FGV CEO sees three options for Felda land lease agreement

This article first appeared in The Edge Malaysia Weekly, on April 22, 2019 - April 28, 2019.
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FOR the past two or three years, there have been reports on the Federal Land Development Authority (FELDA) reviewing its land lease agreement (LLA) with FGV Holdings Bhd (formerly known as Felda Global Ventures Holdings Bhd), which has sent shivers down the spine of anyone involved in FGV.

Worse still, there is talk of FELDA taking back its plantations, which would seem like a nightmare for FGV and its shareholders.

But the question is, will FELDA pull such a stunt, and can it pull it off?

In a nutshell, as part of FGV’s flotation exercise in 2012, FELDA handed over the management of some 355,000ha of its plantations via a 99-year LLA. In return, FELDA was to receive payments of RM248 million a year for leasing its land, as well as a share of the profits at a quantum of 15% per annum.

So, basically, if FGV does well, so will FELDA as it is FGV’s single largest shareholder and benefits from the dividend payments.

FELDA’s grouse is that its 33.67%-unit FGV has only forked out an average of RM400 million a year, in contrast to FELDA’s minimum requirement of RM800 million per annum, which is largely used to manage and ensure the wellbeing of the settlers.

In an exclusive interview, FGV’s recently appointed CEO, Datuk Haris Fadzilah Hassan, says, “We have explained it a few times. In the LLA commitment, there is a formula there. There is a payment for a fixed portion of it, RM248 million. Regardless of the CPO (crude palm oil) price, we have to pay RM248 million, plus a 15% share of profits from the plantations.

“So, this formula was agreed on when they (FELDA) signed the LLA in 2012. But the CPO prices then were at RM2,800 per metric ton. Maybe due to the euphoria at that time, they believed the price would not go below RM2,800 … but today, it is below RM2,000, at about RM1,948.”

FELDA’s requirement of RM800 million would indicate that it had assumed CPO prices would remain at the RM2,800 per metric ton level for the long term.

Haris says, “The last time CPO was above RM3,000 was in 1Q2017 … it was RM3,061 … after that, it’s been sliding all the way to this point.”

At present, CPO is trading at just above the RM2,200 per metric ton level and has traded at between RM2,100 and RM2,499 over the past year.

 

Three possible outcomes

Haris sees three options in the situation: First, for things to remain status quo; second, for the terms to be renegotiated; and third, for FELDA to terminate the LLA.

While the first and second scenarios are both palatable, the possible termination of the LLA makes analysts and fund managers jittery.

On FELDA terminating the LLA, Haris says, “It’s all within their rights, but there are certain steps or procedures that have been agreed upon in the agreement. For example, they (FELDA) will have to give 18 months’ notice. Once they have given the notice, there is a calculation of compensation, which they need to pay.”

This compensation could go into several billion ringgit, considering FGV has forked out RM300 million per annum for the replanting of 15,000ha for the past seven years. FGV is also slated to undertake replanting exercises until 2026, which will bring down the average age of its trees to 12 years from the current 14.3 years.

At the point of its initial public offering, 53% of FGV’s trees were considered old — more than 23 years old. Now, 28% of the company’s trees are considered old.

“So, if anyone takes away this land, they need to replant as well, so that will cost RM300 million a year. Then they (FELDA) will have to spend on fertilising, which is between RM250 million and RM300 million [annually]. Then, they will also have to look at housing [for plantation workers], which is another RM300 million. Our manpower costs a year are about RM1 billion … So, if they (FELDA) take away the LLA, they have many commitments as well,” Haris points out.

Note that the government is injecting RM6.23 billion into FELDA for various initiatives, as stated in the recently released FELDA White Paper. This is largely because FELDA’s cash balances as at May 9 last year was only RM35 million.

FELDA suffered losses and bled the most, to the tune of RM4.9 billion, in 2017. Much of these woes have been blamed on FGV not contributing to FELDA’s earnings.

Perhaps the best-case scenario from FGV’s perspective would be a renegotiation of the LLA with a variable payment, depending on the price of CPO.

 

Impact of a termination on FGV

Haris says FGV’s 355,000ha of plantation land under the LLA only contributes 30% to the company’s fresh fruit bunches (FFB) processed.

“We get 30% of our FFB from this LLA land, 47% from FELDA-managed smallholders and 23% from third parties,” he elaborates.

It is also worth noting that the LLA only covers the estates, but the mills are owned by FGV. Thus, with the mills located where the plantations are, FGV could still end up buying FELDA’s FFB.

“So net net, I’m thinking I will still get their (FELDA’s) FFB as our mills are located near the plantations, and I can reduce billions [of ringgit] from my cost structure … Realistically, they will have to fork out a lot of money to compensate,” says Haris.

“Maybe with the compensation [from FELDA], we can get plantations with a better age profile … They (FELDA) need to look more into it as the LLA is very specific in terms of the arrangement. There is a notice period, there is a compensation formula, there are some responsibilities for the employees that need to be taken back, and from the operations side, you need to be managing 355,000ha — you have to fertilise, you have to have workers, housing, or maybe they may reappoint FGV as the management company or something, which was the model before,” he adds.

For FGV, if the LLA with FELDA is indeed terminated, it would still have its sugar business under 51%-controlled MSM Malaysia Holdings Bhd, and could venture into renewable energy or a business that generates recurring income.

“Sugar’s cycle is similar as well [to that of CPO], so we will find something that is more stable,” says Haris.

FGV is one of the biggest players in the biomass business. The empty fruit bunches (after the oil is extracted), tree trunks (after replanting) and palm kernel shell can all be used to generate electricity.

Also, FGV has 68 mills, with many of them having the potential for methane capture as well as biogas and biomass production.

“In the long run, the only two things with demand that will still grow are demand for food and demand for energy,” Haris concludes.

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