Gamuda announced that it has received a Letter of Offer dated 21st June from the Ministry of Finance for the acquisition of its four-highway concessions namely Litrak, SPRINT, KESAS and the SMART Tunnel. The Government’s offer of RM6.2bn including all the borrowings tied to the concessions, with an equity value of RM4.5bn is deemed fair, in our view. Based on Gamuda’s effective stake, its portion would be around RM2.4bn. With gearing to improve to 0.2x, we do not rule out the likelihood of a special dividend to the shareholders. The offer remains valid until 12 July 2019. We maintain our earnings estimates for now, pending its 3QFY19 results due on 27th June. The share price has gone up to RM3.83 (+8.8%) over the last week, with the market already reacting to this development beforehand. Our Neutral call is maintained, with target price raised to RM3.93 (from RM2.88 previously), as we remove the 30% discount to our valuation given the removal of uncertainties with these last few concession assets finally on the block. The valuation also accounts for a potential loss in highway concession earnings, while reflecting the RM2.36bn highway equity value.

• Highway takeover offer. Following on its earlier announcement that it had commenced talks with Gamuda relating to the acquisition of the latter’s four highway concessions, the government has, on 21st June (after a month’s delay), issued a Letter of Offer to the Group with an offer of RM6.2bn including all the borrowings that are tied to the concessions, with an equity value of around RM4.5bn. Based on Gamuda’s effective interest in these toll highways, its portion would be around RM2.4bn, translating to 96sen/share. The highways in question are Lebuhraya Shah Alam (KESAS, 70% stake), Sistem Penyuraian Trafik KL Barat (SPRINT, 52% stake), Lebuhraya Damansara Puchong (LDP, 44% stake) and SMART Tunnel (50% stake). Completion, if agreed upon by shareholders, shall take place by 31 December 2019. The offer remains valid only until 12 July 2019. To recap, the offer was made by the Government in order to fulfill part of its promise in its election manifesto i.e. to take over and abolish toll collections. The announcement made by the Prime Minister’s Office earlier on 23 Feb 2019 had caught many by surprise timing of the negotiation was largely unexpected given the government’s reported financial constraints. The Government also disclosed its plan on the toll roads with the introduction of a new price mechanism – ‘Congestion Charge’.

• Attractiveness of this deal – fair, as expected. Although the equity value net to Gamuda of RM2.36bn is slightly short (by 12.3%) of our valuations on those four highways at RM2.69bn, we deem the offer fair as we had already anticipated a slight discount earlier, taking cue from the previous SPLASH deal which was completed in August last year at RM2.55bn deal, translating to a discount of 28% from its book value of RM3.54bn. Nevertheless, we understand that this offer is largely in line with Gamuda’s internal valuation for the four highways of around RM2.3bn – RM2.4bn. This also reinforces earlier indications of the acquisition being on a ‘willing buyer, willing seller’ basis with no risk of forced acquisition or expropriation.

• Potential special dividend? Upon completion of the deal, Gamuda will become a relatively cash rich company. Based on Gamuda’s FY18 numbers, the Group’s cash in hand stood at RM1.2bn while total debt was about RM5.7bn. We estimate the Group’s gearing ratio will reduce to 0.4x (from 0.54x in 1QFY19) from SPLASH’s disposal proceeds, before falling further to 0.2x from the sales of these four highways. As such, we do not rule out the likelihood of a special dividend to shareholders, on top of annual dividend payout of 12sen/share.
• More funds for property projects. Aside from potential special dividend, we expect Gamuda will also utilize the cash proceeds to fund its property development projects such as Gamuda Cove and Gamuda Gardens with both have GDVs of RM20bn and RM10.6bn respectively over 15 – 20 years of development. This year, the Group is targeting to launch projects with GDV around RM1.5bn for Gamuda Cove and RM200m - RM250m for Gamuda Gardens, with targeted sales of RM380m and RM470m respectively. In addition, we also understand that the Group is exploring new recurring income businesses to acquire or invest into.
• Construction segment – getting busy. The revival of ECRL and Bandar Malaysia undoubtedly will benefit local players with order book replenishments. Although we reckon works is only likely to re commence next year, it should keep local players, including Gamuda, busy with job awards. On the ECRL, the Government has affirmed that 40% of the subcontractors for the project would be Malaysians. This translates to RM17.6bn worth of contracts that will be available. We expect Gamuda will participate and play a role in the project this time around. We understand that Gamuda had tried to get sub-contracting works from CCCC previously, though not successful. On top of these, we also expect more positive developments to come from the Penang Transport Master Plan (PTMP) of which Gamuda is project delivery partner (PDP).

• Earnings forecast and valuation. The takeover of Gamuda’s highway concession assets by the Government will undoubtedly leave a void in in the Group’s future earnings, which could see our FY20/21 earnings forecast adjusted lower by an average 30.1% upon completion. We maintain our estimates for now, pending its 3QFY19 results announcement due on 27th June. The share price has gone up to RM3.83 (+8.8%) over the last week, with the market already reacting to this development beforehand. Our Neutral call is maintained, with target price raised to RM3.93 (from RM2.88 previously), as we remove the 30% discount to our valuation given the removal of uncertainties with these last few concession assets finally on the block. The valuation also accounts for a potential loss in highway concession earnings, while reflecting the RM2.36bn highway equity value.

Source: PublicInvest Research - 24 Jun 2019