Highlights

• Meet up with management. We recently met up with Edgenta’s CEO, Azmir Merican to gather some updates.

• Tough times continue. PBT margins for Opus (asset consultancy) were razor thin at 0.8% in 1Q due to continued drag in Canada and Australia. Despite the rebound in oil prices (Brent +81% since mid-Jan), management highlights that geotechnical surveys on the Trans Canada Pipeline has yet to see a significant pick up in work activity. While the outlook in Australia remains weak, management feels this may have bottomed out but guidance on an outright recovery is uncertain.

• Another round of impairment? In FY15, Edgenta took a RM36m goodwill impairment on its Canadian subsidiary, Opus Stewart Weir (OSW). Given the continued weak performance of OSW, management does not rule out another round of impairment this year should conditions not improve. As of end-FY15, the goodwill attributed to OSW sitting in Edgenta’s balance sheet amounted to RM127m.

• Pan Borneo potential. In April, Edgenta’s parent-co UEM Group was appointed as the PDP for the Sabah portion of the Pan Borneo Highway (PBH) with a 20% stake. Edgenta is eyeing on several works associated with the PBH from its parent-co which include (i) consultancy services via Opus, (ii) road pavement works (during construction) and highway maintenance (once completed) via PROPEL. The PBH rollout is much needed to fill in the project gaps at PROPEL following the completion of the North South Expressway 4th lane widening in July last year. Nonetheless, a timing gap is inevitable as we expect any significant work on the Sabah PBH to only commence next year.

• Acquisition of KFM done. Edgenta has completed the acquisition of its 80% stake in KFM Holdings in April. This will partially help to offset (by roughly 30%) the loss of earnings from its reduced stake in the East Malaysia hospital concession (no more subcontract from FY16 onwards).

Risks

• Prolong slowdown in Australia and Canada.

Forecasts

We cut FY16-18 earnings by 9%, 8% and 4% respectively after imputing (i) slower recovery in Canada and Australia for Opus and (ii) timing gap for projects at PROPEL. Rating Downgrade to HOLD, TP: RM3.87

Whilst we like Edgenta’s cash flow generating capabilities, the lack of upside catalysts coupled with further impairment risks prompts us to downgrade our rating from Buy to HOLD.

Valuation

• Apart from the earnings cut, we also adjust our SOP based TP downwards from RM4.30 to RM3.78 which reflects (i) the larger share base from the acquisition of KFM which is partially offset by its valuation inclusion into our model and (ii) lower P/E target for Opus from 15x to 12x in view of the challenging landscape. Our TP implies FY16-17 P/E of 17x and 14.6x respectively.

Source: Hong Leong Investment Bank Research - 8 Jun 2016