Date: 26 September 2024
Broker Name: UOB Kay Hian

Production Growth and Challenges

SD Guthrie (SDG) reported strong fresh fruit bunch (FFB) production growth of 8% year-on-year (yoy) in the first half of 2024, driven primarily by its Malaysian estates, which saw a 35% yoy increase. However, this was offset by a 17% decline in output from Indonesia and ongoing security challenges in Papua New Guinea (PNG), which hampered access to its estates. Moving into the second half of 2024, production growth is expected to moderate, particularly due to a higher base effect from the recovery of Malaysian estates that began in 2H23. Output from Indonesia and PNG is anticipated to remain subdued due to the same challenges. However, output should rise sequentially in line with the seasonal peak in production during the second half of the year.

Downstream Business Performance

SD Guthrie’s downstream business performed well in the first half of 2024, especially its European operations, which contributed positively. In contrast, the Asia-Pacific region, particularly Indonesia, faced challenges. SDG’s Indonesia-based refineries posted slight losses of RM10-15 million in 1H24. However, the company is expected to benefit from a recent relaxation in Indonesia’s domestic market obligation (DMO) measures and a reduction in palm oil export levies. These changes could improve both upstream and processed product margins for its Indonesia-based operations in the second half of 2024.

EUDR Compliance and First Shipment

SD Guthrie has taken proactive steps to ensure compliance with the European Union Deforestation Regulation (EUDR) ahead of its official implementation at the end of 2024. In a significant development, the company delivered its first shipment of 40,000 tonnes of EUDR-compliant palm oil to Europe. The broker sees this as a positive move, indicating that SDG is well-prepared for EUDR compliance, which could lead to incremental margins, especially given concerns about supply shortages when the regulation is fully implemented. The company could also capture price premiums similar to those seen with RSPO-certified products, which command premiums between US$25-50 per tonne.

Financial Performance and Revisions

The broker revised its earnings estimates for SDG, lowering FY24 estimates by 13% due to higher operating expenses related to increased fertilizer usage and costs associated with EUDR compliance. However, it raised earnings estimates for FY25 and FY26 by 5% each, reflecting the potential benefits of recent regulatory changes in Indonesia. SDG’s cost of production is expected to decline in 2H24 due to higher output and lower unit production costs, which will also contribute to improved profitability.

Market Outlook and Valuation

The broker maintains a HOLD rating for SD Guthrie, with a target price of RM4.75, up from RM4.15 previously. The revised valuation is based on a price-to-earnings (PE) multiple of 22x, reflecting improved sentiment toward SDG as a potential beneficiary of EUDR compliance. The valuation also factors in the company’s ongoing efforts to diversify into renewable energy projects, which are expected to enhance long-term sustainability and profitability.

Conclusion

SD Guthrie is navigating a challenging operational environment but remains well-positioned for the second half of 2024. The company’s readiness for EUDR compliance and its ability to benefit from regulatory changes in Indonesia are positive signs. However, production challenges in Indonesia and PNG continue to weigh on overall growth. The company’s financial outlook remains stable, with expectations of improved profitability in the coming quarters as it capitalizes on seasonal production peaks and regulatory benefits.