Supply Chain Sector: We favour SCMs with less upstream and industrial exposure (DMG)

(OVERWEIGHT)

Concerns on global economic growth have escalated in recent weeks. Within the supply chain management (SCM) sector, the most adverse effect from an economic slowdown will be felt on corporates that have (1) greater exposure to industrial commodities and (2) more upstream industrial commodity assets. Within the three corporates we cover under this sector, Glencore meets the criteria. We believe Glencore’s earnings could be most adversely affected, whereas Olam’s is seen to be most resilient given its greater dependence on agriculture produce (77% of gross contribution). Since global equity markets started their sharp downtrend in early Aug 11, Glencore’s share price has fallen 15% in S$ terms, whereas Olam’s has fallen 16%, and Noble by 32%. We feel that the risk-reward trade-off favours investors buying into Olam and Noble, while holding Glencore.

Glencore susceptible to softness in industrial commodity prices. Between end-Jul and end-Sep 2011, copper and zinc prices fell 28% and 24% respectively, and these two industrial commodities are key contributors to Glencore’s earnings, as Glencore has upstream businesses for these commodities. If prices for these commodities remain soft, Glencore’s earnings could see re-rating going forward. Our Glencore target price of HK$52.13 is derived from SOTP methodology.

Olam’s earnings seen to be resilient. Olam has the greatest percentage exposure to agriculture produce, amongst its peers. Olam has also shown its execution capability by recording a 3-year net contribution CAGR of 33%. New projects such as the Gabon urea manufacturing facility (to be operational mid-2014) will also boost earnings. With Olam’s earnings resilience, we recommend investors to BUY into Olam given its current attractive price. Our Olam target price of S$2.98 is derived from a 3-stage DCF model.

Noble’s potential listng of agri business to support share price. Noble has just announced its intention to possibly list its agri business on the SGX. We believe this will unlock value as the agriculture business deserves a higher P/E than the industrial business in the current global economic climate. Noble’s earnings is also seen to improve with recent acquisitions such as Sempra Energy Solutions in 2010. Given the sharp decline in Noble’s share price since end Jul 11, we see value. Noble is on our BUY list, with a target price of S$2.00, derived from a FY11 P/E multiple of 15.3x.