Investment Highlights

• We cut our FY19–21F core net profit forecasts by 12%, 4% and 5% respectively (mainly to reflect lower associate contributions). We also reduce our FV by 4% to RM2.51 (from RM2.60 previously) based on 10x revised FY20F EPS, in line with our benchmark forward target P/E for large-cap construction/building materials stocks. Maintain UNDERWEIGHT.

• Cahya Mata Sarawak’s (CMS) 1QFY19 net profit came in below expectations at only 14% and 15% of our full-year forecast and full-year consensus estimates respectively. We believe the variances against our forecast came largely from lower-than-expected associate contributions.

• The company’s 1QFY19 net profit eased 4% YoY as higher profits from cement (due to higher sales volume and lower maintenance cost), other building materials (due to improved sales and margins, coupled with some writebacks) and property (due to RM10.8mil profits from land sales to Sealink International and a higher number of condominium units and apartments sold), were offset by lower contributions from construction and road maintenance (due to cost escalation) and associates.

• Associate contributions, that come largely from 25%- owned OM Materials, plunged 63% YoY due to: (1) a 14% and 23% YoY drop in sales volume for ferrosilicon (FeSi) and manganese alloy to 51.2K tonnes and 50.6K tonnes respectively; and (2) a 15% YoY drop in the average selling price (ASP) for FeSi to US$1,170/tonne in the 1QFY19 from US$1,380/tonne in the 1QFY18.

• The weaker FeSi sales volume and ASP for OM Materials were largely due to supply pressure from China on the back of a 21% increase in FeSi production in China to 5.38mil tonnnes for the 12 months ended January 2019 (from 4.43mil tonnes for the 12 months ended January 2018) coupled with lower demand for the 75%-grade FeSi on the back of stricter environmental policies in China.

• We maintain our view that a sustainable funding model for public infrastructure development in Sarawak is by tapping into federal funds vs. draining the state reserves of Sarawak. In any case, we believe that the market could have adequately priced in the potential of a state reservesfuelled infrastructure boom in Sarawak (ahead of the Sarawak state election which must be held by Sep 2021) with CMS share price having recovered strongly from the year-low of RM1.92.

• We remain cautious on CMS due to the cutback in public infrastructure spending as the federal government tightens its belt. We are also mindful of the potential threat to the market dominance of existing players in the construction and building materials sectors in Sarawak on an altered political landscape in Malaysia after the 14th general election. Increased competition could put a dent on CMS’ prospects of winning new construction jobs, securing extensions or its road maintenance concessions, as well as sustaining high margins for its construction, road maintenance and cement businesses.

Source: AmInvest Research - 16 May 2019