The surprising 14th general election (GE14) results became a black swan event for our mid-cap and mega project-centric alpha picks, which plunged by a simple average of -23.7% vs FBMKLCI’s -6.9% and FBM70’s -6.5%. Nevertheless, the Finance Minister’s decision to indefinitely defer talks with tolled expressway concessionaires should ignite a relief rally in the oversold construction sector. To capitalise on this, we add Gamuda and IJM for our June picks while we retain May’s picks.

WHAT’S NEW

• Review of May’s picks. May was a bloodbath for our mid-cap and mega project-centric alpha picks which delivered a simple average loss of -23.7%, although our two O&G stock picks surpassed FBMKLCI’s -6.9% and FBM70’s -0.65% returns. Following Pakatan Harapan’s triumph in GE14, construction related stocks were rocked by: a) cancellation (HSR, MRT3) or review (ECRL) mega infra projects, b) concerns that tolled expressway concessionaires would be forced to stop tolling and be well under-compensated, c) CMS limit down due to a non-government organisation’s call to investigate the controlling shareholder for graft.
• Positioning for a relief rally. Over the weekend, The Edge’s interview with Finance Minister Lim Guan Eng revealed that the federal government will: a) defer discussing with tolled expressway concessionaires (indefinitely) until federal finances improve, b) honour government contracts, c) review and renegotiate unusual public-private partnership (PPP) projects, and d) possibly revisit/revive HSR and Bandar Malaysia in the future. This should allay undue fears that the tolled expressway concessionaires would be forced to unfairly compensated to stop tolling, and allow construction stocks to claw back some of May’s massive losses – the KLCI construction index fell >40%.

Action

• We add Gamuda and IJM to our alpha picks and retain our May’s picks - Bumi Armada, Cahya Mata Sarawak (CMS), Gabungan AQRS, Serba Dinamik and Yong Tai. We may review our picks post the anticipated relief rally.

Bumi Armada (Kong Ho Meng)

• 2018 is set to be a turnaround year for the group, with earnings set to ramp up from 2Q18 on Olombendo's final acceptance in May 18. The improved frequency of monthly offloadings of Kraken to three tankers since Jan 18 is positive as it shows Kraken’s production improvement is real and ongoing. This will sustain Kraken's earnings qoq into 2Q18, while Kraken's final acceptance is also on track by mid-18 (which will lift 2H earnings further). We also see the possibility of a TGT1 extension by Aug 18.

Share Price Catalyst

• Conclusion of final acceptance of Kraken and Olombendo by 1H18.
• Recovery of OMS utilisation and rates.

Cahya Mata Sarawak (Abdul Hadi Manaf)

• Following a 42% drop in share price, CMS trades at only 8x 2018F PE. Share price has been unduly swayed by calls by a non-government organisation to investigate on past graft allegations on Sarawak’s ex Chief Minister Taib Mahmud, the controlling shareholder of CMS. However, Taib Mahmud’s family has not been involved in the management of CMS for over a decade, and CMS has not been heavily reliant on government related projects/contracts. Fundamentals are intact, led by a significant turnaround at OM Sarawak. CMS is still expected to neatly beat consensus estimates.

Share Price Catalyst

• Significant turnaround from OM Sarawak.
• Securing phosphate manufacturing project which leverages on cheap electricity from Bakun dam.

Gabungan AQRS (Vincent Khoo)

• Still promises strong earnings growth backed by an outstanding orderbook of RM2.8b, even if the ECRL is shelved. The Sabah portion of the Pan Borneo Highway (PBH) may still go ahead, and the group’s precast manufacturing division would stand to benefit (it co-owns one of the largest precast manufacturing facilities in Sabah with the Sabah Economic Development Corporation).

Share Price Catalyst

• Steady qoq growth in earnings momentum; trades at <4x 2019 projected earnings.
• Concrete premix production associate securing a substantial contract.

Gamuda (Vincent Khoo)

• Multi-year low PE valuation underrates its ability to sustain strong earnings despite the federal government’s cancellation of HSR and MRT3, as it already has strong construction orderbook buffer that will last through 2019. Gamuda already trades well below our worst-case scenario of RM3.93.

Share Price Catalyst

• The FM commented over the weekend that the government would defer discussing with tolled expressway concessionaires until federal finances improve. This allays undue concerns that subsidiary Litrak’s toll concession (11% of SOTP) would be compromised.
• Optimistic in securing an amicable disposal pricing for Splash (Gamuda’s stake accounts for 6% of SOTP)
• Penang mega project may be revived, although we reckon that the funding model remains challenging.

IJM Corp (Vincent Khoo)

• Major share price rout has made this company a deep value stock, trading at only 0.6x P/B and 10x FY19F PE. IJM should sustain its core earnings, backed by a construction orderbook of RM9.4b (equivalent to four years of construction revenue cover), despite concerns related to the government's cancellation of mega projects.

Share Price Catalyst

• Similar to Gamuda’s situation, Finance Minister’s comments should allay undue concerns over the sanctity of IJM’s toll concession (19% of SOTP).
• May no longer need to recognise its share of associate Scomi’s losses as its entire investment in Scomi has been largely written off.

Serba Dinamik (Kong Ho Meng)

• Earnings growth to trump expectations on the back of yearly new contract wins (RM2.8b target to bring total 2018 orderbook to RM7.2b - close to management's guidance of RM7.5b) and high renewal rate (>80%) of its existing orderbook. We expect Serba to announce more contracts as it embarks on its asset ownership strategies. Our earnings forecasts are above consensus’.

Share Price Catalyst

• Higher-than-expected new orderbook wins and renewals.
• Lower-than-expected costs and quicker profit breakeven achievement from JV income (Muaro Jambi)

Yong Tai (Abdul Hadi)

• Yong Tai is set to open its critically-acclaimed Encore Melaka on 1 July. They had a trial run of the performance and received positive feedback from viewers. Sales of tickets have been opened and garnered a strong response online. Encore Melaka is expected to be a significant earnings driver for Yong Tai and we expect the company to trade at an attractive PE of 6.5x based on FY19F EPS.

Share Price Catalyst

• Positive construction progress of the Impression Melaka theatre which is set to open in Jul 18.

Source: UOB Kay Hian Research - 4 Jun 2018