Idea of the week: Another attractive sukuk from JB Cocoa!

We provided our views on JB Cocoa (JBC) in our article last year, discussing their 1H23 results and our opinion on their credit. To briefly recap, they recorded an increase in their operating profit while their credit remains decent given their debt are mainly from trade financing which are backed by orders from clients.

Read our previous article: Idea of the week: New 6% MYR sukuk from JB Cocoa

Since then, cocoa beans prices further increased to end the year 80% higher. In this article, we will provide our views on their latest financial and look at the implications of rising cocoa cost on their performance and credit. 

Financial Performance and credit profile

Table 1: Selected profitability indicators (RM million)

The group saw an increase in revenue of 27% in 2023, contributed by their higher shipment volume and higher average selling price due to increase in cocoa bean prices. The higher prices however dropped their operating profit margins to 2.8% owing to mark to market losses of RM57 million relating to their hedging activities. 

To provide a brief understanding of their hedging activities, JBC will typically enter into a forward sale of their cocoa products and will fill their cocoa beans needs by entering into a forward contract to buy the cocoa beans and subsequently entering into a short position on the cocoa beans with futures to act as a hedge. The short position will subsequently be close once the price of the cocoa beans is fixed closer to the date of delivery. As such, we believe the mark-to-market losses are due to the increase in cocoa prices and the subsequent drop in fair value of their short position. 

We think that the gain in their forward contracts for the beans and the cost pass through to their clients in the future will be able to offset the current mark-to-market losses of their short position.

Table 2: Capital Structure and and liquidity indicators (RM million – unless otherwise stated)

JBC’s borrowings increased to RM1.3 billion in 2023 of which 82% were related to trade financing. Excluding trade financing, JBC’s borrowings increased to RM 219 million in 2023 from an increase in term loans. The high DE is justifiable given the nature of their business that requires a significant cash outlay for raw material purchases which are largely financed by trade lines from banks. Comparatively, if we look at the DE ratio of Guan Chong which is in a similar industry, their DE stands at 1.2x in FY23, as such we do not see the DE ratio of JB Cocoa as out of the norm.

Their short-term liquidity still remains decent despite the increase in debt. Not including current trade lines, their cash sufficiently covers their current term loans of RM60 million and represents an interest coverage of 1.7x. As the increase in borrowings are mainly due to an increase in trade lines, we opine that the credit risk remains manageable given that the trade lines will be reduced once their sales are realised.

CFO results are heavily influenced by supply chain condition. This means that any prolonged delays between procurement of raw materials, cocoa production and product delivery will lead to a massive volatility in the company’s CFO. Owing to that, JBC saw a negative CFO in 2023 from an increase in inventories by RM448 million of which is a RM408 million increase in finished goods. Therefore, we do not see the negative cash flow as a problem for them as it is mainly due to the increased in finished goods which will bring in cash once its delivered.

Recommendation

JBC has maintained a good operating track record with most of the increase in cocoa beans price transferred to their customers. Furthermore, their outlook remains promising, owing to their planned capacity expansion of 60,000 MT in Ivory Coast and the healthy demand for cocoa products.

Furthermore, we believe their credit profile remains decent in the short-term despite the lower operating profit. Investors can consider to invest in the 3yrs sukuk as we believe their credit profile is decent and the indicative yield of 5.85% is justified.

Declaration: For specific disclosure, at the time of publication of this report, IFPL (via its connected and associated entities) and the analyst who produced this report hold a NIL position in the abovementioned securities.