• Cabinet agreed to MMC-Gamuda’s new offer of RM13.1bn for MRT2 underground works. In total, the MRT2 project cost has been lowered to RM30.5bn from the initial RM39.3bn.
• While the agreed cost reduction of RM3.6bn for the tunnelling portion is higher than Gamuda’s initial offer of RM2.3bn, we view the resumption of works positively.
• This development has prompted us to reinstate the tunnelling works, worth RM3.9bn, into our assumptions; this raises our FY19F/F20F earnings forecasts by 16.2%/25.7%.
• Upgrade to BUY with a new SOP-derived RM3.35 TP. We view uncertainties on the sector are diminishing as major projects are sustained. The stock offers a compelling investment case with 4.9% dividend yield and stable earnings up to FY22F.

Finalizing MRT2 cost rationalization

Cabinet has agreed on MMC-Gamuda resuming MRT2 underground works at RM13.1bn (ie. 21.6% cost reduction) from RM16.7bn. All in (ie. elevated portion cost reduction by RM5.2bn), total construction cost for MRT2 is now reduced to RM30.5bn from RM39.4bn.

Possible greater magnitude of margin erosion

It was understood that MMC-Gamuda initially proposed a RM2.3bn cost reduction for the underground portion by reducing work scope, lowering specifications and shelving several stations. With the final cost reduction of RM3.6bn, we expect project margin to come under pressure.

Raise our earnings forecast

In our previous report [click here], we omitted MRT2 underground works from our earnings forecast in view of an outright cancellation. With this positive development, we reinstate the tunnelling portion, worth RM3.9bn, into our FY19F/FY20F orderbook earnings forecast. This raises our estimates by 16.2%/25.7% respectively.

Upgrade to BUY with revised TP of RM3.35

We upgrade our call to BUY with revised SOP-derived TP of RM3.35 (from RM2.75). We raised PE multiple for construction segment to 13x (from 10x) as Gamuda retain its engineering specialization in tunnelling works. In our view, the uncertain outlook for the sector with regards to ongoing major projects are starting to diminish as the government settles in. As such, we note that the share price correction is overdone. At current price level, we believe the stock offers a compelling investment case given the stable income stream up to FY22F/23F while our DPS forecasts imply attractive dividend yields of close to 5%.

Source: BIMB Securities Research - 29 Oct 2018