The ups and downs of plantations in 2022

 

IT has been a tough run for palm oil players in Malaysia. Marred by the continuous negative image on a global stage on an ESG level, the plantation sector continues to be plagued by various issues ranging from fluctuating crude palm oil (CPO) prices to labour shortages.

Currently, palm oil planters have no choice but to let thousands of tonnes of fruits rot as the third year of a worker shortage has left companies unable to increase their harvesting during peak production seasons.

According to industry observers, palm oil output in Malaysia is forecast to decline, or at best remain unchanged, from last year’s 18.1 million tonnes.

“Plantations across the Southeast Asian nation are facing their worst labour crisis since the industry began in 1917, with the arrival of migrant workers that are the core of the industry’s labour force at a snail’s pace,” the Malaysian Palm Oil Association’s (MPOA) chief executive Joseph Tek, said in an interview with Reuters.

A lack of skilled harvesters means companies cannot fully capitalise on the peak harvest season that spans from August to November, forgoing a boost of growth from recent rains.

“The plantation industry is no longer at the breaking point — it has been pushed beyond the breaking point,” Tek added.

On a more optimistic tone, Plantation Industries and Commodities Minister Datuk Zuraida Kamaruddin recently said that Malaysia’s palm oil and palm-oil based products export rose by 55.2 per cent between January and June this year to RM67.48 billion.

This is compared to the RM43.47 billion recorded in the corresponding period in 2021.

According to the minister, palm oil alone contributed to 66.1 per cent of the total export earnings, which amounted to RM44.63 billion this year compared to RM28.8 billion in the same period last year.

“In terms of volume, the export of palm oil and palm oil-based products between January to June rose by 2.8 per cent to 11.47 million metric tonnes (MT) from 11.15 million MT a year ago,” she said in a statement.

“Malaysia recorded strong exports despite the drop in CPO production in the first half of 2022 (1H22). Based on statistics by the Malaysian Palm Oil Board, CPO production fell by 1.1 per cent to 8.27 million MT during the period compared to 8.36 million MT during 1H21.”

She explained the fall in CPO production is attributed to the dip in fresh fruit bunch (FFB) yield by 3.6 per cent to 6.9 tonnes per hectare during the January to June 2022 period compared with 7.16 tonnes per hectare in the same period last year.

On the other hand, Zuraida noted that the sharp rise in export earnings is partly due to the spike in CPO prices, both domestically and abroad. Between January and June 2022, CPO prices rose by 55.9 per cent to RM6,330 per MT from RM4,061.50 per MT during the same period in 2021.

 

2Q’s low luck on labour

On the 2Q22 reporting season, RHB Investment Bank Bhd (RHB Investment Bank) saw that most planters coming in line with expectations, after four consecutive quarters of beating expectations.

To note, the research firm recently revised down its CPO price assumptions, which are now RM5,100, RM3,900, and RM3,500 per tonne for 2022, 2023 and 2024.

“In Malaysia, output fell five per cent year on year (y-o-y), but rose 17.5 per cent quarter on quarter (q-o-q) in 2Q22, with most states seeing a decline y-o-y,” RHB Investment Bank recapped.

“Labour shortages continued to hamper harvesting activities, and this is expected to remain prevalent for 3Q22, given that only a trickle of workers have come in so far, with more expected by September or October.

“Workers from Indonesia are still hard to come by despite a supposed agreement being reached between Malaysia and Indonesia and some planters have started sourcing from countries like India and Bangladesh.

“In Indonesia, we saw a mix of output trends from the companies we cover – those with younger estates posted y-o-y increases in output, while those with older estates seeing y-o-y declines in 2Q22.

“However, q-o-q output saw a strong recovery across the board averaging 26 per cent for the companies we cover.

“As usual, the Association of Indonesian Palm Oil Producers’ (GAPKI) official 2Q22 CPO output trends differed – with a 15.5 per cent y-o-y drop and a 7.6 per cent q-o-q decline, bringing 1H22 FFB growth to -4.1 per cent y-o-y.”

RHB Investment Bank highlighted that despite the upcoming peak season, planters in Malaysia are now more conservative in guiding for 2H22 output given the prevailing labour shortages, with most planters expecting flattish to slight growth in FFB output in 2H22.

“Conversely, in Indonesia, most planters are now expecting higher output growth in 2H22, on the back of black bunch counts done and the rate of q-o-q growth seen in 2Q22.

“Most planters in Indonesia are now looking at FFB output to grow by single digits in FY22 despite the year to date (YTD)-decline seen in 1H22.”

 

 

CPO: Up, down, or stay pat?

Meanwhile, RHB Investment Bank gathered that average spot CPO prices rose by around 4.4 per cent q-o-q and 53.6 per cent y-o-y to RM6,533 per tonne in 2Q22, bringing YTD-June prices to RM6,397 per tonne (an increase of 55 per cent y-o-y).

The research firm noted that most planters were, however, unable to realise the high spot prices in 2Q22, due to their exposure to Indonesia and some forward-selling activities.

“Given the recent decline in prices, we see a less aggressive forward-selling stance for 2H22, as planters are nervous about price volatility and the direction of prices.

“YTD-prices are now at RM5,813 per tonne.”

For those with downstream operations in Malaysia, RHB Investment Bank observed that there were mostly higher q-o-q margins in 2Q22, given the advantage Malaysian refiners had over Indonesia during the export ban.

“We are unable to compare q-o-q margins for Indonesian players given the half-yearly reporting structure, but we expect margins for these downstream players to improve in 2H22, since the government has extended the tax levy holiday to end-October (from end-August).

“With this, Malaysian counterparts should see lower downstream margins in 2H22 given the resumption of the competitive advantage Indonesia has with this change.

“Those with biodiesel operations saw slightly higher utilisation rates in 2Q22 (versus 1Q22), which should improve further in 2H22 as discretionary blending should kick in given the positive palm oil-gasoil (POGO) spread currently.”

Firms’ earnings mixed across the board

As such, RHB Investment Bank maintained its ‘neutral’ sector call.

The research firm expects earnings to moderate in 2H22, on the back of lower CPO prices, although this would be offset somewhat by higher seasonal CPO output.

“We now have three ‘buys’, three ‘neutrals’, and one ‘sell’. Top Picks are the more integrated players: Kuala Lumpur Kepong Bhd (KLK) and IOI Corporation Bhd (IOI).”

On the other hand, the research arm of MIDF Amanah Investment Bank Bhd (MIDF Research) still maintained its positive stance on the sector for 2H of 2022 (2H22) but with a ‘neutral’ bias towards 2023.

To note, planters’ performance under MIDF Research’s coverage for 1H22 was mixed with three stocks performing better than expected, four within and two coming in below its expectations.

“The overall improvement in earnings were in line with higher CPO price realised, which hovered at around 6,000 per metric tonne (mt) levels during the 2Q22,” the research arm further noted.

“The average selling price (ASP) of CPO in 2Q22 was RM6,552.3 per mt (up 55.7 per cent y-o-y), representing a huge improvement from RM4,207.3 per mt in 2Q21.”

Among those that reported results that were below MIDF Research’s expectations were Ta Ann Holding Bhd (Ta Ann) and MSM Malaysia Holdings Bhd (MSM).

“Ta Ann earnings were dragged by losses of biological assets of -RM20.3 million coupled with lower sales volume, whilst MSM continued losses were hammered by higher production cost, mainly attributed by high gas costs, weakening ringgit against US dollar, higher freight, as well as higher refining cost from lower utilisation rate factor (UF).

“While the others, namely Sime Darby Plantation Bhd, KLK, FGV Holdings Bhd (FGV), IOI, Genting Plantations Bhd, TSH Resources Bhd (TSH) and PPB Group Bhd recorded resilient performance mainly driven by higher margins fueled by higher average CPO price realised.”

That said, MIDF Research highlighted that majority of PO producers were having slower FFB production and yield due to unusual heavy rainfall pattern during January to early June months compounded by acute harvester.

As such, the research arm expects production level to slightly improve tracking high cycle months ahead, on better weather conditions as well as returning of foreign workers in early August.

“On the other hand, subdued production outlook still ongoing for soybean on the back of drought in US and South America, in contrast there is a positive development of sunflower oil as the 3 Black Sea ports in Ukraine were reopened prompting possibly around 100 to 150 cargo ships to be out per month indicating gradual improvement on local agricultural exports.

“The CPO price expected to trading sideways circa RM4,000 per mt to RM4,500 per mt benefited from price disparity between CPO against soybean oil (SBO) price which is now around US$531 in July, based on USDA data.

“However, we also recognised its downside risk on fragile demand outlook on the back inflationary pressure coupled with tight household spending on high base interest rate locally and globally.”

 

TSH Resources likely to see weaker 2H as palm product prices drop

THE research arm of Hong Leong Investment Bank Bhd (HLIB Research) has anticipated weaker performance from TSH in 2H22, on the back of the sharp decline in palm product prices since May 2022 (following Indonesia’s decision to remove the ban on palm oil exports and market concern over rising palm oil stockpiles).

HLIB Research recapped that during 1H22, realised average CPO price increased by 52.4 per cent to RM4,941 per MT, while FFB output declined by 9.5 per cent to 437,300 tonnes.

“Near-term outlook aside, management opines that CPO price will remain supported at current levels, on the back of supply concerns arising from prolonged Russia-Ukraine conflict and weaker soybean production outlook (arising from the return of La Nina in late-2022 and early-2023),” HLIB Research said.

Meanwhile, the research arm of Maybank Investment Bank Bhd (Maybank IB Research) maintained its core PATMI forecasts as it anticipated earnings growth to slow sharply in 2H22 following recent CPO price correction coupled with cost pressures (especially higher fertiliser prices).

To note, Maybank IB Research’s core net profit for FY22, FY23 and FY24 remained at RM176 million, RM123 million and RM123 million, respectively.

“Nonetheless, 2H headline profits could be further boosted by land disposals in Kalimantan that is being completed in stages,” the research arm said.

“Pending clarity, we have yet to factor in these additional land disposal gains in our forecasts.”

As for the group’s FFB output, Maybank IB Research recapped that 1H22 FFB output (down 10 per cent y-o-y) met 47 per cent of the research arm’s full-year forecast.

“There is potential for 2H22 output to play strong catch up as the strong output in 1H21 was indeed an anomaly.”

As such, the research arm maintained its two per cent y-o-y FFB output growth forecast for FY22.

 

 

FGV sees downward pressures

FOR FGV, the research arm of Kenanga Investment Bank Bhd (Kenanga Research) maintained CPO prices at RM4,500 per MT for FY22F and FY23F at RM4,000 per MT.

“Since early June CPO prices have fallen sharply (more than 30 per cent) on seasonal supply uptrend but also aggressive Indonesian selling and still modest growth in demand,” the research arm noted.

“Nonetheless, this pending seasonal supply improvement is not likely to sufficiently address the ongoing edible oils supply tightness globally. More meaningful supply improvement will probably only emerge in 2023.”

According to Kenanga Research, it is noteworthy that beyond the downward pressures on CPO prices due supply uptrend, demand for edible oils has been subdued since 2020 as Covid-19 spread.

“However, very fundamental forces such as demographic and economic growth (urban lifestyle as well) which have been spurring three to four per cent y-o-y annual increments in demand are likely to reassert themselves over time. Elevated fossil fuel price is another factor helping to sustain demand of biofuels. Economic slowdown can dampen demand but it will probably need a severe and protracted one.”

The research arm gathered that competition-wise, palm oil is also trading at lower than usual discount to other main alternatives, notably soybean oil.

“Hence, many plantation groups believe CPO prices should hover at around RM4,000 per MT for the foreseeable future.”

 

 

Sime Darby Plant capped by labour

WITH palm oil prices having declined by more than 30 per cent since June and seasonal production uptrend in Malaysia likely capped by ongoing labour constraints, a weaker 2HFY22F earnings has been anticipated for Sime Darby Plantation.

That said, Kenanga Research noted that FY22F-FY23F Upstream earnings before interest and taxes (EBITs) are still expected to stay resilient on healthy CPO prices despite the recent price weakness.

“The tight edible oils and fats market is likely to ease only in 2023 and the recovery looks fragile as the market may potentially stay tight if demand, for example, exceeds three to four per cent y-o-y growth in 2023.

“YTD, demand, which has been affected by Covid-19 since 2020, has yet to fully normalise. Chinese imports, for example, have been subdued thus far while India is still rebuilding its inventory level.

“All in all, we expect demand to gather pace as 2023 approaches. Some key buyers need to replenish their inventories, prices are also more attractive now and elevated fossil fuel prices are creating latent demand for biofuels.

“Downstream business should also enjoy decent margins on easing raw material costs which help to offset higher energy and transportation costs.”

All in, Kenanga Research kept Sime Darby Plantation’s average CPO price at RM4,000 per MT for FY22F and RM3,500 for FY23F but nudged down FFB output by five per cent to eight million MT for FY22F. This was the research arm’s second production downgrade in three months.

“Our earlier doubts that new guest workers will not arrive on time to catch the Malaysian peak harvesting months has been confirmed by the group.”

On a recent update of Sime Darby Plantation selling land valued at RM618 million to Sime Darby Property Bhd, Kenanga Research noted that the main impact on the former is paring down its debts.

“Despite strong CPO prices, Sime Darby Plantation’s net gearing had been stickier than we anticipated. As an example, for 1HFY22, despite strong CPO prices the group’s net gearing remained at 52 to 53 per cent due to dividend payments and high working capital.

“As such, this divestment should help Sime Darby Plantation pare down its net debt of RM8.526 billion or net gearing of 52 per cent (RM6.295 billion or 39 per cent net gearing without perpetual sukuk) down to RM7.908 billion with 49 per cent in net gearing (RM5.677 billion or 35 per cent net gearing if without perpetual sukuk).

“The prospective sale should also be neutral-to-accretive on earnings depending on CPO prices.”

All in all, the research arm liked the disposal as it will trim gearing (hence associated risk) while concurrently strengthen earnings, albeit very marginally if any.

“It might also lead to higher dividends but for the moment we are keeping FY22F NDPS at 26 sen. If more of such divestment were to follow, revision to our NDPS is more likely.”

On forecasts, Kenanga Research kept Sime Darby Plantation’s FY22F CEPS (at 36.3 sen) as the research arm expects the prospective sale to conclude only towards the end of the year.

Meanwhile, the research arm nudged up FY23F CEPS by one per cent (29.7 sen) as interest saving should offset the loss of palm oil income derived from the land being sold.

“However, FY22F PATMI should see a disposal gain of around RM600 million as Sime Darby Plantation’s estates in Selangor have a carrying value of only RM36,000 per hectare.”

 

 

Lower outlook for Genting Plantations

MEANWHILE, Kenanga Research also maintained Genting Plantations’ average CPO price at RM4,500 per MT for FY22 and for FY23 at RM4,000 per MT.

“However, we are toning down fruit production from a five per cent y-o-y increase in FY22 to three per cent.

“Higher production cost is also expected to dampen margins from rising wages, fertiliser and transportation costs.”

According to the research arm, labour constraint remains another concern as well as sudden disruptive weather changes as had occurred earlier this year.

“With peak CPO prices most probably behind us, Genting Plantations’ forward earnings will hinge largely on improving contributions from its Indonesian estates as well as continual recovery from the non-plantation businesses.

“Whilst merger and acquisition (M&A) cannot be totally ruled, the group is more likely to focus on improving its plantation operations especially in Indonesia where there is still land issues to be resolved, infrastructure to improve and new mills to build.”

As such, Kenanga Research upgraded FY22F core earnings per share (CEPS) by six per cent to 59.2 sen due to better downstream contributions but cutting FY23F by three per cent on prospects of higher estates expenditures which has been delayed in FY22 such as manuring.