David Kempton: Why I got back into dividing palm oil stocks as prices soar

Having seen the price of palm oil rise 68% in the past year and 152% in 18 months to its highest level on record, I revisited the industry. The price is now double the average of the past 10 years, significantly increasing the incomes of the three Asian palm oil producers listed in the UK.

The price is expected to remain at these record highs for the foreseeable future as increased demand, largely for biofuels, coincides with reduced production due to chronic (and Covid-19-related) labor shortages, regional flooding and logistical problems, initially caused by the pandemic. Further afield, the pandemic effect will subside, but unusually humid conditions continue to be expected for the region.

During a period as the director of a small private Indonesian palm oil producer, SGA Kaltim, I got used to being beaten by colleagues over the immorality of palm oil producers as investments in the sector were framed by tobacco and weaponry as socially irresponsible and avoided. It was then, but since then oversight controls and accountability have improved dramatically in recent years and have completely changed the investment climate for the sector.

The COP26 initiatives extracted a commitment from over 100 countries to end all deforestation by 2030, but in the Indonesian palm oil industry, it is already mandatory for all producers to comply with the standards. Indonesian sustainable palm oil. Responsible manufacturers also have Round Table on Sustainable Palm Oil (RSPO) certification, thus maintaining sustainable agricultural and environmental practices with full product traceability. (Although the RSPO is not without its critics.)

Responsible manufacturers, and certainly those mentioned here, are also engaging with Spott, a free online platform supporting the sustainable production and trade of commodities. Spott follows transparency and encourages best business practices, while evaluating producers, processors and commodity traders on their public disclosure regarding their organization, policies and practices related to environmental, social and governance issues.

The clearing of forests to provide more farmland and the destruction of orangutan habitats were constantly exposed in media programs. In the past, the scenes of severe deforestation and homeless wandering orangutans were likely accurate, but in recent years the industry has been properly regulated and constantly monitored. “Burning” in Sumatra, causing the Singapore sun to disappear in smog, is now illegal.

Much of the world’s farmland has been developed from old growth forests – it becomes a question of when this happened. It is only in recent years that we have understood the need for forests and vegetation to maintain atmospheric stability.

To contextualize the impact of palm oil, Our World in Data research indicates that forestry accounted for 44% of habitable land in 1950, rising to 38% in 2018. Globally, 300 million hectares are used for the production of vegetable oil, of which palm oil represents only 6%. . Even though, such is its productivity compared to any other oil, it accounts for 36% of the total oil produced. The impact of palm oil only represented 2% of total deforestation over the period 1950 to 2018.

Soybean plants, mostly grown in Brazil and the United States on the immense expanse of natural grasslands stretching from Alaska to Mexico, where all deforestation has occurred in previous years, use nine times the land area of oil palms for similar oil production (0.4 ton per hectare of palm 3.72 t / ha of oil). Other vegetable oils can be used up to 20 times.

Meanwhile, beef production remains the primary driver of deforestation in the world’s rainforests. The forest conversion it generates is more than double that generated by the production of soybeans, palm oil and wood products (the second, third and fourth biggest engines) combined, according to the Global Fund for the Protection of the Earth. nature.

Although the bulk of palm oil exports go to India and China, where the rapidly growing middle classes use it as frying and cooking oil, in the western world we “use” all palm oil every day. It is estimated that 50% of all packaged goods sold in a UK supermarket contain palm oil including margarine, ice cream, many processed foods, cosmetics, soaps, shampoo, pharmaceuticals , detergents, packaged bread, chocolate; the list goes on.

Palm oil selections

Undoubtedly, global population growth, improved living standards and biofuel mandates are dramatically increasing the demand for vegetable oils, supporting a strong outlook for the palm oil sector.

It may be a controversial product, but the companies here, which I bought recently, pride themselves on their sustainable production and traceability, including paying and treating workers well and supporting local communities. They also plan to equip all factories with biogas plants to capture methane gas emissions, produced from their plant waste, to generate electricity and even supply the surplus to local villages.

Deputy Evans (MPE), with a market capitalization of £ 462million, is the largest of UK ‘palm oilers’ and achieved operating profit of £ 30million in the first half of the year. That’s an increase of more than six times over the same period last year and even 32% more than profits for all of 2020, illustrating not only the rise in the price of palm oil, but also a 50% increase in its crushing capacity.

Increased confidence is demonstrated by investing in new production and purchasing existing farmland to ensure continued expansion. Earnings per share is expected to increase 183% from its fiscal 2020 to 2021, resulting in a projected price-to-earnings (PE) ratio of 11, with plans to increase total dividends from 22p to 30p. MPE ultimately sold off the residue of its legacy property holdings in Malaysia to create a compelling case for owning this outright palm oil producer.

REA Holdings (RE), with a market capitalization of £ 42million, has struggled in recent years with annual losses and growing debt, but has now recovered strongly with results for the first half showing comparable income up by 41% and pre-tax profits of $ 27.7million (£ 20.1million), an increase of 147%. New local bank debt agreements for the group’s operating subsidiary were concluded with lower interest rates in the longer term. The small coal concession will be settled in 18 months, closed and the investment paid off. The stone concession, where the product is in high demand, will begin to make a useful contribution next year.

Perhaps the most important corporate event of recent years has been the DSN Group’s 15% stake in the operating company. DSN (known entirely as PT Dharma Satya Nusantara Tbk) is an Indonesian listed company based in Jakarta and Singapore and recognized as one of the most efficient palm oil producers in the world, with 112,600 hectares planted. As a partner, this is a significant boost for REA’s local operations in East Kalimantan, Borneo, and should help the company return to profit with the price of palm oil at a record level and which should remain around this level.

Anglo-Eastern plantations (AEP), with a market capitalization of £ 270million, owns palm oil plantations in Malaysia and Indonesia. Earnings per share growth from 2019 to 2020 was 120% for a PE of 10.3, but the company and broker are apparently not making any projections for 2021. Shareholding is unusual in that Lim Siew Kim from Kuala Lumpur , the non-executive chairman, owns 52% of the company and other institutions own 23%.

The first two of these stocks are also held by UK fund management groups, although there have been some sales this year. Aberdeen, Chelverton and Schroders are all top 10 shareholders of MP Evans, according to data from Refinitiv. The main shareholders of REA are M&G, Odey and Aberforth.

David Kempton is a seasoned investor, owner of Kempton Holdings and has served as a non-executive director of a number of listed and private companies, including Hawksmoor Investment Management and Impax Funds Ireland. He may have an interest in any of the investments he writes about.

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Steve R. Hansen