Investment Highlights

• We cut our FY21F net profit forecast by 12% and reduce our fair value (FV) based on “sum of parts” (SOP) (Exhibit 2) by 8% to RM3.16 (from RM3.49). This values Gamuda’s construction business at 13x forward earnings, at a slight discount to our benchmark forward target PE of 14x for large-cap construction stocks, to reflect the increased risk of its order book (that includes a sizeable self-funded reclamation project). There is no FV adjustment for ESG based on our 3-star rating (Exhibit 6). Maintain HOLD.

• Gamuda's 9MFY21 net profit came in below expectations at only 66% and 69% of our full-year forecast and the full-year consensus estimates respectively. We believe the key variance against our forecast came largely from a fading hope for a bumper 4Q as construction activities and property sales/progress billings are bracing for a significant slowdown (vs. a pick-up previously assumed) amidst a new nationwide lockdown from 1 June 2021.

• Its 9MFY21 net profit contracted 4% YoY. Stronger construction profits (underpinned by high-margin systems works) were more than offset by lower property earnings (weak construction progress, and hence slow billings), while concession earnings were flattish (as toll roads suffered reduced traffic for the second year in a row).

• While only recording RM2.2bil property sales in 9MFY21, Gamuda remains confident that it can achieve its full-year target of RM3.5bil underpinned largely by overseas projects (largely in Vietnam and Singapore) that now typically contribute about two-thirds of its total property sales, with the balance coming from local ones.

• Key highlights from its briefing yesterday are:

1. Gamuda guided for a weak 4QFY21F amidst the new nationwide lockdown from 1 June 2021, as works on public infrastructure projects (particularly, the MRT2) are capped at 60% workforce, while works on property projects come to a complete halt;
2. Gamuda believes that it now seems a tall order for the tenders of MRT3 work packages to be called by Aug 2021 as widely reported previously, given the significant changes to be made (including scaling up the project’s scope and hence cost, but stretching the construction period, etc.). It believes that the Aug 2021 timeline is likely to be pushed back by 2–3 months;
3. Gamuda has failed in its bid for the A$2.6bil (RM7.8bil) Sydney M6 motorway. It is now pinning its hopes on the two remaining tenders in Australia, namely:
   • the A$20bil (RM60bil) Sydney Metro West project’s first two major tunnelling packages i.e. the Central Tunnelling package from the Bays Precinct to Sydney Olympic Park (11km) and the Western Tunnelling package from Sydney Olympic Park to Westmead (9km), via a JV with prominent UK-based international contractor Laing O’Rourke. The winner for the first of the two packages could be announced “in a month or two”; and
   • the Greater Western Sydney–Western Sydney International Airport metro line, via a JV with prominent Australian contractor John Holland. The winning bid is expected to be unveiled in 1Q 2022.
4. For the Penang Transport Master Plan (PTMP) project, Gamuda guided for physical work for Phase 1, Island A, to start in Aug 2021 (vs. its previous guidance for Apr 2021), assuming it is to secure the approval for its environmental management plan in July 2021.
   
   Recall, we are taken aback by Gamuda’s decision to put its balance sheet behind Island A. On one hand, this enables the project to finally get off the ground and the immediate realisation of a RM5bil order book for Gamuda. One the other hand, Gamuda is effectively sailing into uncharted waters by placing a RM6–7bil bet on reclaimed land in Penang Island (which is very significant as compared with Gamuda’s market value of about RM9bil currently). An investor who bought into Gamuda for its highly cash-generative contracting, water and toll road businesses, could wake up owning a company that is poised for significant cash outflows over a prolonged period of time, i.e. at least four years, before the first land sale could be concluded. Gamuda’s riskreturn profile has materially altered.

• Meanwhile, we remain cautious on the outlook for the local construction sector. On one hand, we acknowledge that the trading sentiment on construction stocks has improved following the government announcement that the MRT3 project will commence work during 2H 2021. On the other hand, macro and operational challenges remain aplenty in the sector including high national debt weighing on the government’s ability to roll out public projects, a 12th Malaysia Plan that has yet to be revealed, a dynamic political landscape and mega projects that have lost their shine (less impactful as they are not fast-tracked and implementation models that gravitate towards a publicprivate partnership where the main contractor may be required to take on certain operating/commercial risk and/or participate in the funding of the project). Additionally, competition is intensifying (as both public and private projects dry up amidst a growing presence of foreign contractors, especially large state-owned Chinese contractors), operating cost and risk are higher, efficiency lower and a disrupted supply-chain as the pandemic rages on.

• We hold the view that the outcome of the PTMP project thus far (i.e. the implementation model for Island A) is not the best investors could have possibly hoped for. However, Gamuda could still spring a surprise or two if it wins sizeable jobs in Australia, or if the Malaysian government decides to pump prime the economy via the implementation of mega public projects despite the high national debt. At about 13–15x forward earnings and with a significantly riskier earnings profile now, we believe Gamuda’s upside is capped.

Source: AmInvest Research - 25 Jun 2021