KINSTEL (FV RM0.49 - NEUTRAL) 1QFY12 Results Review:Some Cheer From Upstream Ops

Kinsteel posted a  net profit of RM10.3m in 1QFY12 as its  upstream operations turned around  on the back of cheaper iron pellets feed, which  boosted margin. The positive start for the year  was  also attributed to contribution  from  its downstream operation, which saw  healthy sales. Although we expect  its  rolling margin to remain stable, we have recently  cut  our volume assumption on expectation of physical steel demand picking up only in 2013 as the market shifts its focus to the next General Election. Although this will be compensated by better margin from  its  upstream op as the spread gets more  favorable, we  are staying NEUTRAL on Kinsteel. Our Fair Value of RM0.49 is derived from 0.73x FY12 BV, or -0.5 standard deviation of its historical trading range.

Positive start. Kinsteel posted a net profit of RM10.3m in 1QFY12, a sharp reversal from the previous six consecutive quarters of losses, which was mainly dragged down by poor performance at its upstream operation via 37%-owned Perwaja. At last, the narrowing of the premium of iron ore pellets over fine from USD70-plus to USD35 per tonne due to the the fall in  iron ore pellets price,  helped Kinsteel’s  iron-making  unit  chalk  up a  profit as Direct Reduced iron (DRI) selling prices benchmarked  against  scrap metal price remained relatively high. Furthermore,  Kinsteel’s downstream rolling mills  – which typically enjoyed stable albeit low margins - also generated a profit of RM6.6m during the period due to healthy sales but partially offset by its Gurun plant’s RM4.6m loss in 1Q.

Is there hope for an upstream makeover? We  still think that Perwaja will  secure the iron ore mining concession at Bukit Besi, Terengganu,  although the state government has yet to officially award it. Perwaja is also building a concentration and pelletizing plant which it hopes will boost its profitability. Meanwhile, we understand there is some delay in the target date for commissioning while its concentration plant may start trial run in July 2012. This  aside, there are generally no major concerns over Kinsteel’s downstream operation due to its stable margin, although there is caution over near term demand.

Maintain NEUTRAL. We are not pinning too much hope on this business since the implementation of mega projects under the ETP may encounter delays. Thus, we have recently trimmed our rolling volume. However, our estimates for Kinsteel are largely unchanged as we expect the better iron-making margin from cheaper iron ore pellets to more than compensate for the negative impact arising from  the  potential delay in the commissioning of the concentration and pelletization plant at Perwaja. Meanwhile, we are relieved  that  Kinsteel  has  returned to the black, but prefer to keep our NEUTRAL call,  with an  unchanged Fair Value of RM0.49,  derived from 0.73x FY12 BV, or  -0.5 standard deviation of its historical trading range.

Source: OSK