Management remains bullish on its outlook during the post-results conference call yesterday. Overall, top-line growth trajectory is expected to stay robust and profit margins are seen to expand in upcoming quarters. As for the delay in tax incentive renewal, we are not particularly worried since this is not idiosyncratic to CTOS alone and the approval process is typically a lengthy one. Separately, we are positive on the additional 9.1% stake increase in RAM, considering it is a fair and accretive deal. All in, our forecasts were unchanged. We still like CTOS for its market leadership, strong economic moat, and highly scalable business model. Retain BUY and FCFF-TP of RM1.95, based on an implied 52x FY23 P/E.

Better margins ahead. CTOS explained that revenue growth at its Local Commercial (LC) segment was a tad slower (+4% QoQ, +3% YoY) vs group’s level (+10% QoQ, +12% YoY) in 1Q22, due to a rise in Covid-19 cases, which limits face time with SME and led to lower activation. As such, revenue mix was affected (LC: -3ppt QoQ, -5ppt YoY) and margins were compressed during the quarter (GP: -2ppt QoQ, -3ppt YoY); this was also partially caused by higher staff costs and IT support opex. That said, we understand client activation and usage have begun to improve in March. These trends are expected to continue over the next 9 months, skewing revenue composition back towards LC and margins are seen to expand again.

Not resting on their laurels. Besides riding on the economic reopening and recovery tailwind, CTOS is looking at ways to raise ARPU for its Commercial and Key Account segments. Also, the company is aiming to make further inroads into the insurance, property, and automotive markets this year. Separately, CTOS has raised its stake in RAM to 17.2% (from 8.1%) with an acquisition price tag of RM25m at 33x P/E, which is fair, given that it is in line to other listed global credit rating agencies. Moreover, we are positive on the deal since it is an accretive acquisition. Overall, for FY22, CTOS is targeting revenue of RM185-195m (+20-25% YoY) and core earnings of RM75-80m (+25-30% YoY). At the top, 80-85% of the growth is expected to be derived from BAU activities while the balance 15-20% is from new initiatives: (i) Key Accounts +25-30% YoY, (ii) Commercial +10-15% YoY, (iii) Consumer +40-50% YoY.

Tax incentive update. There are 2 parts to the tax incentive application: (i) Jul-21 to Nov-21 portion, resulted from the Grandfathering and Transitional Guideline, where CTOS’ tax relief period for the 1st 5 years was inconveniently shortened by 5 months to Jun-21, and (ii) Nov-21 to Nov-26 portion, i.e. the 2nd 5-year tax incentive period, up for extension. We gathered that CTOS has set aside RM4.1m/RM4.3m in taxes for the former/latter and these can be written back if CTOS is successful in its tax incentive application. Management expects a positive outcome for the former by May-22 while is optimistic on the latter’s renewal within the next 6 months; the delay in approval so far is not idiosyncratic to CTOS alone. In our model, we have assumed a renewal and without this, it would shave 20% off our current earnings projection.

Forecasts. Our estimates were kept since its FY22 targets were intact. Besides, the higher RAM stake has minute P&L impact as it is not yet an associate entity (<2%).

Maintain BUY call and FCFF-TP of RM1.95, based on an implied 52x FY23 P/E with assumptions of 7.6% WACC and 5.0% TG. This is above global peers’ average (GPA) of 23x. The premium is warranted given its bright prospects and more robust earnings growth profile (4ppt higher vs GPA), backed by the under penetrated ASEAN market. Moreover, we like CTOS for its leadership position, strong economic moat, and highly scalable business model. In addition, the company is well positioned to capture future opportunities with significant balance sheet headroom and liquidity. Thus, we view the recent share price pullback as a good opportunity to accumulate the stock.

Source: Hong Leong Investment Bank Research - 26 Apr 2022