- Federal government gives green light: According to reports today, the Federal government has agreed to invoke Section 114 of the Water Services Industry Act 2006 (WASIA). This allows the Federal government to assume control of all four water concessionaires and a water licensee in Selangor. It is understood that the Cabinet had given the green light at last Friday’s meeting.

- Ongkili to decide when invocation will commence: According to Starbiz, the Cabinet has mandated Energy, Green Technology and Water Minister Datuk Seri Dr Maximums Ongkili to decide when the invocation would commence.

- 821 project applications put on hold: Ongkili said that the invocation was required to ensure sustainable water supply to Selangor, Kuala Lumpur, and Putrajaya. As it is, 821 project applications in the three areas had been put on hold, as at 31 March, 2014, due to inadequate water supply.

- Fed and state governments to sign heads of agreement: The invocation of Section 114 of WASIA is conditional on both the Federal and state governments signing heads of agreement (HoA) in respect to the water industry restructuring and the completion of the Langat 2 project.

- Langat 2 to go ahead: Following the Federal government’s decision to go ahead with invoking Section 114, the ministry has urged the state government to speed up the approval process for the Langat 2 project. According to reports, seven out of the 80 development orders have been issued thus far.

- What happens next? According to previous reports, the decision to invoke Section 114 will need the approval of the Attorney-General before it can be gazetted. It is expected to be completed within the next few months. However, it is important to note that the invocation of the section only allows the Federal government to “assume control” of the operations, and does not entail a transfer of ownership of assets, i.e. a forced takeover.

- Possible legal recourse: The water players had hinted in the past that they might resort to legal recourse to challenge the invocation of Section 114 of WASIA. However, Chief Minister Tan Sri Khalid Ibrahim had said that the parties are fine-tuning the HoA, which touches on Section 114, to ensure that it could not be legally challenged by the parties. Nevertheless, the invocation is seen by some to have deep implications on the sanctity of government-linked contracts, and could have repercussions on the domestic capital markets.

- Talks still possible: Despite the Federal government’s decision to invoke Section 114, we view that talks between the parties are still possible, and needed, in order to completely resolve the water impasse. Ongkili was previously quoted as saying that the invocation is only a three-year interim measure, i.e. until the first water is drawn out of Langat 2. After all, the main purpose of the restructuring exercise is to allow the Federal government to gain ownership of the water assets, which will not be achieved via Section 114.

- An amicable solution needed: As such, we remain firm in our view that conscientious efforts by all parties are needed in order to resolve the water impasse in the Selangor state. A commercial approach based on a consensus valuation is still the best option to resolve the long-standing issue. The water players have expounded on their willingness to conclude the restructuring exercise on a “willing buyer, willing seller” basis, provided that the valuations are fair. In our talks with the water players, we understand that an offer which is close to the net book value is acceptable. In the previous takeovers in other states, most of the water assets were acquired at one time book value. Since 2008, six states have transferred their assets to Pengurusan Air Aset Bhd (PAAB), amounting to RM9.3bil (see table 2). We believe that a similar offer of 1x book value for the Selangor water assets may push towards a final resolution of the impasse.

- Maintain NEUTRAL: We had earlier tweaked Gamuda’s fair value (BUY, RM5.25/share) to reflect a 10% discount to SPLASH’s net book value of ~RM2.5bil as at end-Dec 2013. At the same time, we maintain HOLD on Puncak Niaga, with a fair value of RM3.40/share, which is based on the previous offer. 

Source: AmeSecurities