• Keep BUY with a new higher target price of $2.30, 28% upside plus 2% FY20F yield.
• Given the company’s earnings exposure to CPO price fluctuations, we believe FIRST RESOURCES (SGX:EB5) will be able to capitalise on higher CPO prices and present better 1H20 earnings. We continue to like First Resources for its cost-efficient operations and biodiesel industry exposure.

CPO Prices Have Risen Sharply

• CPO prices have risen sharply to > MYR3,000/tonne. While we had expected an improvement in prices towards the year’s end, the strength of the price rally caught us by surprise. We believe there could be a slight correction, as there could be some speculative elements at play currently.
• Nevertheless, we expect 1H20 prices to remain high at a range of MYR2,700-3,100/tonne before seasonally weakening to a range of MYR2,400-2,700/tonne in 2H20.

We Increase Our CPO Price Forecasts

• Given this scenario, we are revising our CPO price forecasts up to MYR2,600/tonne for 2020 while leaving our 2021 forecasts intact at MYR2,500/tonne. This will imply a substantial 22% y-o-y increase in CPO prices from 2019’s average of MYR2,129/tonne. With this, plantation companies’ earnings are expected to re-rate upwards significantly, particularly as the leverage of CPO price change to earnings is much more significant than FFB output growth.
• For the firms under our coverage, every MYR100/tonne change in CPO prices impacts earnings by between 4% and 18% pa. We expect to start to see the impact of strong CPO prices on earnings from the 4Q19 reporting period onwards, ie Feb 2020, which could trigger another round of share price retracements.
• Despite the run-up in share prices, we believe there is still upside for some stocks, as our sensitivity analysis indicates that most of our stock picks are still reflecting CPO prices of MYR2,400-2,500/tonne.

Remain Positive on the Sector’s Fundamentals

• We continue to remain positive on sector fundamentals and believe there are three key factors that will keep CPO prices high in 2020:
  • A CPO deficit is imminent in 2020, as demand growth outstrips supply growth and stock/usage ratios fall below historical averages;
  • Biodiesel – the largest demand catalyst – is still very much a “GO” in Indonesia and Malaysia;
  • Food demand should remain strong from China and India.

Our Target Price Rises

• Our Target Price rises on an unchanged 18x P/E, 1SD above First Resources’ historical average.
• First Resources’ mostly upstream operations will stand it in good stead in a CPO price upcycle; it will also benefit from higher biodiesel profits, as Indonesia begins to implement its B30 mandate this year.

Source: RHB Invest Research - 20 Jan 2020