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Feb 22, 2017 11:25:07

Indonesia Poultry: Derating expected 

  
Best-performing sector set to reverse on lower broiler and DOC prices 
With the poultry sector having outperformed the JCI by 51% in 2016 and 15.2% ytd (exhibit 4), we believe most of the good news related to supportive government regulation on supply control and solid earnings expectations has been priced in. In the recent run-up, JPFA shares (+27% ytd and testing their early November 2016 highs) have been the best-performing in the sector, in line with their status as our top sector pick. Although we saw day-old chick (DOC) ASPs falling below breakeven costs in December 2016, at IDR4,300/chick, DOC and broiler average prices were still strong in 4Q16, allowing for likely one-off high y-y earnings growth. In 2017, based on surveys in the West Java region, we expect January DOC and broiler prices to remain stable (broiler price IDR16,679/kg, -5% m-m, -21.4% y-y; DOC price: IDR4,300, flat m-m, -16.4% y-y). Note that DOC prices have remained below industry players’ breakeven levels at IDR4,600-4,700/DOC. With our weaker outlook for broiler and DOC prices, we expect the sector’s recent outperformance to reverse. 

New ruling on supply stabilization difficult; Possible price-capping 
In our view, the government’s latest regulation (Kementan No. 61 12/2016) to stabilize DOC and broiler supplies will prove difficult to implement given the fragmented nature of the industry. Also, MAIN should be at a disadvantage given that it has not met the requirement of this government ruling for the establishment of a slaughterhouse. MAIN is currently using third-party slaughter services due to lack of scale, coupled with an IDR80-100bn minimum investment for slaughterhouses and cold-chain distribution. Finally, we see a possible spread of the current price capping from West Java to other regions, which would apply further margin pressure to companies under our coverage. 

Downside risks: Bird flu and weaker poultry prices in February 2017 
Based on a survey conducted by online poultry distributor (Arboge), February 2017 DOC and broiler prices fell sharply m-m, in line with the seasonal trend of the past 2 years. Thus, we might see further margin contraction when 1Q17 results are released. Additionally, the recent avian influenza cases in China and the UK could not only lower poultry demand in Indonesia, but also force broiler farmers to cull their livestock, assuming another outbreak. 

Reiterate sector UNDERWEIGHT with continued preference for JPFA 
With the sector’s risk-reward tradeoff looking unfavorable, we reaffirm our UNDERWEIGHT stance. As we expect a sector derating, we cut our 12-month TPs and ratings across the board. We cut CPIN (CPIN IJ, IDR3,450) to REDUCE (from HOLD) and our TP to IDR2,900 (from IDR3,300), based on a 2017F PER of 15x (from 17x). JPFA (JPFA IJ, IDR1,900) goes to HOLD (from BUY) and our TP to IDR1,900 (from IDR2,400), based on a 2017F PER of 12x (from 15x). We cut MAIN (MAIN IJ, IDR1,305) to REDUCE (from BUY) and our TP to IDR1,100 (from IDR2,000), based on a 2017F PER of 8.5x (from 15x) given its: 1) sector-high leverage (83% net gearing); 2) need to invest in slaughterhouses and cold chain distribution, spurring higher leverage and lower ROEs. Risks to our call: successful government measures from supply stabilization and a stronger IDR.
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