10 May 2012
Sharp fall in China's steel demand still a major concern for Ann Joo but to benefit from Thailand's post-flood reconstruction works and Malaysia's MRT line project, target price RM 2.20 'BUY' - Maybank Research
(ANNJOO opening stock price today (10.5.2012) was RM 1.89)
Maybank Research is turning positive on Ann Joo due to pent-up local steel demand from the second half of 2012 (H2'12) onwards, potential long-term, high-margin vendor contract from Petronas and stronger earnings in H2'12 upon the completion of the fine-tuning of its mini blast furnace off-setting losses still in the upcoming first quarter results.
We maintain our forecasts for now but our target price is adjusted higher to RM2.20 from RM1.30, attaching mid-cycle price to book value target of 1.0 time (from 0.6 time trough).
Financial year 2012 first quarter (Q1'12) results will be released in end-May and we expect Ann Joo to report losses, with its core profit for Q4'11 at RM1mil on higher scrap inventory cost.
As an indication, a majority of the Chinese steel-makers have reported losses in Q1'12 on waning local demand and higher iron ore cost.
Earnings in Q2'12 may continue to be weak as Ann Joo is still trying to fine-tune its mini blast furnace and lower the hot metal production cost.
The mini-blast furnace is now running at a 70% utilisation rate and is producing the hot metal at a high cost mode as it is consuming expensive coke. Management is in the midst of optimising the costs and restructuring the procedures.
Local demand took up 82% of the industry's total active bars or rods capacity in 2011.
We think the local steel supply will be tight from 2013 onwards given the concurrent roll-out of mega infrastructure projects like the light rail transit extensions and Sungai Buloh-Kajang My Rapid Transit.
The current bar average selling price of RM2,500/mt is already 10% higher than during the fourth quarter in 2011.
Also, export to neighbouring countries (35% of production volume) should remain firmed, with Thailand commencing its post-flood reconstruction works soon.
Ann Joo's trading arm, which contributes 30% of its total revenue, has recently started supplying flat steel to Petronas for its fast-track oil & gas project for a total value of RM10mil.
Ann Joo is in the midst of finalising a long term vendor contract with Petronas, which could see its trading revenue boosted by about RM250mil per annum, a 33% increase to 2011 trading revenue.
This contract could deliver stable and higher margin than its manufacturing division. We have yet to impute this into our model.
However, we think that the key risk lies in the slowdown in China's steel demand which accounts for almost 50% of world's demand.
Any sharp fall in China's steel demand will not be able to be fully mitigated by rising demand in any regions and could eventually lead to lower selling prices and margin erosion, and potential influx of steel from China mills.