Press Metal Bhd
(Jan 18, RM1.90)
Maintain buy with a higher target price (TP) of RM2.85: The London Metal Exchange (LME) aluminium cash price seems to be forming a new support level above US$1,700 (RM7,548) per tonne. The premium, which is a surcharge consumers must pay on top of the LME price, is also bottoming out as the first quarter of 2017 (1Q17) premium for Main Japan Port (MJP) surged to US$95 from US$75 per tonne in 4Q16. The uptick in all-in aluminium prices supports our view of the improving fundamentals in the aluminium market, which suggests that prices have bottomed out.

Press Metal Bhd also benefits from the weakening local currency, as a third of its production cost is denominated in ringgit while revenue is entirely in US dollar terms. The recent weakness in the ringgit would reduce its production cost in US dollar terms. This subsequently translates into a higher ringgit bottom line, after revising our US dollar/ringgit assumption.

The improved market dynamics are timely, as all Press Metal’s smelters are running at full steam, with the Phase Two smelter that caught fire in May 2015 back in action since November 2015, and the Phase Three smelter having reached full operation in June 2016. Although its successful aluminium smelters are in the first quartile of the global production cost curve, we still see room for further cost optimisation from the sharing of common infrastructure and commissioning of Samalaju Port by July 2017, which would decrease its logistics costs. As the company expects to keep generating robust free cash flow (FCF) of more than RM1 billion per annum, it would reduce interest expenses year-on-year and possibly raise its dividend payout ratio, which management has verbally committed to be at 30% to 50%.

After accounting for higher aluminium prices and a weaker ringgit, we raise our financial year ending Dec 31, 2017 (FY17)/FY18 earnings estimates by 4%/27.4% but keep our FY16 projections unchanged. Key risks include any sharp drop in aluminium prices which may hurt its medium- and long-term profitability and unexpected power supply interruptions at its smelting plants that may damage machinery and disrupt its operations (and, hence, its profitability).

We continue to like Press Metal as it runs successful aluminium smelters in the first quartile of the global production cost curve. Its robust FCF generation also may see its debt levels declining rapidly. Aside from our higher profit forecasts, we updated our weighted average cost of capital assumption with our revised TP of RM2.85 (from RM2.25), derived from applying a 10% discount to our fully diluted discounted cash flow valuation. The stock is still a “buy”. — RHB Research Institute, Jan 18