Golden Agri Resource - Fruits to return - Sell to Buy

1Q09 is likely to have been the worst operating quarter for Golden Agri. We expect FFB yields, which were at 3 year lows of 17.7% in 1Q09, to rise to 21.6% in 2009 as weather conditions improve and the effect of the “tree stress” from the 2006 drought dissipates. Golden Agri owns some of the best managed estates with some of the highest FFB yields in the industry. We also expect significant reductions in the company’s operating costs from 4Q09 onwards as the company will have run through its costly fertilizer inventory.

In light of the stronger than expected demand for edible oils and the lower than anticipated supply of soybeans from a poor planting season in Latin America, we are upgrading our CPO price forecasts from US$500 to US$650 in 2009 and to US$700 in 2010. We still expect CPO prices to drop and average US$690/ton for the remainder of the year as new supply will come on stream in 2H09. However, these new CPO prices lead us to increase our FY09 & FY10 net profits estimate by 28% and 80% respectively.

The company announced that it is considering doing a rights issue to raise US$200m. We see this as a negative overhang on the stock as it could dilute the share base by 8% and we don’t see a need for a rights issue here given that the company’s gearing is only 9%. Only if it were to use the money for an accretive acquisition would a rights issue make sense.

As a result of the 200bps drop in our Indonesian risk free rate assumption, and our earnings upgrade from higher CPO price expectations, we are upgrading our DCF-derived target price from S$0.21 to S$0.45. We believe the stock is attractive at 10x FY10CL and an EV/EBITDA(10CL) of 6.5. After accounting for the possible rights issue, the stock still holds 11% upside (S$0.42 TP). Upgrade from SELL to BUY.

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