Sime Darby is a dark horse

Sime Darby Bhd
(Oct 18, RM8.81)
Upgrade to buy at RM8.84 with revised target price RM11.80 (from RM7.75): Year-to-date, Sime Darby’s stock lags significantly behind the FBM KLCI’s 17.6% gain at a -1.45% decline, making it a serious laggard. With improving crude palm oil (CPO) fundamentals, we believe Sime’s plantation segment could shine through the problems that Sime Engineering has caused.

We expect the Malaysian equity market to be driven by foreign net equity inflows in 4QCY10, and in this respect Sime is also a laggard. Its foreign shareholding hit a high of about 22.3% in early 2008 before the commodity price crash. Management says foreign shareholding is at 14% as at 3QCY10, which indicates there may be upside should foreigners take further interest in the stock. To note, quarter-on-quarter, foreign shareholding has already gained 0.9 percentage point.

Keeping CPO prices buoyant at the moment are: (i) stronger exports driven by new demand from Pakistan and Egypt, as well as demand from the US and EU; (ii) production is a bit weak as October production surge may not be sufficient to take the industry through the upcoming festive season and 1QCY11 cyclical downturn in production; and (iii) potential for a supply crunch in the soyabean market despite record crops in North America as supplies are eing mopped up by China and from bio-diesel demand.

We are raising our FY11 CPO average selling price (ASP) to RM2,700 per metric ton from RM2,400 previously and raising FY12 CPO ASP from RM2,400 to RM2,600. Changes to our EPS actually show a decline from previous estimates as we have made adjustments to other segments, which are: (i) assuming that the E&U division breaks even at best (previously we were forecasting some RM150 million profit); (ii) lower property segment margins from 33% to 25% as were seen in FY10; and (iii) flattened growth prospects for the industrial segment due to slow machine orders.

When CPO prices reached past RM3,000 in early 2008, Sime traded at a rolling forward PER in excess of 25 times. Currently, Sime still trades at 18 times on FY11 EPS. We believe there is still room to run given the said fundamentals. As such, we are raising our PER target to +1 standard deviation above historical average which gives a PER of 24 times. Pegging FY11 EPS to 24 times raises our target price to RM11.80 (RM7.75 previously on 15 times PER) which implies 35% upside from the current price. — ECM Libra Investment Research, Oct 18


This article appeared in The Edge Financial Daily, October 19, 2010.