Corporate earnings in 4Q18 were amongst the worse seen in recent years. Huge misses in the Telcos, Transport and Utilities sectors were enough to drag market EPS growth into negative territory for 2018. While the smaller-cap companies did better this round, we think that focus should remain on the larger-cap companies over the near term as we do not expect the misses to recur. Sectors that offer growth (largely found in our sector Overweights) should also remain in focus. We remove UMW and Tenaga from our Top 10 BUY list after their earnings disappointments and rating downgrades. In place, we add Sunway Construction and Alliance Bank. Maintain market Neutral and 2019 year-end KLCI target of 1,810 (based on 18x 2019E KLCI EPS).

On the Surface, 4Q18 Looks Better

On the surface the 4Q18 reporting season looked better; 26% of companies in our universe (121 companies under coverage) reported earnings that were ahead of our expectations, a marked increase of 16% in 3Q18. Moreover, companies whose earnings that disappointed shrank to 31% from 48% in 3Q18, implying that a higher number of companies delivered a better set of earnings after the successive disappointments in the previous quarters (Fig 1). Needless to say, much of the positive key takeaways from the 4Q18 results ends there.

Large-cap Companies Turn Into a Drag, and What An Impact It Had

Looking at the larger-cap companies (represented by the KLCI components (27 of the 30 are under our coverage), we saw a higher number of companies reporting poorer performances (Fig 2); 33% of the companies here registered earnings that were below our expectations (compared to 23% in 3Q18) while a smaller proportion also positively surprised (19% in 4Q18 vs. 23% in 3Q18). Being heavyweights, the impact of this disappointment was significant. Cumulative 4Q18 core earnings fell a sharp 23% yoy or 14% qoq (Figs 6 and 7), one of the largest ever quarterly earnings contractions in recent years.

The Culprits – Telcos, Transport and Utilities

Surprisingly only 40% of the 20 sectors under coverage managed to deliver yoy earnings growth in 4Q18 (Fig 5). This included the Autos, Banks, Non-Financials, Gaming, Healthcare, Insurance, Media and Rubber Products sectors. However, excluding the Banks, these are relatively smaller sectors compared to the remaining sectors that disappointed. The key heavyweight sectors that were a drag this quarter included the Telcos, Transport and Utilities, which combined contributed to a RM3.1bn qoq decline in 4Q18 earnings (-RM3.8bn yoy). For the Telcos, Maxis had an additional one-off cost of RM250m while Axiata’s earnings took a hit from accelerated depreciation charges. In the Transport sector, AirAsia’s surprise loss contributed to most of the sector earnings contraction. We subsequently downgraded our rating on the stock to Hold (from Buy). Tenaga’s earnings disappointment was key behind the poor performance for the Utilities sector. Tenaga’s rating was also downgraded to Hold (from Buy) post the results.

Source: Affin Hwang Research - 4 Mar 2019