Investment Highlights

• Hybrid financing model for MRT3 scrapped. As MRT Corp is conducting a detailed and comprehensive study on the proposed MRT3 alignment, including the suitability of a realignment, the funding model has reverted to debt issuance by DanaInfra Nasional (DanaInfra). The project was meant to be private finance initiative-based or funded via a hybrid financing model, whereby the winning contractors of each civil work package and system works are required to fund the project for the initial 2 years or 10% of the contract value.

• More clarity and stability amidst lower financing costs. Although the issuance of debts could raise the government’s debt even further, potentially affecting the country’s credit rating, we think that the move to debt financing would provide more clarity and stability to the project, benefitting the contractors involved. Under the hybrid financing model, contractors have to take on additional funding risk as they will only be paid on the 25th month, hence the financing cost is expected to be higher than normal construction projects. Banks may also offer credit lines at a higher rate because of the increased risk associated.
   
• Major realignment of MRT3 unlikely. MRT Corp is currently conducting a detailed and comprehensive study of the proposed MRT3 alignment, including the suitability of realignment. We reckon that the project may be downscaled as the government seeks to reduce the cost of the project. For example, the government may look to cut the project management cost, which is now estimated to be RM9bil.
   
• Expect MRT3 awards in 2H2023. Notwithstanding the possibility of realignment, we do not think that there would be a fresh tender as the bidders have broken up their bids into 2 proposals – one for design/construction and the other for the initial financing period of 2 years. We expect the tender awards for the main packages and subcontracts to take place in 2H2023. This is after the completion of public inspection of the MRT3 railway scheme together with the study of the proposed alignment and suitability of realignment. Currently, the 3 civil work packages are CMC301 (5.8km elevated), CMC302 (28km elevated and 0.7km underground) and CMC303 (6.3km elevated and 10.1km underground).

• Re-tabling of Budget 2023 on 24 Feb 2023. Although the PM has signalled that Budget 2023 would be largely intact, there are concerns that the RM95bil development expenditure would be revised downwards. The government’s fiscal position is stretched due to the economic impact of the pandemic and subsequent massive relief spending. Furthermore, the national debt of RM1.5tril remains elevated.

• Operating margins may face compression. In Central Peninsula, steel prices continued to fall, sliding 29% to RM3,099/tonne in Jan 2023 from a peak of RM4,344/tonne in Apr 2022 (Exhibit 4), whereas bag cement prices rose to RM19.23/50kg bag – 8% higher than Jan 2021 levels (Exhibit 5). Looking ahead, we expect steel prices to continue easing while cement costs remain high (Exhibit 6). Additionally, government jobs are likely to be awarded through open tenders. As contractors submit competitive bids, smaller contractors may face margin compression.

• We are NEUTRAL on the sector given the possibility of margin compression arising from an open tender regime and higher building material costs. We may upgrade the sector if the government proceeds with key public infrastructure projects or if the companies’ operating profit margins improve due to lower costs. Alternatively, we may downgrade the sector if the compression in operating margin is worse than expected or mega projects are shelved.

Source: AmInvest Research - 20 Feb 2023