This article first appeared in The Edge Financial Daily, on October 27, 2015.

Jaya Tiasa Holdings Bhd
(Oct 26, RM1.28)
Maintain neutral with a higher target price (TP) of RM1.40: We believe the El Nino’s impact on the edible oil supply will be its biggest ever given its strength and high global reliance on palm oil. In the mild El Nino in 2009 to 2010, the palm oil price went ballistic as production stagnated.

Given that the current episode is a stronger one and could match the 1997 to 1998 El Nino, the impact on production will be more severe with Indonesia potentially experiencing a decline in production next year. Unlike the last two episodes, there will be little or no mitigating factors from an increase in oil palm hectarage since Indonesia’s new planting has been slowing in the past few years.

While soybean supply is still healthy, rapeseed crop has already been hit. We believe a perfect storm is due in the second half of 2016 as the La Nina weather follows the El Nino closely and could bring a drought to soybean areas. This could happen while palm oil production is suffering its sharpest yield decline due to the 12-month drought impact.

We lift our crude palm oil (CPO) price assumptions for Jaya Tiasa to RM2,450 per tonne for the financial year ending June 30, 2016 (FY16) (from RM2,350), RM2,725 for FY17 (from RM2,550), and RM2,750 for FY18 (from RM2,600). With that, our earnings have been adjusted upwards by 7% to 16% for FY16 to FY18 (forecast).

With the earnings revision, our sum-of-parts-based TP for Jaya Tiasa has been raised to RM1.40 (from RM1.25). We maintain our TP-price-earnings ratio (PER) of 15 times 2016 for the plantations division, our discounted cash flow valuation for the log division, and a replacement value calculation for its plywood division.

We highlight that every RM100 per tonne change in the price of CPO could affect Jaya Tiasa’s earnings by 6% to 8%. We maintain our “neutral” recommendation on the stock. Despite the positive impact of higher CPO prices, we believe its earnings will be held back by the still young age of its estates, which continue to incur high production costs. We expect a more significant turnaround for the plantation division to come in FY17 to FY18.— RHB Research Institute, Oct 26