Investment Highlights

• We raise our FY19–20F net profit forecasts by 14% and 15% respectively, revise up our FV by 14% to RM1.14 (from RM1.00) but maintain our UNDERWEIGHT call. Our new FV is based on 8x FD FY19F EPS, in line with our benchmark forward target PE of 8x for small-cap construction stocks.

• Kimlun's FY18 net profit beat our forecast and consensus estimates by 37% and 15% respectively. The key variance against our forecast came from higher-than-expected overall margins arising from a much reduced provision for doubtful debts of RM1.8mil in FY18 vs. RM11.6mil in FY17. We have reflected the improvement in our forecasts, assuming the trend will be sustained.

• FY18 net profit declined by 11% YoY as improved earnings from the precast concrete product division (largely driven by higher sales volumes), were more than offset by weaker construction profits (on the back of the double-whammy of reduced topline and margins).

• At present, Kimlun’s outstanding construction order book stands at RM1.9bil which shall keep it busy for the next two years. Our forecasts assume construction job wins of RM700mil annually in FY19–21F. Similarly, its precast concrete product division has an order backlog of about RM300mil that should also keep it busy over the next two years as well.

• We hold the view that the current slowdown in the local construction industry sector is no ordinary sector cyclical downturn, but a secular change to the sector’s fundamentals, triggered by: (1) A major cutback in public infrastructure spending over the medium term as the government adheres to fiscal prudence; and (2) The permanent reduction in overall margins for players in the absence of high-margin directly-negotiated government jobs, as the government observes higher standards of transparency and accountability in public procurement.

• Despite our earnings upgrade, Kimlun’s valuations as a small-cap construction stock remain unattractive at 9x forward earnings on muted sector prospects.

Source: AmInvest Research - 28 Feb 2019