Olam - Depreciation to kick-in 3Q08

According to Management, the Group’s key commodity segments are all performing well in 3Q08. In coffee, Olam is seeing significant growth coming from their Arabica business especially in intra-country sourcing and delivery in Brazil. In sugar, the Group has been successful in enhancing volumes to the CIS. Dairy along with the high-end timber business are continuing to see weakens. Overall, in light of these new data points we believe our initial volume assumptions are too light. As a result, we have raised our FY09 volume growth assumptions from 10% YoY to 20% YoY.

Depreciation for Queensland Cotton is charged on a USD per bale basis and the ginning season is set to begin in late 3Q08. Consequently, we expect depreciation to rise by 4x HoH in 2H09. Separately, the Group has added headcount. As a result, we expect opex to grow 15% YoY in FY09.

Olam’s peers trade at 14x FY09 earnings post the recent rally. We ascribe a 20% valuation premium to Olam for superior Management quality. However, we estimate that to reach 16x FY09 earnings the Group will need to deliver 32% YoY FY09 volume growth; the highest in the Group’s listed history. Or at current volume assumptions, net contribution per tonne will need to improve 10% YoY. With the company’s shift towards lower margin intra-country trade and softening commodity prices, we believe the likelihood of this is low.

We raise our FY09-11 earnings assumptions by 18-25% to reflect our higher volume expectations. Nevertheless, trading at 19x FY09 earnings and a 1.6% yield vs. 14x and 4.5% for the Singapore market, we argue the stock is overvalued. Our new DCF and peer valuation based target price of S$1.03 (up from S$0.88) implies 36% downside. SELL.

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