50% payout for both FY17 and FY18 and a higher 55% for FY19 as the group may reserve some earnings to withstand any unforeseen circumstances as well as capitalising on potential attractive business opportunities. This will translate into dividend per share of 21 sen for FY17, 22 sen for FY18, and 26 sen for FY19 or dividend yields of 5.5%, 5.9% and 6.8% for FY17, FY18, and FY19 respectively. — TA Securities, Oct 10