PPB Group - The worst may be over…

We are upgrading our recommendation on PPB Group (“PPB”) to an OUTPERFORM from a MARKET PERFORM with an unchanged Target Price of RM14.38. We believe that the worst could be over for PPB as its FY13E earnings is expected to improve 17% YoY after seeing its 9M12 core earnings declined by 30% YoY. FY13E earnings growth will be supported by an expected return to profitability at Wilmar’s Oilseeds and Grains (OAG) division and a better prospect at Wilmar’s palm oil downstream business due to its 50% capacity expansion in Indonesia in 2H12. Near term, the share price downside should be supported by its book value of RM11.75 as at 3Q12. Our Target Price of RM14.38 is  based on 20.8x Fwd PER of its FY13E EPS of 69.1 sen. The 20.8x Fwd PER valuation is based on a -0.5 SD from its 3-year average Fwd PER.

Worst may be over for PPB. PPB’s 9M12 core net profit saw a decline of 30% YoY to RM536m due to a loss before tax of US$93m in Wilmar’s OAG division in 1H12. However, things have since turned more positive for the division, which recorded a PBT of US$60m in 3Q12. Hence, we believe PPB’s FY13E earnings should recover 17% YoY to RM819m mainly due to the improved earnings prospect from Wilmar. We believe Wilmar’s OAG division should register a PBT of US$150m in FY13E, reversing its expected loss in FY12E as soybean price should normalise in 2013 due to more soybean supply coming into the market from Brazil and Argentina. This should ease Wilmar’s OAG division cost pressure and make its margin more attractive.

To reap the benefit from Wilmar’s Indonesia palm oil downstream capacity expansion of 50% in 2012.  We believe that Wilmar should have completed its plan to increase its CPO downstream capacity by 3.5m mt or 50% to 10.5m mt in 2H12. This should be reflected in its 4Q12 results onwards and hence should augur well for PPB’s FY13E earnings.

Limited downside risks as valuations are near trough level. PPB is currently trading at 17.4x FY13E PER or at a 21% discount to its 3-year average Fwd. PER of 21.9x. The stock is also trading at FY13E Fwd. PBV of 0.94x or at a 31% discount to its 3-year average Fwd. PBV of 1.36x. We believe the relatively high discount to its long term average valuation indicates limited downside from its current level. For the immediate term, PPB’s downside should be supported by its book value of RM11.75 as at 3Q12.

3Q12 result is the best among planters under our coverage. PPB’s 3Q12 core earnings improved 9% to RM249m and this outperformed the other planters’ core earnings, which declined in the range of 3% to 54%. PPB’s good results here were mainly due to the higher contribution from Wilmar (+29% YoY to RM231m). In 3Q12, Wilmar's business segments did generally well except for its “Oilseeds and Grains” (OAG) and plantation upstream segments.

Least sensitive to CPO price changes. We expect every RM100 decline in the average CPO price to cause an earnings decline of only 1.0% for PPB. This is the lowest impact among planters under our coverage, which typically have earnings decline in the range of 4%-8% for every RM100 drop in the average CPO price. Note that PPB earnings is more diversified through its exposure to Wilmar’s businesses in soybean oil processing, palm oil downstream and sugar related operations. In FY11, contribution from Wilmar makes up 75% of PPB Profit Before Tax and we expect it to stay high at 66% in FY12E and 68% in FY13E.

Source: Kenanga