PP 7767/09/2010(025354)

25 March 2010
Malaysia Corporate Highlights
RHB Research
Institute Sdn Bhd
A member of the
RHB Banking Group
Company No: 233327 -M

V is it Note
25 March 2010
MARKET DATELINE

Kuala Lumpur Kepong Share Price

Fair Value
:
:
RM16.38
RM18.40
Benefitting From Its Young Age Profile Recom : Outperform
(Maintained)

Table 1 : Investment Statistics (KLK; Code: 2445) Bloomberg: KLK MK

Net Net
FYE Turnover Profit ^ EPS ^ Growth PER C.EPS* P/CF P/NTA ROE Gearing GDY
Sep (RMm) (RMm) (sen) (%) (x) (sen) (x) (x) (%) (%) (%)
2009 6,658.3 753.8 70.6 (33.5) 23.2 - 3.1 17.4 10.9 8.1 2.4
2010f 7,687.6 934.5 87.5 24.0 18.7 90.0 3.0 15.0 15.1 8.1 2.7
2011f 8,910.5 1,315.9 123.3 40.8 13.3 102.0 2.7 12.5 19.7 7.3 4.0
2012f 8,967.4 1,378.3 129.1 4.7 12.7 114.0 2.7 11.1 20.6 5.5 4.3
Main Market Listing / Trustee Stock / Syariah-Approved Stock By The SC/ FBM KLCI Component Stock (2.9% wt)
^ normalised

♦ Six key points:

(1) Strong FFB growth so far in FY09/10, but this may moderate if Issued Capital (m shares) 1,067.5
Market Cap(RMm) 17,485.7
affected by El Nino;
Daily Trading Vol (m shs) 1.6
(2) Better CPO prices to come in next few quarters as we believe KLK has
52wk Price Range (RM) 10.20-17.26
already sold some of its FY10 production forward earlier, at more
Major Shareholders: (%)
attractive prices; Batu Kawan Bhd 46.6
(3) No labour shortage problems yet, although this may materialise in the EPF 7.6
medium term, once labour permits start expiring;
(4) Delay in new methyl ester sulfonate plant completion by 6-9 months
FYE Sep FY10 FY11 FY12
to either 3Q/4Q FY09/10;
EPS chg (%) (7.0) (1.5) (18.7)
(5) Good news from the retail division - coming from lower provisions to
Var to Cons (%) (2.7) 20.8 13.3
be made for its US store closures, and from the property division - coming
from approval to start development for a new township development; and PE Band Chart
(6) Higher new land planting targets of 15,000ha p.a. (from 10,000ha).
♦ Risks. Main risks include: (1) a convincing reversal in crude oil price
PER
PER
=
=
25x
20x
PER = 15x
trend resulting in reversal of CPO and other vegetable oils price trend; (2) PER = 10x
weather abnormalities resulting in an over or under supply of vegetable
oils; (3) revision in global biofuel mandates and trans-fat policies; and (4)
a slower-than-expected global economic recovery, resulting in lower-
than-expected demand for vegetable oils.
♦ Forecasts. All in, we revised our forecasts down by 7.1% for FY10, 1.5% Relative Performance To FBM KLCI
for FY11 and 18.7% for FY12, after: (1) increasing new planting to
15,000ha for FY10-11 (from 10,000ha); (2) reducing our CPO price
assumption for FY12 to RM2,500/tonne (from RM2,700 previously); (3) Kuala Lumpur Kepong
pushing back contributions from KLK’s new MES plant to FY09/11 from
2HFY09/10, raising capacity assumption to 350,000 tonnes (from 300,000 FBM KLCI
tonnes) and reducing utilisation rates; (4) reducing provision for store
closure in C&E US to US$5m (from US$17m) in FY10; (5) imputing
contributions from KLK’s new township development into forecasts from
FY12; and (6) reducing capex to RM500m (from RM600m) for FY10-12.
♦ Investment case. Post-earnings revision, we lower our SOP-based fair
value for KLK to RM18.40 (from RM19.50) and maintain our Outperform
rating. We continue to like KLK for its inexpensive valuations (as it
remains the cheapest amongst the big-cap plantation stocks currently)
and for its strong management with a good track record. Further Hoe Lee Leng
catalysts could come from better-than-expected FFB production growth as (603) 92802184
hoe.lee.leng@rhb.com.my
well as potential return to profitability of the retail division.

Please read important disclosures at the end of this report.

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♦ Six key points, from our company visit: (1) Strong FFB growth so far in FY09/10, but this may moderate if
affected by El Nino; (2) Better CPO prices to come in next few quarters; (3) No labour shortage problems yet; (4)
Delay in new methyl ester sulfonate plant completion; (5) Good news from the retail and property divisions; and
(6) Higher new land planting targets.

♦ Strong FFB growth so far in FY09/10… KLK’s FFB growth in the first five months of FY09/10 to Feb 2010 is a
strong 16.9% yoy, much stronger than its peers (like Sime Darby, IOIC, Genting Plantation and IJMP), whose FFB
production ranged between -4.4% and +8.1% yoy in the same comparative period, due mainly to its favourable
age profile (ave age 11 years). While we highlight that this level of growth may not be sustainable going forward,
particularly since KLK’s Feb 2010’s FFB production was down 20.4% mom from Jan 2010, albeit still up 1.9% yoy,
we note that its peers also suffered similarly with FFB production falling between 8.7-24.9% mom in Feb. The
main reason quoted by management for the fall in production during the month was the fewer number of working
days given that Feb was a short month, as well as the normal seasonal downcycle. Management expects
production to start picking up again towards May/June 2010, as the production cycle ramps up to peak
productivity again in 3Q/4Q CY2010.

Chart 1. KLK’s Monthly FFB Production

360,000

330,000

300,000

270,000

240,000

210,000

180,000

150,000

120,000

90,000

60,000

30,000

2007 2008 2009 2010

Source: Bursa Malaysia, RHBRI

♦ … But may moderate if affected by El Nino. As for the impact of El Nino, management asserts that while its
estates in Sabah (which comprise 16% of KLK’s total landbank) are experiencing hotter and dryer weather
currently, this does not necessarily mean it is caused by the El Nino phenomenon, as Jan-March is generally a
seasonally dry period for Malaysia anyway. Nevertheless, we believe if weather conditions continue in this manner
post 1Q2010, the likelihood of this being caused by El Nino is higher and crops could be affected 6-9 months
later, ie. in 4QCY2010. Management continues to expect FFB production to grow at a sustainable rate of between
10-12% p.a. for the next five years, although for FY10, it expects a larger yoy growth of >20%, coming from a
low base in FY09 and on the back of FFB yield normalisation, provided no weather abnormalities. Recall that FFB
yields in FY09/09 fell to 22.87t/ha from 24.66t/ha in FY09/08. While we have projected an improvement in FFB
yields in our forecast, we prefer to remain more conservative and have projected this to improve gradually rising
from 23t/ha in FY09/10 to 25t/ha in FY09/12. As such, we project FFB production growth to be a more moderate
12% in FY10 and between 5-8% p.a. in FY11-12.

♦ Better CPO prices to come in next few quarters. KLK achieved a CPO price of RM2,120/tonne in 1QFY09/10,
which was 7.5% lower than the quarter’s average spot price. This was due, we believe, to some forward sales
booked at lower prices which were shipped out during the period. While KLK is not selling much on the forward
market currently as the futures prices are lower than the spot price at the moment, we note that its forward sales
policy remains flexible. We believe KLK has already sold some of its FY10 production forward earlier, at more
attractive prices. We therefore remain comfortable with our CPO price projections of RM2,500/tonne for FY10,

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 25 March 2010

RM2,650/tonne for FY11 and RM2,500 for FY12. Management’s view on CPO prices has not changed over the last
few months, with expectations that prices will trend between RM2,200-2,600/tonne for next six months.

♦ No labour shortage problems yet. Despite lower fertiliser prices, we do not expect a significant decline in
KLK’s CPO production cost due to potentially higher labour costs. Labour currently makes up 30-35% of costs,
while fertiliser makes up about 40% of costs. We project KLK’s production cost to decline by a slight 5% yoy in
FY10, before rising again by 4-5% yoy in FY11. While KLK is currently not facing any labour shortage problems,
this may materialise in the medium term, once labour permits start expiring. Management believes the labour
shortage problem is real, with more and more Indonesian labourers moving back to Indonesia to work for similar
pay. Although KLK has the advantage of being able to transfer any labourers who want to go back to its existing
plantation estates in Indonesia, which would save them on retraining costs, the problem would still arise as to
finding the labour replacement for its Malaysian estates. KLK believes this is something that will have to be sorted
out by the Government, with regards to permit approvals and minimum wages.

♦ Delay in new methyl ester sulfonate plant completion. Completion of KLK’s new methyl ester sulfonate
(MES) and fractionation plants which were originally due to be commercially operational by end-1QFY10, have
been delayed by 6-9 months to either 3Q/4Q FY09/10. As we had already imputed a 9-month contribution from
these plants into our forecast for FY10, we are now revising our forecasts to impute contributions only from
FY09/11 onwards, in case of further delays. We note also, that the capacity of the plants is 350,000 tonnes p.a.
instead of the 300,000 tonnes which we had assumed earlier, and as such, we have adjusted our forecasts
accordingly. We note that KLK is already in negotiations with potential customers for the new MES product,
principally companies which produce detergents/laundry powders. As MES is a relatively new product to the
market, we believe take-up may be slow to begin with, as it gradually gains acceptance. As such, we have
reduced our capacity utilisation projections for the oleochemical division to 80-83% for FY11-12 (from 90-92%
previously), while maintaining our capacity utilisation projection of 85% for FY10.

♦ Good news from the retail front… KLK’s retail division did surprisingly well in 1QFY10, recording a 72% yoy
rise in EBIT on the back of an improvement in margins to 19.7% (from 11.9% in 1QFY09). This improvement in
margins, we understand, comes from cost savings after some of the US stores were shut down in FY09. While we
do expect EBIT margins in the retail division to improve on a yoy basis over the next few quarters, we do not
expect the improvement to be in a similar quantum as seen in 1QFY10, given that the 1Q of the FY is seasonally
the best quarter in terms of sales, which would also result in better economies of scale. We continue to project
KLK’s retail division to be in the red operationally in FY10 recording an operational loss of RM15-20m, before
turning around to breakeven in FY11. Nevertheless, we are pleased to note that management now expects much
lower provisions to be made for its US store closures, estimating a worst case scenario of US$5m (or c RM16.5m)
in FY10 (down from previous estimate of US$15-20m or RM50-65m). Note that in 4QFY09, KLK already made
provisions of approximately US$9m (or c. RM30m) for the US store closures. As such, we are revising our
projected US store closure provision down to RM16.5m from RM56m previously for FY10.

♦ ... and from the property front. KLK has finally obtained the necessary approvals to convert its 1,000 acres of
plantation land opposite Desa Coalfields for a new township development with an estimated GDV of RM2.5bn. KLK
intends to start developing semi-D and terrace houses on 100 acres of land first, and has already started
earthwork for this area in March 2010, with a plan to launch the project by end of CY2010. However, due to the
new IFRC 15 accounting standard effective 1 July 2010, KLK would not be able to recognise any revenue from
this new project until it has been completed, which we estimate would only be in FY09/12. As such, we have only
imputed contributions from this project into our forecasts from FY12 onwards.

♦ Higher new land planting target. KLK expects to spend about RM500m in capex in FY10-11, approximately
RM400m for the plantation division and RM100m for the oleochemical division. As this is lower than our originally
projected RM600m, we have lowered our capex assumptions for FY10-12 to RM500m p.a.. In addition, KLK
expects to plant up about 15,000ha of its Indonesian plantation landbank per year, at a cost of RM12-000-
15,000/ha. As this is higher than our original new planting projection of 10,000ha per year, we have raised our
assumptions accordingly. However, we note that based on its available plantable landbank, we believe KLK would
only be able to support this rate of planting for two years, before having to acquire new landbank. KLK continues
to look for new landbank in Indonesia, and has a medium term total landbank target of 300,000ha (from
246,000ha currently). We believe KLK would have no problem funding its existing capex requirements or any
potential landbank acquisitions, given its minimal net gearing of only 2.8% as at end-1QFY09/10 and its
operating cashflow of above RM1bn per year. Net dividend payouts are expected to remain between 50-60%,
which translate to net yields of 2.7-4.3% p.a. for FY10-12.

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Risks

♦ Main risks include: (1) a convincing reversal in crude oil price trend resulting in reversal of CPO and other
vegetable oils price trend; (2) weather abnormalities resulting in an over or under supply of vegetable oils; (3)
revision in global biofuel mandates and trans-fat policies; and (4) a slower-than-expected global economic
recovery, resulting in lower-than-expected demand for vegetable oils.

Forecasts

♦ Revised downwards. All in, we have revised our forecasts downwards by 7.1% for FY10, 1.5% for FY11 and
18.7% for FY12, after: (1) increasing new planting to 15,000ha for FY10-11 (from 10,000ha); (2) reducing our
CPO price assumption for FY12 to RM2,500/tonne (from RM2,700 previously); (3) pushing back contributions
from KLK’s new MES plant to FY09/11 from 2HFY09/10, raising capacity assumption for the plant to 350,000
tonnes (from 300,000 tonnes) and reducing capacity utilisation rates; (4) reducing provision for store closure in
C&E US to US$5m (from US$17m) in FY10; (5) imputing contributions from KLK’s new township development
into forecasts from FY12 onwards; and (6) reducing capex assumptions to RM500m (from RM600m) for FY10-12.

Valuation and Recommendation

♦ Maintain Outperform. Post-earnings revision, we lower our SOP-based fair value for KLK to RM18.40 (from
RM19.50) and maintain our Outperform rating. We continue to like KLK for its inexpensive valuations (as it
remains the cheapest amongst the big-cap plantation stocks currently) and for its strong management with a
good track record. Further catalysts could come from better-than-expected FFB production growth as well as
potential return to profitability of the retail division.

Table 2. Fair Value Calculation

Valuation basis FV (RMm)

Plantation earnings 18x CY10 earnings 18,305.7

Manufacturing earnings 12.5x CY10 earnings 1,453.2

Property earnings 13.5x CY10 earnings 88.6

Retail earnings Zero asset value less potential asset write-downs (16.5)

Add/(less): Net cash/(debt) (End-1QFY10) (165.2)

SOP (RMm) 19,665.9

SOP/share (RM) 18.42

Shares (m) 1,067.5

Source: RHBRI estimates

Table 3. Earnings Forecasts Table 4. Forecast Assumptions

FYE Sep (RMm) FY09a FY10F FY11F FY12F FYE Sep FY10F FY11F FY12F

Turnover 6,658.3 7,687.6 8,910.5 8,967.4 FFB Processed (‘000 t) 4,129 4,469 4,688
Turnover growth (%) (15.2) 15.5 15.9 0.6 CPO Production (‘000 t) 888 961 1,008
PKO Production (‘000 t) 202 219 230
Operating Profit 921.6 1,311.5 1,855.0 1,933.9 Average CPO price (RM/t) 2,500 2,650 2,500
Op Profit margin (%) 0.1 0.2 0.2 0.2 Average PKO price (RM/t) 2,700 3,300 3,000

EBITDA 1,210.0 1,557.5 2,108.5 2,211.3

EBITDA margin (%) 18.2 20.3 23.7 24.7

Depreciation (205.5) (229.5) (253.4) (277.4)

Net Interest (68.8) (65.8) (59.5) (51.7)
Associates 34.6 37.6 34.7 34.9
EI (82.9) (16.5) 0.0 0.0

Pretax Profit 887.4 1,283.3 1,830.2 1,917.1

Tax (244.8) (324.9) (457.6) (479.3)
PAT 642.6 958.3 1,372.7 1,437.8
Minorities (30.1) (40.3) (56.8) (59.5)
Net Profit 612.5 918.0 1,315.9 1,378.3
Core Net Profit 753.8 934.5 1,315.9 1,378.3
Source: Company data, RHBRI estimates

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Chart 2: KLK Technical View Point

♦ After confirming its technical rebound in Dec 2008,
when the 10-day SMA cut above the 40-day SMA,
the stock kicked off a steady uptrend.

♦ Along the uptrend, the stock has constantly

sustained at above the 10-day and 40-day SMAs.

♦ As the uptrend continued, the stock reached a high

of RM17.10 in Mar 2010, but it encountered a
prolonged profit-taking pressure in recent sessions.

♦ Chart wise, the stock recorded nine negative

candles in the last ten sessions, indicating a
negative short-term outlook going forward.

♦ As the 10-day SMA has cut a marginal “sell” signal

on the 40-day SMA, its medium-term outlook could
turn negative soon.

♦ Nevertheless, as the long-term uptrend remains

intact, if it manages to penetrate RM17.00 in the
near term, it can still resume the uptrend towards
the next resistance level at RM18.15.

IMPORTANT DISCLOSURES

This report has been prepared by RHB Research Institute Sdn Bhd (RHBRI) and is for private circulation only to clients of RHBRI and RHB Investment Bank Berhad
(previously known as RHB Sakura Merchant Bankers Berhad). It is for distribution only under such circumstances as may be permitted by applicable law. The
opinions and information contained herein are based on generally available data believed to be reliable and are subject to change without notice, and may differ or
be contrary to opinions expressed by other business units within the RHB Group as a result of using different assumptions and criteria. This report is not to be
construed as an offer, invitation or solicitation to buy or sell the securities covered herein. RHBRI does not warrant the accuracy of anything stated herein in any
manner whatsoever and no reliance upon such statement by anyone shall give rise to any claim whatsoever against RHBRI. RHBRI and/or its associated persons
may from time to time have an interest in the securities mentioned by this report.
This report does not provide individually tailored investment advice. It has been prepared without regard to the individual financial circumstances and objectives
of persons who receive it. The securities discussed in this report may not be suitable for all investors. RHBRI recommends that investors independently evaluate
particular investments and strategies, and encourages investors to seek the advice of a financial adviser. The appropriateness of a particular investment or
strategy will depend on an investor’s individual circumstances and objectives. Neither RHBRI, RHB Group nor any of its affiliates, employees or agents accepts
any liability for any loss or damage arising out of the use of all or any part of this report.
RHBRI and the Connected Persons (the “RHB Group”) are engaged in securities trading, securities brokerage, banking and financing activities as well as providing
investment banking and financial advisory services. In the ordinary course of its trading, brokerage, banking and financing activities, any member of the RHB
Group may at any time hold positions, and may trade or otherwise effect transactions, for its own account or the accounts of customers, in debt or equity
securities or loans of any company that may be involved in this transaction.
“Connected Persons” means any holding company of RHBRI, the subsidiaries and subsidiary undertaking of such a holding company and the respective directors,
officers, employees and agents of each of them. Investors should assume that the “Connected Persons” are seeking or will seek investment banking or other
services from the companies in which the securities have been discussed/covered by RHBRI in this report or in RHBRI’s previous reports.

This report has been prepared by the research personnel of RHBRI. Facts and views presented in this report have not been reviewed by, and may not reflect
information known to, professionals in other business areas of the “Connected Persons,” including investment banking personnel.

The research analysts, economists or research associates principally responsible for the preparation of this research report have received compensation based
upon various factors, including quality of research, investor client feedback, stock picking, competitive factors and firm revenues.

The recommendation framework for stocks and sectors are as follows : -

Stock Ratings

Outperform = The stock return is expected to exceed the FBM KLCI benchmark by greater than five percentage points over the next 6-12 months.

Trading Buy = Short-term positive development on the stock that could lead to a re-rating in the share price and translate into an absolute return of 15% or more
over a period of three months, but fundamentals are not strong enough to warrant an Outperform call. It is generally for investors who are willing to take on
higher risks.

Market Perform = The stock return is expected to be in line with the FBM KLCI benchmark (+/- five percentage points) over the next 6-12 months.

Underperform = The stock return is expected to underperform the FBM KLCI benchmark by more than five percentage points over the next 6-12 months.

Industry/Sector Ratings

Overweight = Industry expected to outperform the FBM KLCI benchmark, weighted by market capitalisation, over the next 6-12 months.

Neutral = Industry expected to perform in line with the FBM KLCI benchmark, weighted by market capitalisation, over the next 6-12 months.

Underweight = Industry expected to underperform the FBM KLCI benchmark, weighted by market capitalisation, over the next 6-12 months.

RHBRI is a participant of the CMDF-Bursa Research Scheme and will receive compensation for the participation. Additional information on recommended
securities, subject to the duties of confidentiality, will be made available upon request.

This report may not be reproduced or redistributed, in whole or in part, without the written permission of RHBRI and RHBRI accepts no liability whatsoever for the
actions of third parties in this respect.

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