Gamuda’s proposal to the Federal Government back in 2021 to put its four highway concessions namely Kesas, Litrak, SMART Tunnel and SPRINT in a trust company has finally came to fruition with the receipt of offer from Amanat Lebuhraya Rakyat Berhad (ALR), a private “not-for-profit” company established to assume ownership of the highway concessions. ALR’s offer of RM5.5bn including all borrowings tied to the concessions, with an equity value of RM4.4bn is deemed acceptable given Gamuda’s eager interest to dispose all its highway concessions due to 1) increasing uncertainty of compensation receivables from the Government in relation to its tight finances, and 2) attaining net cash position of RM0.6bn to better stomach upcoming mega infrastructure projects, i.e., MRT 3 and Island A of Penang South Reclamation project. The offer remains valid until 30 April 2022. Gamuda’s effective stake in these four-highway concessions would be at RM2.3bn in which, the management has asserted it will utilise the proceeds from the disposal for reinvestments, reward shareholders and narrow its borrowings. Our Outperform call with target price of RM4.09 is maintained, pending completion of the deal.

• ALR to acquire Gamuda’s toll concessions. Gamuda’s intention to monetize its four-highway concession assets has finally came to fruition, with the receipt of offer from Amanat Lebuhraya Rakyat Berhad (ALR). ALR is a private and not-for-profit company, carrying the mandate of the Government of Malaysia in a proposed restructuring of certain tolled highway concessions. ALR serves to absolve the Government’s burden from paying compensation payments to concessionaires from 1st Jan 2022 without needing to breach the concession agreements. ALR is overseen by a board of directors consisting of highly experienced and respectable individuals, headed by Chairman Tan Sri Azlan Zainol.
  It is understood that ALR will issue about RM5.5bn sukuk (with indicative AAA rating) to fund the acquisition and will be collateralised by future toll collections. All free cash flow collected will be utilised solely to the servicing of interest and principal payments with intention of early redemption of the sukuk, and to subsequently return the concession assets to the Government as early as possible. Based on base-case traffic volume CAGR of 1.7% p.a., this is expected to materialise in May 2032. That said, if traffic falls short of projections, concessions will be extended by between 6 and 10 years (6 years for KESAS and SMART, 10 years for LDP and SPRINT) to protect the ALR and sukuk holders.
  Completion shall take place by 31 July 2022 though the Government may want to iron this out soonest possible to take advantage of the low interest rate environment. The offer remains valid until 30 April 2022.

• Win-win outcome for all stakeholders. We view the proposal as a win win outcome for all stakeholders i.e., the Government, the shareholders of the concessionaires and the users. For the government, this structure will undeniably relieve its financial constraints as it does not incur the need to bear the acquisition cost while it is also not obligated to pay compensation for not permitting the toll rate hikes. Overall, the Government is expected to save about RM4.3bn, given the toll compensation savings of RM5bn to be offset by the RM0.7bn tax waiver.
  Through ALR, the current toll rates will be frozen until the end of the concession, benefitting highway users (in particular motorists) from additional toll fare expenses in the future. This will provide savings of about 29% on a NPV basis up to the end of concessions in 2032. This structure will also facilitate the Government’s possible abolishment of tolls on these highways once the sukuk is fully repaid.
  As for the concessionaires, we view ALR’s offer of RM5.5bn including all borrowings tied to the concessions, with an equity value of RM4.4bn as fair given the projected high single-digit to low-teens internal rate of return (IRR). This also will resolve the long-standing problems in the sector, involving toll rate hikes and compensation.

• Gamuda to also benefit. The equity value net to Gamuda of RM2.33bn (based on DCF valuation and WACC of 6% - 8%) is deemed fair and is in-line with our valuations on those four highways at RM2.28bn (DCF valuation with 7.7% WACC), though slightly lower than the Pakatan Harapan offer in 2019 of RM2.36bn. Overall, we are positive on this development despite the fact that Gamuda will have a loss of recurring earnings of ~RM170m yearly. The Group will be able to unlock the value of its highway concessions from this deal, allowing the Group to strengthen its balance sheet and lower its gearing, in order to better stomach upcoming mega infrastructure projects. Recall, infrastructure projects i.e., MRT 3 underground portion of which Gamuda has an advantage (est. RM11bn) and Island A of Penang South Reclamation project (est. RM5bn), both require initial funding ranging from 10% - 30% of the total project cost via private funding investments (PFI) structure.
  The RM2.33bn bagged from the disposal of its highway concessions would wipe out its existing RM1.7bn in net debt turning the Group into a net cash position of RM0.6bn. Management has asserted it will utilise the proceeds from the disposal for reinvestments, reward shareholders and narrow its borrowings. Gamuda will realise a one-off gain of RM1bn, lifting NAV to RM4.16 (+RM0.45/share).

• Gamuda Land and Gamuda Engineering to expand, aside from new investments in Green infrastructure. Gamuda envisions to double its order book and presales for its engineering and property units respectively in efforts to patch the void from the disposal of its highway concessions. Gamuda aims to restore its earnings in 2 years, by FY24. It is notable that the Group’s concession unit accounted for 24% of total profit in 2QFY22. Nonetheless, we also understand that the Group is exploring new Green-related and recurring income businesses to acquire or invest into, aligned with the Gamuda Green Plan.

• Special dividend likely. Upon completion of the deal, Gamuda will become a relatively cash rich company. Based on Gamuda’s 2QFY22 numbers, the Group’s cash in hand stood at RM3.7bn while total debt was about RM5.4bn. The Group’s gearing ratio will be reduced to -0.6x (from 0.18x in 2QFY22) from the sale of these four highways. Taking cue from SPLASH’s disposal in 2019, we are positive that Gamuda would reward shareholders with a special dividend, on top of the restored annual dividend payout of 12sen/share.

• Earnings forecast and valuation. The takeover of Gamuda’s highway concession assets by the Government will undoubtedly leave a void in the Group’s future earnings, which could see our FY23/24 earnings forecast adjusted lower by 19.9% and 18.6% respectively upon completion (assuming completion by end of FY22). We maintain our estimates for now, pending completion of the deal. Our Outperform call is maintained, with an unchanged target price of RM4.09.

Source: PublicInvest Research - 5 Apr 2022