This article first appeared in The Edge Malaysia Weekly on November 18, 2024 - November 24, 2024

AS poor harvests and production shortfall push up cocoa bean prices globally, the rise is benefiting bean processors such as Guan Chong Bhd (KL:GCB), which saw its first-half net profit more than triple. However, as its earnings grew, so did its borrowings.

The group saw an addition of RM1.26 billion to its debt in the first six months of 2024.

Last month, credit rating agency Malaysian Rating Corporation Bhd (MARC Ratings) flagged Guan Chong’s RM800 million sukuk programme, issuing a “negative outlook” to reflect its concern about the high and volatile cocoa bean price environment and its impact on the world’s fourth-largest cocoa grinder’s financial health. Guan Chong had created the sukuk programme in 2020 to finance the group’s working capital and capital expenditure (capex) requirements in support of the ongoing expansion of its international operations.

Guan Chong managing director and CEO Brandon Tay Hoe Lian says while the change in the credit outlook is worrying, he maintains that the increased borrowings were a normal injection of working capital, and that the company’s higher gross gearing remains “within our expectations”.

“The increase in short-term borrowings was unavoidable. The high (cocoa bean) prices affected not only us but also other cocoa ingredient producers in the industry, driving up our working capital needs and resulting in negative operating cash flow,” he says in response to questions from The Edge.

Guan Chong’s cocoa bean purchases at the prevailing prices led to borrowings rising to RM3.4 billion as at the end of June 2024 from RM2.2 billion as at the end of 2023. The borrowings outpaced equity growth, leading to a net gearing ratio of 1.79 times at the end of June 2024 up from 1.21 times at the end of 2023. This was despite net profit surging 207% to RM159.03 million for the six months ended June 30, 2024 (1HFY2024) from RM51.88 million a year earlier.

Tay says it was necessary for Guan Chong to tap into short-term borrowings to ensure it could continue to meet clients’ needs.

“Using our cash alone will not be sufficient to sustain our operations. However, if you net off the short-term borrowings that are mainly used for working capital, our net gearing ratio is less than 0.5 times. So, we are not overly concerned,” he adds.

Given the surge in cocoa bean prices, the group is working closely with its bankers, suppliers and customers to face the challenges at hand.

“Firstly, in terms of working capital needs, our banks understand the current situation and have been willing to provide us with the financing we need, allowing us to keep our operations going.

“At the same time, we have also been in close communication with our clients, negotiating to shorten the credit terms and encouraging prepayments to ensure healthy collections. Additionally, we are requesting extended credit terms from our suppliers,” explains Tay.

It also helps that Guan Chong is able to pass on the increase in prices.

“While we are paying higher prices for the beans, our clients are purchasing at higher prices too. Over time, the cash flow generated will cover our bean purchase costs, helping us better manage our finances. We maintain strong relationships with our clients and bad debts have consistently been minimal,” Tay says.

According to him, this year’s historic price rally has peaked.

“During the period of 2Q2024 to 3Q2024, cocoa bean prices were trending at high levels of US$8,000 per tonne to US$12,000 per tonne. We foresee bean prices stabilising and trending between US$6,000 per tonne and US$8,000 per tonne, supported by crops from newly planted trees. Therefore, we are hopeful of better grinding margins next year.

“If cocoa bean prices start to trend lower, we should see a lower level of short-term borrowings. Likewise, as bean prices decline, we expect grinding margins to improve with the decrease in our raw material costs, which will help improve cash flow. At the same time, global chocolate product prices will become more affordable from lower cocoa ingredient prices,” he notes.

According to commodities broker Marex Group, the industry is projecting a modest surplus in cocoa bean supply of more than 100,000 tonnes (4.83 million tonnes of bean production vs 4.69 million tonnes of bean grinding) in the upcoming 2024/25 season from Oct 1, 2024 to Sept 30, 2025.

Guan Chong’s cash and bank balances stood at RM157.3 million at the end of June 2024.

Tay says the group does not have immediate plans to raise capital on the capital market. “We are taking prudent measures to safeguard our financial position and remain focused on ensuring there’s fluid cash flow in our operations.”

In October, Guan Chong signed a memorandum of understanding (MoU) with Conseil Du Café-Cacao (CCC), the Coffee-Cocoa Council of Ivory Coast, and Transcao Negoce to explore the potential acquisition of a 25% stake in Transcao Côte d’Ivoire (Transcao CI), which is involved in cocoa processing, manufacturing and distribution.

In an Oct 10 note, RHB Research says the proposed venture will give Guan Chong quick access to additional capacity at minimal capex, helping it secure bean supply to capture the current robust market, while CCC stands to benefit from production efficiency and Guan Chong’s established international sales channel.

CCC oversees Ivory Coast’s annual cocoa bean production of about two million tonnes, which accounts for around 40% of the global supply.

On this, Tay says: “Following the MoU, we are still in the early stages of discussions and will only finalise the details in three months.

“Our orders in hand for cocoa ingredients remain resilient, driven by our clients meeting chocolate demand from increasing global tourism and festivities.

“With our clients continuing to order from us and cocoa bean prices showing some stability since July 2024, our grinding operations in Malaysia, Indonesia and Ivory Coast are still running at optimal levels and we aim to optimise capacity utilisation.”

Asked whether Guan Chong will proceed with plans to expand its cocoa bean processing plant in Ivory Coast, Tay says: “It is still part of our long-term plans to increase capacity, which we will take into consideration when the bean prices start to drop and demand for cocoa ingredients climbs again.”

The group had initially planned to double its Ivory Coast capacity to 120,000 tonnes annually.

Today, Guan Chong has a total annual grinding capacity of 335,000 tonnes per year. It has production facilities in Pasir Gudang, Johor (150,000 tonnes); Batam, Indonesia (120,000 tonnes); and Ivory Coast (65,000 tonnes), as well as a cocoa cake and butter grinding facility in Delaware, the US. It also has a presence in Europe through its ownership of Germany-based chocolate manufacturer SCHOKINAG Holdings GmbH. SCHOKINAG has an annual production capacity of 100,000 tonnes. Additionally, the group has an industrial chocolate subsidiary in the UK with an annual production capacity of 16,000 tonnes.

“We are committed to looking after our bondholders, shareholders and stakeholders, aiming to emerge from these challenging times with resilience and a strong foundation,” says Tay.

The stock has dropped 37% from its 52-week high of RM4.45 reached on May 28. It closed at RM2.80 last Friday (Nov 15), giving the company a market capitalisation of RM3.3 billion. 

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