We maintain a neutral view on Engtex’s 2H18’s outlook as we believe the demand on water pipes will be soft until 2H19 coupled with slower demand from both the property and construction sectors. Management reiterated that the group will focus solely on their core business (trading and manufacturing), despite having huge land bank in the group. Meanwhile, should there be any new budget allocation in Budget 2019 to tackle NRW situation in Malaysia, we see potential for Engtex under the water-theme. To recap, at end Mar-18, utilisation rate for MS and DI pipes stood at 57.7% and 31.8%, respectively. Maintain HOLD with unchanged SOP-derived TP of RM1.14.

Meeting with management. Last week we met up with the Engtex’s management and left the meeting with a neutral view for 2H18’s outlook.

Property segment. Engtex has c.130 acres (Net book value: RM88.5m) of land in their books, but management reiterated that the group will put on hold future launching of new property development projects and will be focusing on their core business (trading and manufacturing divisions) moving forward. To recap, as of end Mar-18, Engtex’s unbilled sales stood at RM18.3m and has RM146.7m of unsold stocks. Under this sluggish property environment, the group will continue its effort to approach brokers/ buyers more actively in order to offload the property inventories.

Migration from GST to SST. According to management, three of the main products (DI, MS, Wire Mesh) under Engtex are not subjected to sales tax, but some of the consumables (chemicals, cement, flux and welding wire, wrapper for MS and DI) used to produce these products will be subjected to sales tax. For goods and consumables subjected to SST, Engtex will be paying to government and will be passing on through higher selling prices. However, credit term is also given to customers; hence there will be some impact from the cash flow perspective. For the trading division, items purchased that are subjected to sales tax will be passed on eventually.

NRW pipe replacement outlook. Based on our conversation with the management, the group is still cautiously optimistic on the 2H18 outlook as we expect the pipe replacement orders may only pick up during 2H19 following the recent development of Selangor’s water sector restructuring exercise. Meanwhile, if there is any new budget allocation or new policies being crafted in the upcoming Budget 2019 (Budget 2018: RM1.4bn to spend on NRW initiatives) to tackle the NRW situation in Malaysia, it is likely to boost water pipes’ demand and replacement works.

Forecast. Maintain as the meeting yielded no major surprises.

Outlook. We have factored in the slowdown in both the property and construction sectors and we expect weak earnings to be noticed, at least for 2Q18, given the softer demand within this period on the back of few major events such as (i) GE14, (ii) delayed sales in anticipation of 0% GST in June and (iii) slower delivery during Raya festive month. Despite the weaker expectations in 2Q18, we remain cautiously optimistic on Engtex’s 2H18 following the developments of Selangor’s water saga, which may help restoring stockists’ optimism on pipes demand. Also, we believe Engtex will be able to ramp up their production as their production lines are underutilised (end Mar-18 utilisation rate for MS and DI pipes stood at 57.7% and 31.8%, respectively).

Maintain HOLD, TP: RM1.14. Maintain HOLD with unchanged SOP-derived TP of RM1.14. Our SOP-derived TP is based on 9x P/E on mid-FY19 core PATAMI from WDD and MD and 1x book value of FY17 property segmen

Source: Hong Leong Investment Bank Research - 7 Aug 2018