Nigerian Palm Oil Sector Waxes Stronger Under Policy Cover

In contrast to the Macro-Induced Sell-Offs across the broad equities market in 2016, palm oil producers had a stellar year as the policy changes in response to the forex pressures handed the sector a lifeline.

Specifically, CBN’s proscription of Forex access for palm oil imports changed sector dynamics as it provided a competitive edge in pricing for local producers over CPO importers.

Accordingly, the sector reported stronger revenues and higher margins in the period which fuelled the positive price performance over 2016 (vs NSEASI: -6%). In this report, we outline our views regarding the drivers of 2016 performance and set out our views ahead of FY 16E earnings releases.

In the aftermath of CBN policy pronouncement regarding CPO imports, domestic prices surged 144 percent over 2016 to N661.4/kg as importers who account for 29% of local supply cutback on imports.

While the upsurge in CPO prices drove sector revenue to a record high of N22.8 billion, its impact was more pronounced on operating margin (+12pps YoY to 53%) as the largely domestic sourcing of raw materials and labour kept cost (COGS and OPEX) in check.

Another positive policy handout for the sector was CBN’s renewed supply of concessionary loans, which given already weak naira outlook drove coverage companies to change the currency character of their debt.

FCY borrowings as a share of total debt shrank 5pps YoY to 13.8% while total borrowing cost contracted 7% YoY over the review period.

Overall, reflecting robust top-line gains and financial efficiency, we estimate that core earnings should climb 108% YoY to a record high of N8.1 billion in FY 16.

That said, despite our strong view on earnings, we expect dividend payout ratio to come below trend levels as management of coverage companies guides to capacity expansion plans from retained earnings.

We project Presco’s 2016E DPS of N2.02 to be higher than that of its domestic peer, Okomu (N1.77).

Notwithstanding strong YTD price performance, we believe current pricing is yet to fully reflect the stellar earnings performance reported so far, but more importantly, the robust earnings outlook. Particularly, at 9.1x, the sector’s mean P/E remains cheap relative to trend (3 year: 11.4x, 5 year: 11.3x) and Bloomberg Africa peers (10.1x). Across our coverage, we prefer Presco due to its larger oil palm plantation (2015 mature area hectares of 10,949 vs. 8,671 for Okomu) and homogenous product mix, which makes it a greater beneficiary of improved conditions in the domestic CPO market.

Accordingly, our FVE embodies a 46 percent upside from current pricing for Presco (N68.84) relative to 40 percent for Okomu (N67.43) and we have a BUY rating for both companies.

Full report here: