The Old & New Palm Oil Growers Scheme

Both schemes have been categorized as "share-farming" interest scheme by Securities Commission of Malaysia, yet, both were in the limelight lately due to their contradict directions. The old one (Country Heights Growers Scheme) is wooing investors to terminate it, while the new one (Golden Agro Growers Scheme) is wooing investors to invest.

Why CHGS was in HOT water?

CHGS was the 1st oil palm plantation investment scheme in Malaysia. Launched in 2007, it guaranteed a 8% return annually for first 3 years, and subsequently it is projected to distribute the returns of over 11% per year throughout a period of 20 years. However, voluntary early termination of the scheme was proposed recently, citing that CHGS was unable to reach its full potential because of poor fresh fruit bunches (FFB) yield. Various factors were given such as unpredictable weather conditions, incursions of wild elephants into the estate, poor soil fertility, shortage of key personnel and manual workers, and uncompromising terrain.

How Good is GAGS?

On the other hand, the new GAGS guaranteed 7% return yearly for first 5 years. Subsequently, investors will enjoy 100% of the net profit of the plantation until 20 years maturity. Investors were told that margins associated with the palm oil industry have always been good traditionally. So, in the event of falling CPO prices, it still can make money if the estate was managed well and efficiently. A mill was also planned to be set up in 4 to 5 years to avoid uncertainties of refusal by external millers.

Are they related?

Although Finance Malaysia opines that both schemes were not related, but the timing of it is somewhat makes us curious. Is it really so coincidence? It was like giving the existing investors of CHGS the chance to switch over their investments to GAGS. Both schemes are very much similar, but with different people managing them which is the key determining factors for its success or failure. Anyway, Finance Malaysia doubt the success of the new GAGS which don't have proven track record and was planted in Sarawak where peat soil may increase the cost of planting. The problems faced by CHGS may reoccurred on GAGS in the future. Estate management plays an important part in such scheme.

Click here to read the prospectus of GAGS

Plantation: Start of a sector 'SELL-OFF' or CPO prices to recover? (Oct 2012)

While CPO prices have declined 20% over the past one-month to M$2,300/t, share prices of our upstream plantation universe have not reacted materially moving by -8% to +3% (-3% to +3% for our top picks) Key question hence is whether this raises the risk of a further sell-off in plantation stocks or will CPO prices recover?

Key reasons for the CPO price fall:

1) High inventory levels amid the current high output season.

2) Some easing in demand (though not materially) mainly from slower bio-diesel production.

3) Softening crude oil prices.

4) Better soybean supply prospects with improved weather.

Will CPO prices weaken further?

CPO’s price competitiveness to soy-oil and crude oil is now at its best since the previous economic crisis in late-2008. CPO's price discount is currently at US$340/t to soy-oil (spot) versus its historical mean discount of US$160/t. CPO at current spot levels of M$2,300/t is also already discounting crude oil prices at US$72/bbl based on the bio-diesel breakeven support (spot crude oil price: US$112/bbl).

Hence, we see limited downside risk at these levels and expect CPO prices to recover by 1Q13 as inventories are drawn down during the low output season by end-2012/early-2013 and with substitution demand likely to kick in given the extreme tightness in soybean supply. This is until palm oil and soybean supply recovers from 2Q13 with prices to ease again from then.

The ratio of CPO price (in US$/t) to crude oil price (US$/bbl) has fallen to 7.3x, the lowest level since the previous economic crisis in late-2008 (historical mean ratio of 9.2x). This reflects palm oil's increased competitiveness versus crude oil in the bio-diesel segment.

Stock recommendations...

We maintain UWs on AALI, IOI, LSIP and GENP and would look to sell these stocks now. Quality stocks like KLK (Neutral) may also be vulnerable short term due to rich valuations. Our key OWs - BWPT, SIME, FR and SIMP are implying 2013E CPO prices of M$2,600-2,700/t at current levels (higher than spot) and could succumb to near term selling pressure – we would look to accumulate on weakness given the support of young plantations and strong volume growth longer term, while SIME remains a defensive large cap play with valuation support.

Source: J.P.Morgan research report