ANNJOO (FV RM2.16 - NEUTRAL) FY11 Results Review: Sheltered by Provisions, Tax Incentive

Ann Joo’s FY11 net profit of RM61.7m was spot on with our estimates but below consensus. The recognition of tax incentives plus provisions made for diminution in inventories in 3Q helped to compensate for the meager steel making margins in 4Q. We  see a  slow start for 2012 as actual work  on  various mega projects may take  time  to kick start and the recovery in steel prices may be delayed. The long gestation for its newly commissioned blast furnace (BF) and recent share price rally  may have partly priced in the potential surge in steel prices. Thus, we downgrade Ann Joo to  a  NEUTRAL, with  our  FV  kept  at RM2.16, derived from 0.98x FY12 BV, or -0.5 standard deviation of the stock’s historical trading range.

Almost  on  the dot. Thanks to the recognition of tax incentives  which  resulted  in a positive tax income of RM6.2m, Ann Joo’s FY11 net profit came in at RM61.7m, almost spot on  with  our projection but below street estimates.  The  tax benefit aside, management’s decision to make provisions for diminution in inventory value amounting to RM37.9m in 3Q also  helped to  compensate for the sharp erosion  in  steel making margins in 4Q. This occured when the sharp plunge in the prices of iron ore, steel scrap and steel  gave  rise to a negative mismatch  of lower selling prices and still-high raw material costs, as there is an inherent time lag before the latter starts to decline.

Near-term outlook challenging. Although the award of mega projects is gaining pace, it may take a while for actual works to begin and eventually stoke demand for steel. That said, steel prices have  been  lackluster and  disappoint  our earlier expectations of a possible recovery in February. Thus we expect a slow start for 2012. Also, we suspect Ann Joo may start to expense any interest costs incurred for  its  newly commissioned blast furnace (BF). We also expect  the company to only enjoy limited conversion cost savings as it relies on expensive imported metallurgical coke. Meanwhile, management expects its new plant  to  take another three months to  achieve  efficiency as some ancillary equipment is on the final stage of installation. On full installation, Ann Joo may be able to fully utilise the electricity and gas generated from the BF, plus inject cheaper PCI coal to meet part of its requirement for expensive coke.

Downgrade to NEUTRAL. As the stock has put on some 14.4% since our last upgrade, we suspect that the market may have priced in a potential surge in steel prices. We now anticipate  steel prices to rebound in March, with China expected to  crank up its construction activities as it enters the spring season. As Ann Joo’s share price offers limited upside to our  FV, we  are  compelled to downgrade  it to NEUTRAL, with only a marginal tweak in our projection. We value the stock using a book-based valuation, at -0.5 standard deviation of its historical trading range, which is one notch lower than the industry’s, as we remain vigilant on the potentially long gestation period for its BF. 

Source: OSK188