AAA PT Gozco Plantation Tbk Bad weather – Poor harvest – Poor results

± Disappointing 1H10 results, but sell at premium price
GZCO’s 1H10 results were quite disappointing the street due to poor harvest as bad weather hit its production level in early 2Q10. Net profit only booked at Rp 43 bn (-43% yoy, -30% qoq) which commands only 25% our FY10F, below our comfort level of 35%-45% of full year. Higher interest expense, regarding its higher credits to support its expansion, of Rp 18.5 in 2Q10 (+531% yoy, +22% qoq) also the main factor hit GZCO’s bottom line. But positively, GZCO still consistently could sell its CPO at premium at Rp 6,663/kg compare to peers only Rp 6,500/kg due to FFA level maintained below 3%.

± Concentrated estate - higher weather risk
GZCO’s mature estates mostly concentrated only in Palembang, which suggest more production volatility risk compared to other companies with more diversified areas (similar with SGRO). 1H10 FFB production of 53.2k tons only accounts for 30% of FY10 target at 175k tons. Nevertheless management still believes that 70% contribution for 2nd half is achievable since July production has surged 30% mom and peak production would come in October–November, which is difficult to achieve in our view. As addition, new plantings have reached 2,941 ha out of FY10 target of 7,400 ha.

± Revise down production outlook and earnings
Considering the weather issue that potentially shift or change the production cycle outlook. So conservatively, we revise down our CPO production by 13% onwards. We revise down CPO production in 2010F and 2011F to 57.2k tons and 70.9k tons, respectively. As a result, we reduce our earnings estimates in 2010F and 2011F towards Rp 131.7 bn (-23.9%) and Rp 161.6 bn (-22%).

± Downgrade to HOLD – lower TP
Based on our new key assumptions on production, we derive lower TP at Rp 400 per share (11% lower from Rp 450 previously) which only implies 3.9% potential upside with implied P/E 2010F-11F at 14.4x - 12x. We use 15.4% WACC for our DCF, 12x P/E 2011F and 7x EV/EBITDA 2011F for our blended model. GZCO stock has increased 67% ytd which has outperformed JCI return of 20% ytd. In our view, GZCO’s valuation has priced in. We downgrade our rating from BUY to HOLD. Currently GZCO is traded at near its highest forward P/E band at 11 – 12x. However, bullish CPO price in near term, will still give some incentive to market to keep purchasing attractive CPO stocks.