HSS Engineers reported FY17 results that were in line with our expectations. Net profit of RM15m (+8% yoy) was driven by higher progress billings for ongoing projects and new contract wins of RM176m in FY17. We see good prospects for new contracts with ongoing negotiations for large-scale rail and highway projects to kick off in 2018. We lift our EPS forecasts by 4-7% in FY18-19E to reflect the lower dilution from the rights issue and private placement exercises for higher issue prices: BUY with a raised post-exercise TP of RM1.70, based on a FY18E core PER of 20x.

On the Dot

HSS’ FY17 net profit of RM15m came in on the dot with our forecast. Revenue rose 5% yoy to RM145.6m with contributions from new contracts such as the East Coast Rail Link (ECRL), KL-Singapore High Speed Rail (HSR), Bukit Bintang City Centre and Tun Razak Exchange. EBIT jumped 9% yoy to RM22.8m with a higher contribution from high-margin projects. The EBIT margin improved to 15.7% in FY17 compared to 15% in FY16. Higher interest income offset the provision for bad debts, leading to PBT rising 11% yoy. However, the tax rate was higher due to non-deductible expenses and subsidiary losses, holding back net profit growth (+8% yoy). Net profit fell 15% yoy to RM6m in 4Q17 due to higher provision for bad debts and interest expense.

Rights Issue Price Fixed

The fixing of its proposed 1-for-10 rights issue price at RM1.30 is at an attractive 16% discount to theoretical ex-all price (TEAP) of RM1.54 on the price fixing day of 5 February 2018. We recommend investors subscribe for the rights issue as it comes with a bonus issue of 1-for-2 rights shares subscribed and free 5-year warrants on the basis of 3-for-2 rights shares subscribed. The warrant exercise price was also fixed at RM1.70, a 10% premium to TEAP.

SMHB Acquisition to Contribute in 2Q18 Onwards

We expect the acquisition of SMHB Engineering to complete in 1Q18, lifting earnings and allowing HSS to expand its presence in the water industry. Its outstanding order book of RM434m will increase to RM738m with the acquisition. The private placement price has not been fixed yet but is likely to be higher than the indicative price of RM1.22 in the circular. This leads to lower earnings dilution from the exercise, as fewer shares will be issued to meet the RM52.3m required. We raise our EPS forecasts by 4-7% in FY18- 19E to reflect fewer new shares to be issued for the rights issue and private placement. We introduce our FY20E forecast assuming a moderation in core EPS growth to 4% yoy following the 2-year CAGR of 39% in FY18-19E. We lift our ex-all TP to RM1.70 from RM1.60 to reflect fewer shares to be issued, based on the same target FY18E core PER of 20x.

Source: Affin Hwang Research - 13 Feb 2018