This article first appeared in The Edge Malaysia Weekly on June 25, 2018 - July 1, 2018

GUAN Chong Bhd, Asia’s largest cocoa grinder, has started to boost production after six years of curtailing output.

It is investing RM70 million this year in a facility in Pasir Gudang, Johor, owned by Koko Budi Sdn Bhd — a rival company it acquired in June last year for RM17 million.

The added grinding capacity is not huge in terms of Guan Chong’s overall production, but it marks the time for the group to grow again, says Brandon Tay Hoe Lian, CEO and a major shareholder of the group with a 55.31% stake as at April 2.

The Johor-based group has remained largely under the radar in the past three years, as it recovered from a net loss of RM17.56 million in the financial year ended Dec 31, 2014 (FY2014), on lower margins as a result of an oversupply situation in the cocoa ingredient market.

According to the 53-year-old Tay, the group spent the period from 2015 to 2017 mopping up the extra capacity at its two cocoa processing plants in Pasir Gudang and Batam, Indonesia.

In 2011 and 2012, the group had more than doubled its annual grinding capacity to 200,000 tonnes from 80,000 when it set up the plant in Batam. The expansion followed the Indonesian government’s move to slap an export tax on locally grown cocoa beans in April 2010. Guan Chong sources most of its cocoa beans in Indonesia.

However, the group was not alone in pursuing opportunities in Indonesia. Increased requirements from Guan Chong and other players then led to a shortage of Indonesian cocoa beans.

In 2014, the problem was exacerbated by an oversupply situation in the global cocoa industry, particularly cocoa powder, as well as the slowdown in demand in emerging and developed markets, which dealt a huge blow to prices.

“Suddenly, we found ourselves with so much capacity and our global distribution network was not in place yet to ‘digest’ the excess capacity,” Tay tells The Edge in an interview.

Since then, smaller players have left the Indonesian market, which helped bigger companies like Cargill Inc, JB Foods Ltd and Guan Chong to regain their footing.

“This business requires huge investment. In the last three years, we continued to invest in our production facilities to make them more efficient, even though this may not be apparent to investors. We put in more machinery, more checking,” says Tay.

It worked. A year ago, the margins came back. After the blip in FY2014, Guan Chong’s net profit has steadily increased in the past three years, growing to RM22.76 million in FY2015, RM42.58 million in FY2016 and RM91.05 million in FY2017.

Its net profit surged nearly sevenfold to RM39.33 million in the first quarter ended March 31 (1QFY2018) — traditionally the group’s weakest quarter — and if it maintains its performance for the three remaining quarters, Guan Chong is set to surpass its previous highest profit of RM121.65 million for FY2011.

However, Tay declined to give specifics, just saying that he expects Guan Chong’s net profit to be stronger this year than it was in FY2017 as its existing capacity of 200,000 tonnes is already fully taken up by secured orders until end-2018.

Tay adds that the group will pay out dividends this year, but it won’t be too generous as it needs to conserve cash for expansion.

Now that demand is back up again, the group is struggling to handle the surge, resulting in delivery delays, as there is not enough capacity available to meet the demand. Its two cocoa processing plants in Pasir Gudang and Batam, capable of grinding 200,000 tonnes per year, are running at full capacity.

The Koko Budi facility will add 50,000 tonnes to the existing annual grinding capacity when it is commissioned in August, and even then the capacity has been fully taken up.

Nevertheless, Tay considers this a “happy” problem. With the added capacity, Guan Chong will be the world’s fourth largest cocoa grinder after Barry Callebaut AG, Cargill and Olam International Ltd.

Guan Chong is investing RM80 million, including the RM70 million in the Koko Budi facility, in its existing operations to shore up its capabilities to help meet capacity demand for the next couple of years.

Tay notes that Asia consumes 600,000 tonnes of solids per year, with Guan Chong supplying only about 80,000 tonnes. Thus, he sees tremendous potential for the company to grow in this region. At the same time, it is looking outside Asia for new growth.

“The global demand for cocoa products is seasonal. We cannot put all our eggs in one basket,” he says.

The group is actively exploring the expansion of its global reach to Europe and South America to be near end users. It is prepared to invest at least RM100 million should suitable opportunities arise, Tay adds.

He is well aware that there are far more established players in South America, but he believes there is a lack of grinding facilities there. Nevertheless, Guan Chong is mindful to add capacity only after it has customers lined up, avoiding the same problem it had in 2014 when it expanded its capacity too fast.

“Previously, when we expanded our production from 80,000 tonnes to 200,000 tonnes, it took us three to five years to digest it. This time we want to make sure our sales and distribution networks are strong first, only then will we set up our facilities there,” says Tay.

He declined to reveal whether the group will acquire an existing business like Koko Budi or set up a new grinding facility from scratch, except to say that it plans to fund any new venture using internal funds and borrowings.

Guan Chong’s gearing level stood at 1.4 times as at March 31, with cash and cash equivalents totalling RM41.8 million and borrowings of RM738.1 million.

“While it is important for us to be here, as Asia is growing, we definitely have to venture outside the region too. An annual grinding capacity of 250,000 tonnes is good, but I think our market can be bigger than that. We should grow. Already, most of our current production is being absorbed by Asia,” says Tay.

According to the International Cocoa Organisation, world cocoa production is 4.5 million tonnes this year.

Guan Chong currently has a presence in the US through its wholly-owned subsidiary Carlyle Cocoa Co LLC, which has a cocoa cake and butter grinding facility in Delaware with a capacity of 7,000 tonnes per year.

In September last year, the company won a bid to acquire the assets of two US companies for RM33.96 million in a sale authorised by a bankruptcy court in New York. The assets comprise a fully-furnished building with its inventory in New Jersey, a butter melting plant, a butter deodoriser plant and a liquor melting plant.

Tay says he plans to move the facility in Delaware to New Jersey, where Guan Chong now owns about five acres of land.

“We will invest another RM3 million to RM4 million to revamp the newly acquired facility, which is currently 60% utilised,” he adds.

Guan Chong currently trades at a price-earnings ratio of 6.6 times, which is a discount to its bigger rivals — Singapore-listed Olam that trades at 11.85 times and Switzerland-listed Barry Callebaut at 28.95 times. Smaller rival, Singapore-listed JB Foods, trades at 6.62 times.

Guan Chong’s share price has fallen 17% this year from RM2.14 on Jan 2. It closed at RM1.78 last Wednesday, giving the group  a market capitalisation of RM817 million.

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