Investment Highlights

• We maintain our UNDERWEIGHT call, forecasts and FV of RM1.14 based on 8x FD FY20F EPS, in line with our benchmark forward target PE of 8x for small-cap construction stocks.

• Kimlun's 1QFY19 net profit came in at 31% and 26% of our full-year forecast and the full-year consensus estimates respectively. However, we consider the results within expectations as we expect weaker quarters ahead. During a recent visit, the company reiterated that the local construction and building material sectors are bracing for a very challenging time ahead (particularly, in terms of cash flow management), and hence, it prioritises credit risk management over growing its earnings.

• Kimlun’s 1QFY19 net profit grew by 26% YoY as improved earnings from the precast concrete product division (largely driven by a pick-up in delivery of segments to the MRT2 project), were partially offset by weaker construction profits (as margin contraction more than offset topline growth).

• At present, Kimlun’s outstanding construction order book stands at RM1.7bil which shall keep it busy for the next two years. Our forecasts assume construction job wins of RM700mil annually in FY19–21F. So far in FY19F, it has secured from private company Rexpoint Resources a RM204.4mil building job for two apartment blocks in Selangor. 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 acknowledge that the revival of the East Coast Rail Link (ECRL) and Bandar Malaysia projects shall result in more jobs available in the market for local construction players. However, we believe the market has not priced in enough risk premium to reflect:

1. The fact that the latest mega projects are driven by world-class Chinese contractors (and Chinese funding) which probably leaves the local contractors with only low-value/low-margin supporting roles in the projects; and

2. The fact that given the still elevated national debt, the government has no choice but to remain steadfastly committed to fiscal prudence which means the revival of the ECRL project could be a “zero-sum game” as it may impede the government’s ability to implement other public infrastructure projects.

• Kimlun’s valuations as a small-cap construction stock remain unattractive at 9–10x forward earnings on muted sector prospects.

Source: AmInvest Research - 31 May 2019