Idea of the week: New 6% MYR sukuk from JB Cocoa

Highlights

· One of the largest cocoa ingredients producers in the world with a global presence and a good track record of consistent sales improvement at a CAGR of 11% from 2017 to 2022

· JB Cocoa is poised to benefit from the growing cocoa market with their expansion of 60,000MT in Ivory Coast allowing them to capitalise on the growing cocoa market

· Credit metrics remain good despite elevated borrowings which is largely from trade financing that are backed by sale orders and will be pared down when orders are fulfilled

· Spread of 230bps above the 3yrs MGS is attractive, giving JB Cocoa 3yrs sukuk an indicative yield of 6% which is generously above yields of similarly rated issuers.

Company Background

JB Cocoa (JBC) is one of the largest cocoa ingredients producers in the world and is a wholly owned subsidiary of JB Foods Limited (JBF), which is listed on the Singapore Exchange since 2012. JBC has an extensive experience of over 20 years in the cocoa industry. The group’s principal activities comprise of the production and sales of cocoa ingredients products, i.e.: cocoa mass, cocoa butter and cocoa powder to a worldwide customer base ranging from international trade houses to end users such as F&B and confectionery manufacturers. Since 2000, the group has achieved many milestones and successfully made its presence globally.

On 15 Aug 2023, MARC has affirmed its A+ rating on JBC’s Islamic Medium-Term Notes programme with a stable outlook.

Financial Performance

Chart 1: Revenue (RM billion)

The group saw an increase in sales and operating profit by 20.9% and 207% y-o-y to RM 2.2 billion and RM 0.12 billion in FY2022. The increase is mainly supported by higher sales volume due to easing of supply chain disruptions and lower logistic costs.

Revenue saw a 5-year CAGR of 11% from 2017 to 2022 and continued to grow in 1H2023 despite the challenge from rising cost of raw materials, indicating the company’s strong market position and the upwards trend of demand for cocoa.  We foresee the sales will continue to grow from year 2024 onwards as the company is increasing its capabilities to serve more customers.

Table 1: Selected profitability indicators (RM billion)

*Excluding gain on disposal of investment properties in the US of RM53.0 million

During the Covid-19 pandemic, the operating profit margins plummeted due to the surge in ocean freight costs following the global container shortage situation. To mitigate the impact, the group has negotiated with forwarders on its freight contracts by way of commitments to limited volumes of cargo and re-routing of shipment via lower cost routes.

Operating profit margin rose to 7.4% in 1H2023 from 4.5% in 1H2022 despite the increasing cost of raw materials. This is indicating that the business is normalising back to the pre-pandemic level and the economy is recovering.

As at end-July 2023, the cocoa bean price stood at around USD 3400 /MT, and the bean price is expected to remain high or even further increase in 2H2023 due to concerns on potential crop deficit due to bad weather patterns. Nonetheless, we think that the profit margin will remain resilient despite the higher bean price as it will be passed through to the customers.

Table 2: Selected cash flow coverage and liquidity indicators (RM billion – unless otherwise stated)

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.

The company saw a tremendous increase in operating cash flows (CFO) in FY2022 as compared to FY2021. In FY2022, CFO turned into positive figures mainly due to the reduction in the inventories and easing of supply chain disruptions. In 1H2023, the company reported negative operating cashflows mainly due to the increase in inventories to cope with the rising demand for cocoa. Cash and bank balances had declined about 44% to RM 0.07 billion in 1H2023 from RM 0.12 billion in 1H2022. This was attributable to the repayment of borrowings, investment and CAPEX.

Table 3: Annual Bean Grinding Capacity and On-going development         

As of today, JBC’s total grinding capacity in Pelabuhan Tanjung Pelepas – PTP (Malaysia) and Gresik (Indonesia) stands at 180,000 MT p.a and is poise to increase to 230,000MT p.a upon the completion of their manufacturing plant in Côte d'Ivoire (Ivory Coast) which is expected to be done by the end of 2024. On top of that, the company is further expanding the capacity of 30,000 MT in Malaysia by the end of the year. The capacity expansion is positive news for investors as JBC previous expansion has led to increase in sales.

Moreover, the expansion of JBC in Ivory Coast is a move in the right direction for the company as their current supply to America and Europe is heavily reliant on the factories in Asia. Having a manufacturing plant in Ivory Coast will bring their products closer to their western customers, allowing them to be more cost competitive through lower freight cost and tax savings when exporting to the European Union. Furthermore, this move will allow them to diversify their manufacturing activities in different locations without relying too heavily on their plant in Asia. Taking the expansion in Ivory Coast by Guan Chong as a case study, we see their expansion showing promising returns by recording an operating profit of RM24m with RM293m in revenue in 1H23. While this may not be an indication of JBC future sales, we see promising results from Guan Chong and are positive that the expansion of JBC into Ivory Coast will help improve sales and profitability.

Table 4: Capital Structure (RM billion -unless otherwise stated)

The borrowings declined to RM 0.78 billion y-o-y in FY2022 where 78.2% were related to trade financing. Excluding trade financing, JBC’s borrowings increased to RM 0.17 billion in FY2022 from RM 0.06 billion in FY2021 due to the issuance of RM 100 million under the Sukuk Wakalah Programme in Nov 2022. The borrowings rose 37% to RM 1.1 billion in 1H2023, mainly attributable to the rising price of cocoa beans, translating the DE ratio to 1.3x for 1H2023. 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 0.95x in FY22, as such we do not see the DE ratio of JB Cocoa as out of the norm.

Higher leverage might pose some concerns to the investors. Nevertheless, we view that the credit risk remains manageable as these trade facilities shall be self-diminished from inventory and receivables as well as the higher revenue once the expansion is done.

Higher Operating efficiency

Chart 2: Plant Utilisation Rate (k MT)

As mentioned in the previous article, the increasing plant utilisation rate evidence JBC’s strong operational efficiency and expertise in the cocoa production line. In FY2022, the utilisation rate stood at 84% is testament to JBC expertise in managing and utilising the resources. In 1Q2023, JBC recorded a new high utilisation rate of 91%, indicating strong demand for its key products, namely cocoa butter, cocoa powder and cocoa mass.

Business outlook

Chart 3: World Grindings (2010 – 2023)

JB Cocoa is one of the largest cocoa processors, it has maintained sustainable partnerships in collaborating with global key customers such as MARS, Nestle, Mondelez and etc. It is unlikely that the global key customers would cease their collaboration with JBC as the quality of products is proven.

According to EMR, the cocoa market is expected to grow at a CAGR of 4.7% between 2023 and 2028. This is attributable to the rising demand for cocoa from consumer markets such as China, India, United States and Europe. JBC will be benefited as they are currently expanding the processing facilities to prepare to serve more customers. The company’s order book is filled for 9 months in the future, the order is still increasing at this moment, reflecting a steady demand for cocoa.

Potential Risks

Ukraine-Russia conflict

JBC reported that 17% of their FY2022 revenue was contributed by its Russia business. In fact, JBC does not have any manufacturing operations and assets located in both Ukraine and Russia. The major customers in Russia like Mars, Nestle and Mondelez, which has occupied 70% of the supply to Russia by JBC. We are aware that the on-going conflict poses uncertainty to the economy. Since we observe that some of the western companies decided to close down their business in Russia, it is important to understand the implication to JBC under this extreme situation. 

In the worst scenario where the key customers cease the operations in Ukraine and Russia, there will be a significant impact to JBC as the revenue generated from these regions accounted for quite a large proportion of 17% in FY2022. However, the current production is behind the demand and the order book has been mostly filled for 9 months in the future. This means that the clients are actually queuing for the cocoa products in the future. If things go wrong, the gap will be filled up by other customers instead.

Supply chain disruptions and rising cocoa cost

The sales revenue will be driven by several factors such as delay in delivery due to low volume of shipments, shortage of raw materials, climate change and changes in regulatory.

We view that the impact is mild as JBC is diversifying the cocoa bean grinding by expanding new facility in Ivory Coast to focus on supplying to America and Europe customers and to minimise exposure to region-specific issues such as adverse weather patterns and changes in regulatory environment.

The increase in cocoa bean prices is largely transferred to customers, however, increase in prices will increase the overall interest expense of JBC and the cost of hedging the beans. We see this affecting their overall margins and may reduce profitability, though in our opinion, not significantly.

Attractive pricing with a spread of 230bps

Compared to other sukuks with similar credit rating in the market, JBC’s new issuance is priced rather attractively with a spread of 230bps above the benchmark 3yrs MGS. With the current MGS yield as of 1 Nov 2023, JBC has an indicative yield of 6% which is very attractive considering other similarly rated sukuk are trading at a YTM range of 4.6 -5.7%.

Table 5: Senior MYR Bonds at similar rating

Recommendation

Based on historical performance, JBC has maintained a strong operating track record whereby the revenue and profit were increasing constantly in the past 5 years. Also, JB Cocoa is a reputable company with key clients such as Mars and Nestle.

On top of that, the holding company (JB Foods) will be the guarantor of JB Cocoa to provide liquidity support for the issuance of sukuk. Furthermore, we think that the JB Cocoa’s credit profile is strong enough to make coupon repayment and redeem the sukuk upon maturity. JB Cocoa is offering investors a good opportunity to enjoy an attractive return from the issuance. Owing to that, we will recommend the investors to consider the 3 years JB Cocoa Sukuk with an indicative yield of 6% (T+230bps).

For specific disclosure, at the time of publication of this report, IFPL (via its connected and associated entities) holds positions in JBCOCO 5.820% 28Nov2025 Corp (MYR). The analyst who produced this report holds a NIL position in the abovementioned securities.