We upgrade Scicom to BUY (from HOLD) with a lower 12-month TP of RM1.40 based on a revised CY19E PER of 13.5x (from 17.5x). Scicom’s share price is down 30% since early December on soft earnings and the broad selloff in Malaysia-listed e-services providers. Broadly, we believe that: (i) Scicom’s business fundamentals are intact; (ii) the earnings disappointment is now priced-in; and (iii) the derating seems excessive. At a CY19E PER/yield of 11.8x/7.6%, Scicom’s valuation looks attractive. We like the group’s expertise in E-Solutions and high ROE/asset-light business model. Its robust balance sheet and high yield should cushion any short-term earnings fluctuation.

Steep Decline in Share Price on Earnings Miss, Broad-based Selloff

Scicom’s share price has fallen by a sharp 30% in December, likely due to 3 main reasons: (i) disappointing 1Q FY19 results which triggered us to cut our EPS forecasts, target price and downgrade our rating; (ii) the broadbased selloff in Malaysia-listed e-services providers, partly led by the cancellation of Prestariang’s SKIN contract; and (iii) Scicom’s low share liquidity which likely exacerbated the magnitude of the selloff. In view of Scicom’s stable business fundamentals, the selloff looks excessive.

Scicom’s Business Operations Are Largely Intact

(i) The business-process outsourcing (BPO) segment has seen lower revenue in FY18/1Q FY19 due to lower client activity. Management expects the BPO business activities to recover in 3Q FY19, once the prevailing client commitments translate to actual work;

(ii) The E-Government Solutions business remains stable. Scicom has processed higher numbers of foreign student applications in 1Q FY19 and the group is looking to expand its scope of work; and

(iii) The Cambodia Tourism Management System project is intact but the launch date will likely slip into January 2019 (from December 2018). Meanwhile, discussions on the utilisation of the tourist development fund and future scope of work are still ongoing. As such, we expect Scicom to only realise full revenue potential from this starting in FY20.

Scicom’s DPS of 9 Sen Looks Sustainable

In view of the stable business operations, strong FCF and robust balance sheet, we believe Scicom’s annual DPS of 9 sen is sustainable, translating to an attractive yield of 7.6% per annum.

Upgrading to BUY with a lower TP of RM1.40

We are upgrading Scicom to BUY (from HOLD) but with a lower 12-month target price of RM1.40 (from RM1.80), based on a lower CY19E PER of 13.5x (from 17.5x). We now peg our target PER multiple to 1-SD below its past-5-year average (from inline), reflecting the broad-based de-rating among Malaysian e-service providers as we now see a higher risk premium.

At its current valuations of CY19E PER and yield of 11.8x and 7.6%, respectively, Scicom’s valuation looks attractive to us. We like the group’s expertise in the E-Solutions segment, high ROE / asset light business model and strong balance sheet (RM51m net cash). At its current valuation, we believe these positive outweigh the soft immediate earnings outlook (lacklustre BPO segment, timing uncertainty in Cambodia project).

Key Risks

Key downside risks to our call: a weaker-than-expected recovery in BPO activities, further delays/renegotiation of the Cambodian tourism project and weaker-than-expected revenue/renegotiation of domestic E-Solutions contracts.

Source: Affin Hwang Research - 26 Dec 2018