Higher Costs and Risk Dampen Our Positive View

We are downgrading our call on Malakoff (MLK) to a HOLD with a reduced TP of RM1.25 (from RM1.45), as we have lowered our EPS forecasts by 23-38% for FY17-19E, on the back of higher-thanexpected costs and a potentially lower capacity payment for its power plant. 1QFY17 PATAMI at RM99mn (+9.5% QoQ; +18% YoY) tracked behind our expectation (23% of our previous full-year estimate), due to higher-than-expected costs.

Expect Lower Capacity and Energy Payments Ahead

During the conference call, management said that there is an unscheduled outage for a month at its Tanjung Bin Energy (TB4) plant, post the completion of its scheduled maintenance work in April. MLK will not be penalized (negative capacity payment) for the outage, but we estimate that the losses in revenue on both the capacity payment and energy payment could be as high as RM100mn. The impact on profitability would be significant due to the high fixed cost structure of the power plant.

Earnings Downside Risk Is Also Higher Now

Although management guided that it will seek compensation for the loss of revenue from the EPC contractor or its insurance policy, we are taking a conservative approach and assuming that the claim would be limited for now. We believe the downside risk to earnings is also higher, at least for the next 12 months, as any further unplanned outages at TB4 will result in a lower capacity payment, as the rolling unplanned outage rate (UOR) is above the permissible 6-8% stated in its PPA.

Higher Cost Related to O&M

Overall costs (excluding fuel) were higher by 7% QoQ, mainly due to higher O&M cost in the quarter. We had forecasted the O&M cost to drop QoQ on the elevated depreciation cost in 4QFY16, reflecting the change in the residual value of its assets, but that failed to materialise. We have also lowered our earnings forecasts to factor in the higher cost structure.

Reduce to HOLD With Lower TP of RM1.25

We are downgrading our call on MLK to HOLD from BUY, as we lower our DCF-derived 12-month TP to RM1.25 (from RM1.45) on the back of lower EPS forecasts for FY17-19.

Risk to Our Call

Key upside risks include: 1) lower cost structure; 2) better-than-expected contribution from associates, and 3) compensation for the loss in revenue for TB4. Key downside risks include unscheduled outages at TB4.

Source: Affin Hwang Research - 24 May 2017