Mar 07, 2017 09:21:00

Japfa Comfeed Indonesia ($JPFA) - Weaker Growth Outlook

We lower our earnings estimates and downgrade Japfa to NEUTRAL (from Buy) with a lower TP of IDR1,750 (from IDR2,700, 3% upside). The downgrade reflects several margin limitations at its key business segments, imposed by the Government since Nov 2016, which have prematurely halted its margin expansion cycle. In addition, we do not see any major upside catalysts at this juncture. As expected, Japfa closed 2016 with a decent set of results, with EPS up sharply by 4.4x YoY.

Margin expansion limited by government intervention, including the announcement to cap day-old chick (DOC) prices at IDR4,800/bird (implemented in West Java so far) and broiler prices at IDR18,000/kg, when DOC was trading at close to IDR6,000/bird during Oct 2016. In addition, corn imports by feed millers are banned – with feed millers arguing over insufficient domestic corn supply, we believe this may increase feed production costs.

Favourable supply/demand dynamics and improved capital structure should support earnings. Notwithstanding the above, Japfa Comfeed Indonesia's (Japfa) earnings should be insulated by stable broiler/DOC prices on better supply/demand dynamics, after the implementation of the culling programme and limited parent stocks import since 2014. Furthermore, Japfa's interest expenses for 2017F should decline by 30% due to its USD bond buyback and debt refinancing last year. Japfa is also looking to raise feed prices if feed costs escalate, given supportive broiler prices.

Downgrade to NEUTRAL on weaker growth prospects. We lower our 2017- 2018F core profit estimates by 11-19.3% to account for flat YoY DOC and broiler gross margins, and 2% reduction in feed gross margins. This translates to a lower DCF-derived TP of IDR1,700, which implies 2017F P/E of 11x, -1SD vs 5-year historical mean. Main upside risk is an implementation shortfall of the regulations. downside risks are IDR depreciation and margins compression.

DOC still strong but lower feed margins. On QoQ basis, the DOC segment still delivered a high EBIT margin of 22%. However, the feed segment’s 4Q16 EBIT margins of 11% was the lowest in 2016 (Figure 2).