• HSS reported net profit of RM4.9m in 6M20, which was above expectations, compared to net loss of RM2.5m in 6M19.
• Its high unbilled order book of RM525m at end-March should sustain earnings growth over the next 2-3 years.
• We lift core EPS by 65% in 2020E from a low base and 12-14% in 2021-22E to reflect lower operating costs and higher engineering profit margins. Based on the same target 2021E PER of 26x, we lift our target price to RM0.82. BUY.

Turnaround Sustained

HSS’ net profit of RM4.9m in 6M20 comprises 76-79% of consensus and our full-year forecasts of RM6.2-6.4m. HSS incurred a net loss of RM2.5m in 6M19. Revenue grew 15% yoy to RM82.8m in 6M20 due to contributions from new contracts for the East Coast Rail Link and Iskandar Bus Rapid Transit (BRT) projects. Gross profit jumped 41% yoy to RM23.8m as cost of sales saw slower growth of 7% yoy. Gross profit margin improved to 28.8% in 6M20 from 23.5% in 6M19.

Lower Operating Costs

EBIT jumped 6.8-fold to RM9.6m in 6M20 due to higher revenue and lower operating costs with cost-saving measures implemented such as salary cuts. Interest expense was down 26% yoy in 6M20 following term loan rate cuts and repayment of bank borrowings. This contributed to the turnaround to a pre-tax profit of RM7.6m in 6M20. HSS was less affected by the Movement Control Order (MCO) as it was allowed by the government to resume operations on 27 April 2020. Despite revenue contracting 3% qoq to RM40.8m due to the MCO, lower operating costs lifted core net profit by 14% qoq to RM2.6m. Its unbilled order book order book increased 4% yoy to RM525m at end-June after securing RM103m new contracts over the past year.

Lift Earnings and Target Price

We raise core EPS by 65% in 2020E and 12-14% in 2021-22E to reflect the lower operating costs and interest expense. The high operating leverage for its engineering consultancy business explains the substantial revision in 2020E earnings as revenue was increased while cost was reduced. We see good prospects to grow its order book with a tender book value of RM180m, mainly for water and public transportation projects. Based on the same target 2021E PER of 26x (close to global engineering peer average), we raise our TP to RM0.82 from RM0.72 previously. Potential upside of 56% to our new TP is attractive. HSS is one of our top market and sector BUYs. Key risks are political uncertainties and slow roll-out of infrastructure projects.

Source: Affin Hwang Research - 14 Aug 2020