Our recent meeting with CMS reaffirms our positive views about the company. Amid concerns of political risk which we think are overblown, its earnings outlook remains bright with OM Sarawak expected to turn around significantly in 2018. Concession on state road maintenance has been extended for another year while construction of the MPAS plant is slated to commence in Jul 18. Maintain BUY and target price of RM4.00 which implies 13.6x PE based on 2019F EPS.

WHAT’S NEW

Earnings remain intact. We recently met with Cahya Mata Sarawak’s (CMS) management and were assured that despite concerns of political headwinds; the company is expected to deliver another set of strong earnings in 2018. This will be largely driven by performance of OM Sarawak (OMS). In addition, the concession on maintenance of state road has been extended for another year starting Jul 18.

MPAS on track for commissioning. We are positively surprise that the much-awaited Malaysian Phosphate Additives (Sarawak) Sdn Bhd (MPAS) is finally gaining momentum as CMS could start the plant construction as early as Jul 18. Recall that CMS’ 40% stake in MPAS could potentially enhance shareholder value by 10%.

ESSENTIALS

• Extension of road maintenance concession for another year. CMS announced yesterday that the concession for road maintenance for state road has been extended for another year starting Jul 18. Although this is below their initial expectation of a 15-year extension, CMS remains hopeful that when the dust has settled, they will be able to secure a longer contract extension upon expiry of the current concession agreement. This will be largely backed by its good track record, heavy investment with machineries worth over RM100m, and reliance on Sarawakians (employs over 800 local people). It is also worth noting that CMS is not a sole player in road maintenance for state roads in Sarawak. Of approximately 30,000km of state roads, CMS only maintains about 20% or 6,000km. Separately, for the 200-km federal road maintenance concession which is due to expire in 3Q18, CMS guided that it is not looking for an extension as some of it will be used for the Pan Borneo Highway. We do not see the loss from federal road maintenance to greatly impact CMS’ earnings as the length of the state roads maintained by CMS has been gradually on the rise from circa 4,113km 15 years ago to approximately 6,000km now.
• Final furnace at OMS already fired. We gathered the 16th furnace at OMS is already operational and expected to contribute positively to CMS earnings in 2018. To recap, in 1Q18 when 15 furnaces were operational, CMS registered a net profit of over RM20m for its 25%-owned OM Holdings. We expect OMS to continue reporting strong earnings in 2Q18 as ASP remains sustainable at US$1,400/tonne. Management also hinted that they may embark on expansion plan (Phase 2) at Samalaju Industrial Park once they secure longterm contracts for electricity supply. We think that the expansion will take some time as energy source is still a concern for majority of the energy-intensive plants in Samalaju Industrial Park. The next source of source of energy will come from Baleh Dam, which is expected to be fully operational by 2025.
• All set for MPAS. Previously delayed due to financing issues, management now is upbeat on MPAS and guided that the construction of MPAS plant will start in Jul 18. The plant, which is located in Bintulu, will house an annual capacity of 1.5 MT of food, feed and fertiliser phosphates, making it the largest plant in Southeast Asia. MPAS is a 40-40-20 JV between CMS, Malaysian Phosphate Additives as well as Tradewinds Plantation. Malaysian Phosphate Additives has been in the phosphate business since 2001, operating a 30,000 MT p.a. plant in Lumut, Perak. With limited details available, we have conservatively assumed the RM1.4b project to have a six-year payback period with maiden profit contribution of RM50m in 2022.
• No risk on Pan Borneo Highway cancellation. While other mega and infrastructure projects are under review and facing risk of cancellation or deferment, we understand that the Pan Borneo Highway will continue as planned although there could be delays in Sabah’s portion. CMS shared that they do not see a slowdown in construction materials orders which cater for the Pan Borneo Highway. CMS has already completed Mambong plant which essentially adds 57% cement capacity (from 1.75m MT p.a. to 2.75m MT p.a.) in anticipation of strong demand from the Pan Borneo Highway.

EARNINGS REVISION/RISK

None.

VALUATION/RECOMMENDATION

Maintain BUY and target price at RM4.00 based on 25% holding company discount to our SOTP valuation, which implies 13.6x PE based on 2019F EPS. Our target price also includes the renewal on road maintenance concession where we ascribe 11% WACC to our DCF valuation. Excluding the non-renewal of road maintenance concession, our SOTP TP would decline to RM3.60 which is still significantly above current share price level.

We also imputed a 23 sen “option value” for MPAS (assumption: 50% success rate, RM1.4b investment cost) from a NPV of RM490.1m based on CMS’ 40% stake.

CATALYSTS

• Significant earnings recovery at OMS which will be driven by higher ASP as well as higher utilisation of furnaces.
• Gradual improvement at other business segments which will be fuelled by construction of Pan Borneo Highway and Baleh Dam.

Source: UOB Kay Hian Research - 19 Jun 2018