Investment Highlights

• We trim our FY20–22 net profit forecasts by about 2% each, but raise our FV by 5% to RM1.22 (from RM1.16). We change our valuation method to “sum of parts” (SOP) (Exhibit 1) (from straight P/E) to reflect a better chance for IJM to realise fair valuations for its toll roads (taking the cue from the government’s seemingly fair takeover proposals for Gamuda’s toll roads recently). Our valuation basis for IJM’s construction business (within the SOP valuation) remains unchanged at 10x forward earnings, in line with our benchmark forward target P/E of 10x for largecap construction stocks. Maintain UNDERWEIGHT.

• MRCB George Kent Sdn Bhd (MRCB-GKent) has terminated IJM as the main contractor for the RM1.1bil underground section of the LRT3 project. To recap, MRCBGKent was originally the project delivery partner for the project, which was subsequently converted into fixedprice turnkey contractor. MRCB-GKent actually cited the change in the contractual model for the project as the reason for the termination.

• On the other hand, IJM said that it is “consulting its advisers and will seek appropriate legal redress under the contract”. IJM also said that “preliminary works had commenced before the project was suspended in June 2018”.

• Our earnings downgrade is to reflect the loss of the contract, which has reduced IJM’s outstanding construction order book by 14% to RM6.7bil from RM7.8bil. We are keeping our assumption that IJM will secure RM1.5bil worth of new construction jobs annually in FY20–22F. IJM has yet to secure any new major contract in FY20F.

• We are more inclined to see the latest development as an isolated event (the underground section was the last main contract being dished out, and hence the least progress made). However, it is still likely to hurt the trading sentiment on other listed contractors involved in the project comprising WCT, Econpile, Mudajaya, Gabungan AQRS, TRC and Sunway Construction. Meanwhile, major private companies involved in the project include Apex Communications, Rahimkon, Pembinaan Jaya Zira and SN Akmida.

• We maintain our view that valuations of construction stocks, IJM included, have run ahead of their fundamentals in the heat of the euphoria sparked by the recent revival of the East Coast Rail Link (ECRL) and Bandar Malaysia projects (more so as most key local contractors may not even participate in the ECRL project given the highly unattractive margins, while Bandar Malaysia may not get off the ground immediately given the glut in the commercial and office segments in the Klang Valley).

• We believe the fact remains 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 impedes the government’s ability to implement other public infrastructure projects.

• Similarly, we are cautious on IJM’s other key businesses such as building material (due to the slowdown in the local construction sector), property (due to oversupply and a tight lending policy by the banks), plantation (due to the depressed palm oil prices) and toll road (due to the potential takeover by the government). Valuations are unattractive at 19–22x forward earnings on muted prospects.

Source: AmInvest Research - 10 Jul 2019