CPO When Will CPO Prices Be Lustrous 20180830 NHKS Industry Report (English)

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Please consider the rating criteria & important disclaimer

Indonesia is the world’s first CPO producer and exporter dominating 56% of total world’s CPO production and 57% of total countries’ exports. Although Indonesia dominates more than a half of world’s CPO market share, CPO prices weakened by 20% from the early of 2017 to July of 2018.

1H18’s Decline in CPO Prices

Malaysia positions as the world’s second CPO producer and exporter. Based on the data of Malaysia-based CPO inventory showing a consistent

decline since the early of 2018 coupled with the decline in CPO production, CPO prices hinted no rebound signs in the 1H18.

India—The World’s First CPO Importer

India as the world’s first CPO consumer is also the world’s first CPO importer. India dominates 18% of CPO import share market. The demand for domestic CPO in India kept increasing in the 1H18. Indonesia-based

CPO industry likely enjoys profits of the 2H18’s rebound in CPO prices along with the high demand for CPO yet limited CPO supply.

Soy Oil Vs. CPO

The soy oil as a substitute product offers a choice of edible oil with the most effective costs for processed food producers. Thus, albeit the fact that 73% of Indonesia-based CPO productions are exported, the world’s

CPO selling prices are highly dependable on the selling prices of soy oil.

B20 Mandatory— Positive Sentiments

The Indonesian government aims to accelerate the mandatory of 20% biodiesel content (B20) amid the hiking world’s crude prices. Another to lowering Indonesia’s reliance on the world’ crude, the implementation of B20 is projected to boost the demand for CPO. The high demand for domestic CPO is likely sent CPO prices higher.

Recommendation

We recommend LSIP and AALI’s stocks along with the Indonesia government’s concerted effort to implement the B20 mandatory. The stocks of those two CPO companies will reap profits as CPO prices hike further due to the moratorium of palm oil cultivation breeding the paradoxical fact of higher demand coupled with lower inventory.

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Source: Bloomberg, NHKS Research

CPO Price (IDR/kg) | 2011 - 2018

CPO Price (IDR/kg) | 2017 - 2018

Source: USDA, NHKS Research

Palm Oil Exports by Country (’000 MT) | FY2018E

Palm Oil Production by Country (’000 MT) | FY2018E

CPO Prices Contracted by 20%

Within the last 7 years, CPO prices (in IDR/kg) moves sideways with the average price at the average of IDR9,000/kg. However, CPO prices are contracted by 20% since the early of 2017 to the present time.

Contraction in CPO Industry

A steep contraction of CPO prices caused the 1H18’s overall performance of CPO industries to be less lustrous than the 2H17’s performance. Although the Indonesia government has set CPO moratorium with a view to curbing the new palm oil cultivation potential for reducing CPO oversupply, CPO prices experience no consistent hike after suffering the impact of El

-Nino in 2016.

World’s CPO King

Indonesia and Malaysia dominate world’s CPO production by 85% in which Indonesia positions as the world’s first CPO producer with the production of 40 million tons of CPO per year (56% to the total world’s CPO production) and Malaysia positions as the world’s second CPO producer with the production of 21 million tons of CPO per year (29% to the total world’s CPO production).

Indonesia—the World’s First CPO Exporter

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PT NH Korindo Sekuritas Indonesia — Company Research | www.nhsec.co.id Page 33 Industry Report

Aug 30, 2018

Source: MPOB, Bloomberg , NHKS Research

Malaysia Palm Oil Inventory Data (’000 ton) | 2016 - 2018

Source: MPOB, Bloomberg , NHKS Research

Malaysia Palm Oil Production Data (’000 ton) | 2016 - 2018

Palm Oil Country Consumption (’000 MT) | FY2018E

Palm Oil Imports by Country (’000 MT) | FY2018E

Malaysia-Based CPO Inventory

Since the early of 2018, Malaysia-based CPO inventory whittles away further, until the

end of June 2018, it declined by 20% from 2.7 million tons in the end of December 2017 to 2.1 million tons in the end of June 2018.

Malaysia-Based CPO Production

Malaysia-based CPO production also edged down in 2018, until the end of June 2018, it

snapped lower by 27% from 1.8 million tons in the end of December 2017 to 1.3 million tons in the end of June 2018.

Despite two initially-explained potent driver factors for boosting CPO prices from the

supply side, CPO prices remain to decline to 20% YTD.

India—the World’s First CPO Importer

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Source: Statista, NHKS Research

Consumption of Vegetable Oils Worldwide | 2017

Global Usage of Palm Oil | 2H18

India Palm Oil Domestic Consumption ('000 MT) | TTM

Dominance of Vegetables Oil for Food Ingredients

Based on the usage, 72% of CPO is still used as food ingredients, while the remaining is used for industrial needs such as surfactant, cosmetics, lubricants, and soaps.

Another to CPO usage as food ingredients, a number of vegetables oil can be used as a substitute products. The soy oil and CPO are often referred to “substitute goods” as the processed food producers can substitute one of them if their prices fluctuate highly.

The soy oil dominates virtually 30% of world’s vegetables oil and positions as the world’s second position as food ingredients after CPO dominance of 33%.

High Demand for CPO by India

The demand for CPO by India as the biggest importer still hikes further, particularly in 2018. Based on 12-month data trailing, the consumption of domestic CPO in India hiked

by 17% from 9.2 million tons in the period of July 2016 - June 2017 to 10.8 million tons in

the period of July 2017-June 2018.

Despite the likely-hiking-further demand for CPO coupled with the limited supply

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Aug 30, 2018

Soybean Oil - Palm Oil Spread (USD) | 2017 - 2018

Soybean Oil Spot Price (IDR/kg) | 2017 - 2018 Competitive Soy Oil Prices

The soy oil as a substitute good causes the world’s CPO prices to be reliant on the number of supply and demand for CPO as well as the prices of available substitute goods, particularly soy oil.

The soy oil as the main competitor for CPO is generally sold with premium prices compared to CPO prices. However, their price gap contracted from USD200/MT in the early of 2017 to lower than USD100/MT in 2018.

Soy Oil as Substitute for CPO

Another to the prices gap between the soy oil and CPO getting narrower, the soy oil price also edged down by 17% from the early of 2017 to July 2018. This backdrop is estimated to cause CPO prices to hardly hike albeit the demand for CPO hiking further amid the limited CPO supply.

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B20 Mandatory by the Indonesian Government

The Indonesian government aims to accelerate the implementation of 20% biodiesel mandatory amid the hike in world’s crude prices. Another to reducing Indonesia’s reliance on the world’s crude oil, the implementation of B20 mandatory is estimated to boost the demand for CPO. CPO prices are expected to increase along with the high demand for domestic CPO.

B20 is an alternative fuel made by mixing diesel fuel with biodiesel produced by CPO. The number of B identifies the biodiesel percentage; therefore, biodiesel 20 is a mixing of biodiesel by 20% and crude diesel by 80%.

The used biodiesel production capacity until the present time is only 30% or producing 3.5 million kl/year. It shows that domestic biodiesel productions is highly possible to be beefed up.

CPO Funds as Basis for Vegetables Fuel Supply

To implement the mixed biodiesel, the Indonesian government incorporates the Indonesian Oil Palm Estate Fund (BPDPKS) since 2015. It is under the President Regulation (Perpres) Number 61 Year of 2015 on Collection and Use of Palm Oil Plantation Funds.

The scheme of BPDP is from palm to palm. The government imposes a levy on exports by CPO companies with a view to giving incentives to CPO industry driving additional demand for domestic biodiesel industry. The levy on CPO exports is set forth in the Regulation of the Minister of Finance on Public Service Agency Service Tariff of BPDPKS. CPO products are imposed by the levy of USD50 per ton.

30-million-ton oil palm exports by Indonesia are estimate to result in a yearly levy of

USD1.5 billion or IDR20 trillion per year. The allocation of such funds is under the President Regulation Number 61 Year of 2015 and the Government Regulation Number 24 Year of 2014. The funds are spent not only on the inventory and use of biodiesel fuel but also on the human resource development, research and development, promotion, plantation renewal, building infrastructure facilities for CPO plantations. BPDPKS sets the priority of such funds use with careful consideration of the government program and policies of Directing Committee.

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Aug 30, 2018

Source: ESDM, NHKS Research

Biodiesel vs Petrodiesel | 2018

Regulation of Biodiesel Benchmark Price

Overseeing that the biodiesel incentives is prerequisite for the incorporation of biodiesel market in Indonesia, the Ministry of Energy and Mineral Resources (ESDM) enacts the Decree of Ministry of ESDM on the Establishment of Business Entities of Biodiesel-Typed

Fuels and Volume Measurement Allocated for Biodiesel-Typed Fuels Procurement.

The selling price of biodiesel from business entities to Pertamina & AKRA is determined monthly by the Ministry of ESDM using the calculation of Market Index Price (HIP) of Biodiesel Fuels (BBN). HIP for biodiesel is calculates as follows (average selling prices of CPO reference prices + USD100/ton) x 870 kg/m3 + transportation fees. Biodiesel HIP of August is established at IDR7,600 + transportation fees.

Implementation of Biodiesel Incentive in Indonesia

The spread between the subsidized diesel selling price and the biodiesel BBN HIP is the incentive measurement to be paid by BPDPKS. It is in compliance with BPDPKS’s scheme of from CPO to CPO. BPDPKS is established to endorse the renewable energy using CPO so that the high reliance of crude imports or petroleum can be reduced.

The policy of mixed diesel and B20 mandatory will be expanded to the non-subsidy

sector in August 2018. To the present time, the B20 policy is implemented only in the subsidy sector or public service obligation/PSO) such as 15.62-million-KL biodiesel sold in

gas stations (SPBU).

To endorse the implementation of such policy, the government will provide incentives to the producers willing to sell biodiesel to the non-PSO sector. The incentive expansion and

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International Biodiesel vs Petrodiesel | 2015 - 2018 Biodiesel’s Economic Price

The acceleration in B20 policy establishment is a precise decision as the consistent hike in world’s crude causes the economic prices between petrodiesel and biodiesel get narrowing. The economic prices of locally produced biodiesel can be more competitive than imported crude in light of the fact that Indonesia is the world’s first CPO producer.

Based on the assumption that the B20 mandatory can be implemented to reach the national demand for 40 million KL of biodiesel, 8 million KL of biodiesel is necessary. The B20 policy is potential for hiking the biodiesel demand amounting to 4.5 million KL compared to the 2017’s demand or increasing the demand for CPO of nearly 4.1 million tons (14% of the total CPO exported by Indonesia).

Petrodiesel Vs. Biodiesel

Because the spread between the petrodiesel prices and biodiesel prices gets narrower, the implementation of topping 20% of biodiesel use such as B30/B40 is worth consideration pursuant to the willingness of automotive industry and other shareholders. Now, Indonesia-based biodiesel production capacity is at 12 million KL. Based on the

assumption of the maximum production capacity of 90%, 10 million tons of CPO is prerequisite. The substantial amount of demand for biodiesel virtually reaches 15% of world’s total CPO consumption.

The Indonesian government expects that the policy of mixed biodiesel can hike CPO prices to reach IDR14,000/kg using the assumption of crude prices settling at USD100 per barrel.

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PP London Sumatra Indonesia Tbk | Summary (IDR bn)

Source: Company Data, Bloomberg, NHKS Research volume edged down by 19.9%, while ASP whittled away from IDR8.265/kg in 2017 to IDR7.849/kg in the 1H18.

1H18’s Net Profit Declining by 47%

The decline in sales caused the gross margin depleted from 29.6% in the 1H17 to 22.5% in the 1H18. It inevitably resulted in the decrease of 47% in net profit from IDR428 billion in the 1H17 to IDR227 billion in the 1H18.

CPO Production Hiking by 8.7%

Despite the downturn in sales volume, the production of fresh fruit bunch (FFB) actually hiked by 8.7% from 585,000 tons in the 1H17 to 636,000 tons in the 1H18. Besides, TBS’s yields also surged from 6.9 tons/ha in the 1H17 to 7.3 tons/ha in the 1H18. CPO’s sales volume is highly dependable to the timing of CPO inventory realization to market.

Awaiting Implementation of B20

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Source: Company, NHKS Research

LSIP CPO Sales Volume | 2015 - 2018

LSIP Sales Figure | FY2013- FY2018E

LSIP Sales Trend | FY2013- FY2018E

LSIP COGS Composition | FY2018E Source: Company, NHKS Research

LSIP Sales Breakdown | 1H18

LSIP Quarterly Net Profit | 2015 - 2018

Performance Highlights

Target Price of IDR1,680

We use the estimate of forward P/E of 14.9x (the 3-year average) to obtain the target

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Aug 30, 2018

Multiple Valuation

Forward P/E Band | Last 3 years

Source: NHKS research

Rating and target price update

Source: NHKS research, Bloomberg

Target Price Revision

Analyst Coverage Rating

Source: Bloomberg

Date Rating Target Price Last Price Consensus vs Last Price vs Consensus

10/12/2017 Buy 1,970 (Dec 2018) 1,440 1,700 +36.8% +15.9% 01/05/2018 Buy 1,540 (Dec 2018) 1,320 1,750 +16.7% -12.0%

05/16/2018 Buy 1,380 (Dec 2018) 1,100 1,650 +25.5% -16.4%

08/30/2018 Buy 1,680 (Dec 2018) 1,325 1,364 +26.8% +23.2%

NH Korindo Sekuritas Indonesia (NHKS) stock ratings

1. Period: End of year target price

2. Rating system based on a stock’s absolute return from the date of publication

 Buy : Greater than +15%

 Hold : -15% to +15%

 Sell : Less than -15%

Dynamic Forward P/Eband | Last 3 year

Closing and Target Price

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Summary of Financials

DISCLAIMER

This report and any electronic access hereto are restricted and intended only for the clients and related entity of PT NH Korindo Sekuritas Indonesia. This report is only for information and recipient use. It is not reproduced, copied, or made available for others. Under no circumstances is it considered as a selling offer or solicitation of securities buying. Any recommendation contained herein may not suitable for all investors. Although the information here is obtained from reliable sources, it accuracy and completeness cannot be guaranteed. PT NH Korindo Sekuritas Indonesia, its affiliated companies, respective employees, and agents disclaim any responsibility and liability for claims, proceedings, action, losses, expenses, damages, or costs filed against or suffered by any person as a result of acting pursuant to the contents hereof. Neither is PT NH Korindo Sekuritas Indonesia, its affiliated companies, employees, nor agents liable for errors, omissions, misstatements, negligence, inaccuracy arising herefrom.

LSIP Summary

Last Price (IDR) 1,325

Target Price (IDR) Dec 2018 1,680 2016/12A 2017/12A 2018/12E 2019/12E

Analyst: Joni Wintarja Rating: Buy ROE 7.9% 9.7% 6.6% 8.8%

ROA 6.5% 8.0% 5.5% 7.1%

ROIC 7.9% 9.7% 6.6% 8.8%

EBITDA/Equi ty 15.8% 17.1% 10.4% 15.1%

In IDR bn 2016/12A 2017/12A 2018/12E 2019/12E EBITDA/As s ets 12.9% 14.0% 8.6% 12.2%

Sales 3,848 4,738 4,090 4,767 Ca s h Di vi dend (IDR bn) 252 239 307 221 EBIT Margin 21.1% 20.2% 16.2% 19.7% Equi ty Ra ti o 80.8% 83.4% 81.2% 80.6% Depreci a ti on 370 386 201 387 Debt Ra ti o 0.0% 0.0% 0.0% 100.0% EBITDA 1,181 1,344 864 1,325 Fi na nci a l Levera ge 123.7% 120.0% 123.2% 124.1% EBITDA Margin 30.7% 28.4% 21.1% 27.8% Current Ra ti o 245.9% 520.9% 413.4% 552.8% Interes t Expens e - - - - Qui ck Ra ti o 156.7% 405.8% 279.0% 449.9% In IDR bn 2016/12A 2017/12A 2018/12E 2019/12E 2016/12A 2017/12A 2018/12E 2019/12E Ca s h 1,141 1,633 1,998 2,917 Pri ce /Ea rni ngs 20.0x 12.7x 16.4x 11.8x

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Astra Agro Lestari Tbk | Summary (IDR bn)

Source: Company Data, Bloomberg, NHKS Research

AALI succeeded to post the growth of 5.6% in sales from IDR8.54 trillion in the 1H17 to IDR9.02 trillion in the 1H18. The hike in sales was underpinned by the growth of 11% in sales from IDR7.12 trillion in the 1H17 to IDR7.91 trillion in the 1H18 posted by the CPO segment contributing 85% to the total sales.

Depleted Net Profit

However, its net profit depleted by 23% from IDR531 billion in the 1H17 to IDR407 billion in the 1H18. Furthermore, its gross margin also declined from 24.1% in the 1H17 to 18.3% in the 1H18. We estimate that the decline was attributable to CPO’s sliding prices experienced by CPO industry in 2018.

Momentum of B20 Implementation

We estimate that the “turn around” situation likely occurs in 2019 along with the Indonesian government’s concerted commitment to boosting the consumption of domestic CPO through the B20 scheme. Meanwhile, CPO prices is likely rebound due the limited CPO inventory coupled by the consistent hike in demand for CPO.

Target Price of IDR16,925

We use an estimate of forward P/E of 13.2x (1 SD lower than the last 3-year

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Source: Company, NHKS research

CPO Sales Trend | 2014 - 2018

Performance Highlights

COGS Composition | FY2018E Source: Company, NHKS research

AALI Sales Composition | FY2018E

AALI Gross Profit Margin | 2014 - 2018

AALI Sales Trend | 2013 - 2018

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Aug 30, 2018

Multiple Valuation

Forward P/E band | Last 3 years

Dynamic Forward P/Eband | Last 3 years

Rating and target price update

Source: NHKS research, Bloomberg

Target Price Revision

Closing and Target Price

Analyst Coverage Rating

Source: Bloomberg

Date Rating Target Price Last Price Consensus vs Last Price vs Consensus

05/17/2018 Buy 14,800 (Dec 2018) 12,000 15,438 +23.3% -4.1%

08/30/2018 Buy 16,925 (Dec 2018) 13,300 13,320 +27.3% +27.1%

NH Korindo Sekuritas Indonesia (NHKS) stock ratings

1. Period: End of year target price

2. Rating system based on a stock’s absolute return from the date of publication

 Buy : Greater than +15%

 Hold : -15% to +15%

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Summary of Financials

DISCLAIMER

This report and any electronic access hereto are restricted and intended only for the clients and related entity of PT NH Korindo Sekuritas Indonesia. This report is only for information and recipient use. It is not reproduced, copied, or made available for others. Under no circumstances is it considered as a selling offer or solicitation of securities buying. Any recommendation contained herein may not suitable for all investors. Although the information here is obtained from reliable sources, it accuracy and completeness cannot be guaranteed. PT NH Korindo Sekuritas Indonesia, its affiliated companies, respective employees, and agents disclaim any responsibility and liability for claims, proceedings, action, losses, expenses, damages, or costs filed against or suffered by any person as a result of acting pursuant to the contents hereof. Neither is PT NH Korindo Sekuritas Indonesia, its affiliated companies, employees, nor agents liable for errors, omissions, misstatements, negligence, inaccuracy arising herefrom.

AALI Summary

Last Price (IDR) 13,300

Target Price (IDR) Dec 2018 16,925 2016/12A 2017/12A 2018/12E 2019/12E

Rating: Buy ROE 13.7% 11.1% 8.6% 12.1%

ROA 8.8% 8.2% 6.2% 8.9%

ROIC 9.3% 8.9% 6.7% 9.8%

EBITDA/Equi ty 25.5% 23.5% 17.9% 25.6%

In IDR bn 2016/12A 2017/12A 2018/12E 2019/12E EBITDA/As s ets 16.3% 17.2% 13.0% 18.9%

Sales 14,121 17,306 17,882 20,594 Ca s h Di vi dend (IDR bn) 903 905 731 1,108

Growth (% y/y) 8.1% 22.5% 3.3% 15.2% Di vi dend Yi el d (%) 2.8% 3.6% 2.9% 4.3%

COGS (10,445) (13,160) (14,464) (15,454) Pa yout Ra ti o (%) 45.0% 45.0% 45.0% 45.0%

Gross Profit 3,676 4,145 3,418 5,140 DER 23.3% 21.4% 24.4% 18.8%

Gross Margin 26.0% 24.0% 19.1% 25.0% Net Gea ri ng 30.9% 27.9% 31.3% 23.6%

Opera ti ng Expens es (1,017) (1,094) (1,119) (1,289) LT Debt to Equi ty 21.0% 18.2% 18.5% 15.9%

EBIT 2,659 3,051 2,298 3,851 Ca pi ta l i za ti on Ra ti o 18.9% 17.6% 19.6% 15.8%

EBIT Margin 18.8% 17.6% 12.9% 18.7% Equi ty Ra ti o 72.6% 74.3% 71.5% 76.0%

Depreci a ti on 1,070 1,189 1,090 1,341 Debt Ra ti o 16.9% 15.9% 17.4% 14.3%

EBITDA 3,728 4,240 3,388 5,192 Fi na nci a l Levera ge 156.1% 136.1% 137.3% 135.6%

EBITDA Margin 26.4% 24.5% 18.9% 25.2% Current Ra ti o 102.8% 183.8% 168.8% 233.2%

Interes t Expens e (145) (94) (180) (237) Qui ck Ra ti o 26.9% 35.1% 27.6% 39.5%

In IDR bn 2016/12A 2017/12A 2018/12E 2019/12E 2016/12A 2017/12A 2018/12E 2019/12E

Ca s h 532 262 396 368 Pri ce /Ea rni ngs 16.1x 12.6x 15.8x 10.4x

In IDR bn 2016/12A 2017/12A 2018/12E 2019/12E 2016/12A 2017/12A 2018/12E 2019/12E