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Initial View - The Okomu Oil Palm Plc - Lower cost of sales propels earnings

Lower cost of sales propels earnings

• Last Friday, The Okomu Oil Palm Plc (Okomu) released its Q3 2018 result wherein earnings rose to N1.3billion vs N159 million in Q2 17, translating to an EPS of N1.36. This represents a rebound in earnings following a weak Q2 18. Cumulatively, PAT was up 13.3% YoY to N7.2 billion, translating to a 9M 18 EPS of N7.59.

• Further breakdown reveals that the company recorded revenue contraction of 8.9% to N3.75 billion largely driven by the free fall of global CPO prices (-21% YoY to $512/MT) and rubber prices (-9% YoY) in the period. For context, given that Okomu’s CPO prices largely mirrors global prices, local CPO prices contracted 6% YoY over the period. However, we think volumes rose during the period (+5% YoY) which accounts for the tamer flattish growth in CPO sales (+1 YoY to N3.15 billion) over Q3 18.  Elsewhere, given that Okomu exports all its rubber, export sales (-36% YoY to N598 million) were marred by plunging rubber prices in the period.

• Over Q3 18, cost of sales (-55.9% YoY to N504 million) eased with Okomu recording its lowest cost to sales ratio (Q3 18: 13.5% vs 29% in Q4 18) in eight years. This came as a surprise as Okomu usually records higher cost over H2 18 which is usually its planting season. More so, the firm has been grappling with bottlenecks in achieving its planned energy mix due to the failure of Benin Electricity Distribution Company (BEDC) to supply adequate power due to disruptions. We seek to get further clarity from management regarding the driver of the tamer cost of sales over the period. Accordingly, on the back of lower than expected cost of sales, gross margin expanded to 86.5% from 71% in Q3 17.

• Further down, in lock step with declining cost of sales, operating expenses dipped 9.9% to N1.46 billion with OPEX to sales plunging 50bps YoY to 39%. As a result, EBIT margin jumped to 47.5% from 31.5% in the prior year. Overall, despite lower finance income (-44.4% YoY to N75.2 million), —which is reflective of lower foreign exchange gain emanating from the stability in the naira as well as lower yield environment— and higher interest expense (+11.6% YoY to N78.4 million), earnings spiked from N159 million in the prior year to N1.3 billion over Q3 18.

Okomu trades at a current P/E of 8.29x which is at a discount to MENA peer average of 13.5x and Presco of 9.2x. We have a FVE of N92.45 which translates to a STRONG BUY rating on the stock.