Leong Hup may scale back expansion to conserve cash flow amid challenges

Leong Hup International Bhd
(April 15, 56.5 sen)
Downgrade to hold with a lower target price (TP) of 56 sen:We downgrade our rating on Leong Hup International Bhd to “hold” with a lower TP of 56 sen (from 92 sen earlier), based on revised valuation of 15 times financial year (FY20) earnings per share of 3.7 sen, as the imposition of Covid-19 lockdowns in the Southeast Asia region (where Leong Hup operates in) has resulted in weaker demand and prices of poultry products, particularly day-old chicks (DOCs) and broilers.

The weaker demand from institutional customers (such as full-service restaurants, hotels, and food and beverage outlets) is more than offsetting the stronger poultry demand from retail markets (for fresh chickens and further processed products).

While demand for livestock feed, eggs and further processed products remains resilient so far, we note that these are insufficient to mitigate the weaker demand and prices of DOCs and broilers.

It is unlikely for demand and average selling prices (ASPs) to recover swiftly to pre-lockdown levels (even if lockdowns are to be lifted soon), as we believe social distancing practices will likely remain for a while, resulting in persistent weak demand from institutional customers.

The Indonesian government had historically instructed poultry players to cull hatching eggs, in a move to support poultry prices. However, such move is unlikely to happen in the near term in our view, in order to ensure ample food supplies.

In terms of the feed mill segment, although corn prices (the key feed materials) have declined by more than 15% since October, the management is maintaining its feed inventory of three months, and will not engage in more aggressive inventory replenishing activities.

While expansion plans remain intact for now, Leong Hup’s management shared that completion dates of the current expansion projects will likely be delayed, as the lockdown has resulted in construction activities being suspended. Besides, we do not discount the possibility of Leong Hup scaling back some of its regional expansion plans (which have yet to be embarked on), in an attempt to conserve cash flow amid the challenging operating environment.

Given the weak demand and prices (which will likely persist until beyond the first half of 2020, depending on how soon the Covid-19 cases will subside), we slash our FY20-FY21 core net profit forecasts by 27.6% and 22.8% to RM135.5 million and RM175.9 million respectively, largely to account for lower ASPs and sales volume assumptions for DOCs and broilers.  —Hong Leong Investment Bank Research, April 15