VULNERABLE earnings amid high cost base: While Kencana's growth plans are encouraging, the high costs base relative to its current production is a concern. In 2011, Kencana reported general and admin (G&A) expenses of US$12.5 million but produced only 317,000 metric tonnes (MT) of own fresh fruit bunches (FFB) and gross profit of US$35.5 million.
This compares to First Resources which had US$13.1 million in G&A expenses in 2009 but produced 1.4 million MT of own FFB and gross profit of US$130.5 million.
While Kencana has sufficient debt facilities and repayment for some of its loans only occurs when the trees start production, financial leverage will increase the risk of PE de-rating especially in event of collapse in CPO prices or production issues.
We estimate net debt/equity ratio to jump from 55 per cent in FY2011 to 69 per cent in FY2013F, as the group's FY2012-2014F operating cashflow is insufficient to fund its capex/new planting plans.
Discounted cash flow (DCF) based target price lowered to $0.30 from $0.35 as we reduce our FY2012-2014 earnings forecasts by 22-34 per cent to account for higher production costs and lower FFB/ CPO output post-Q4 2011 results.
It is also our opinion that the high FY2012 price-to-earnings (P/E) multiple does not reflect the risk associated with limited trading liquidity and tight share register.
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