Investment Highlights

• We raise our FY19-21F net profit forecasts by 3%, 4% and 3% respectively, upgrade our FV by 3% to RM2.80 (from RM2.71) but maintain our HOLD call. Our FV is based on 12x revised CY19F FD EPS of 23.3 sen, in line with our benchmark forward target P/E of 11-13x for large-cap construction stocks. Our earnings upgrade is largely to reflect the remaining MRT2 underground works being profitable, vs. just breaking even that we assumed previously.

• Gamuda has guided for its 50% share of the remaining MRT2 works now standing at RM8.5bil, comprising RM5.3bil from the elevated portion and RM3.2bil from the underground section. This follows the cost rationalisation deal struck with the government that has resulted in a 22.4% or RM8.82bil reduction in the overall project cost from RM39.35bil to RM30.53bil. Of the RM8.82bil savings, RM5.22bil has come from the elevated portion (a 23% reduction from RM22.64bil to RM17.42bil), while the balance RM3.6bil from the underground section (a 21.5% reduction from RM16.71bil to RM13.11bil). At present, the elevated and underground portions of the project are 30% and 40% completed respectively.

• It has also guided for “a PBT margin of 5-6% for the remaining works”, vs. our assumptions of 5.2% and 0% for the elevated and underground sections respectively. We feel that the company’s guidance for margins is a tad optimistic, given the massive cut in the project value (arguably, part of the cut has actually come from the downsizing of the project scope), coupled with the fact that MMC-Gamuda is now directly exposed to the risk of cost overrun under the current fixed price contract basis (vs. “within budget” being just a KPI that could subject MMC Gamuda to penalties under the previous project delivery partner model).

• We now assume a PBT margin of 4% for both elevated and underground works, resulting in earnings being 3-4% higher and an FV upgrade of 3% to RM2.80 as mentioned. If we were to fully reflect the company’s guidance for a 5.5% PBT margin, our earnings would be 8-11% higher while the FV upgrade would be 8% to RM2.94.

• In our mind, the earnings upgrade, be it 3-4% or 8-11% is secondary. The greatest comfort we have derived from the latest episode, i.e. the reinstatement of MMC-Gamuda as the tunnelling contractor for the MRT2, is the fact that Gamuda’s working relationship with the government seems to have “normalised”. This definitely puts it in a much better position to push for the Penang Transport Master Plan project, as well as to garner a meaningful role in the MRT3 project down the road.

• We remain cautious on the outlook for the local construction sector as the government cuts back on public infrastructure projects on grounds of fiscal prudence. While the rollout of public infrastructure projects will resume over the medium term as infrastructure development remains key to nation-building, we believe the focus will shift to smaller scale/value-for-money basic infrastructure projects such as road upgrading, bridges, schools, drainage, rural water and electricity supply and smallish sewerage schemes, from multi-billion mega projects. The smaller projects are less economical to large-contractors such as Gamuda, given their high fixed overheads. Not helping either, is the uncertainty arising from the potential expropriation of Gamuda’s toll roads.

Source: AmInvest Research - 29 Oct 2018