· Injecting RM2.3b orderbook into the Group. On 6th February 2015, FUTUTEC entered into HoA with their own major shareholders namely Datuk Tee Eng Ho, Datin Toh Siew Chuon and Mr. Tee Eng Seng to inject construction companies namely Kerjaya Prospek (M) S/B (KP) and Permatang Bakti S/B (PB) for a total indicative price tag of RM380.0m which will be financed by: (i) issuance of 280.0m new shares at RM1.16, and (ii) cash consideration of RM55.2m. These target companies will bring in a total orderbook of RM2.3b (outstanding: RM1.5b) with most of them lasting until 2017, as opposed to current FUTUTEC’s orderbook of only RM130.6m (refer overleaf).

· To be the top high-rise contractor in town. As an enlarged entity with a net cash position, we believe the group will participate in bigger jobs of RM500.0m- RM1.0b contract size in the high-rise building segment. In fact, we understand that currently FUTUTEC and the target companies have a total tenderbook of RM2.0b and management is targeting to secure about RM500.0-600.0m jobs this year. We understand the KP’s clients consists of top developers namely ECO WORLD, SP SETIA and E&O.

· To add new stream of earnings from property development. FUTUTEC currently has about 10.1 acres of undeveloped landbank in Klang Valley (Genting Highlands and Shah Alam) with total potential GDV of RM500.0m (refer overleaf).

· Margins above industry average. Over the past three years, the group managed to fetch average net margin of 22.0%. We estimate that after the injection, the net margin will still be strong at 10.9%. This is way higher than the average construction sector’s net margin of 6.5%. We believe the group could achieve above-average margins largely due to the group’s ability to execute end-to-end construction solution on their own with minimum outsourcing.

· Strong balance sheet. Currently, FUTUTEC is a debt-free company. We also gather that the target companies are also either debt-free or have very minimal debts in their book (refer overleaf). Even after taking into account the RM55.2m cash that FUTUTEC need to fork out to inject the target companies, the group’s balance sheet will remain strong i.e. net gearing of 0.3x. (refer overleaf)

· Profit guarantee of RM150.0m over 3 years. Interestingly, the injection comes with a cumulative profit guarantee of RM150.0m over the next three years (FY15- 18) which implies an annualized RM50.0m p.a. Adding up its average net profit for the last three years of RM16.7m (also backed by its existing orderbook of RM130.6m), projected annualized earnings should be recorded at RM66.7m p.a., at least, over the next three years. For now, we are projecting FY15-16E core earnings of RM66.9-RM73.6m, post the exercise.

· Private placement is highly likely. Post the exercise, the major shareholders will own more than 90.0% that have to be pared down to ensure they meet the minimum public shareholding spread of 25.0%. In order to pare down the major shareholders’ stake, we believe either: (i) FUTUTEC’s major shareholders have to place out their shares, or (ii) FUTUTEC would have to issue new shares. Should FUTUTEC decide to issue new shares for paring down the major shareholders’ stake after the injection exercise, there will be dilution in EPS but it may be compensated by earnings-accretive acquisitions such as landbanking.

· NOT RATED. Ascribing Fwd-PER of 10.0x-12.0x to FD EPS FY16E of 17.0 sen, FUTUTEC’s could be valued at a range of RM1.87–RM2.24. Our applied valuations are based on small-mid cap contractors’ average (MUDAJYA, MITRA, PTARAS, SENDAI, NAIM, HSL) Fwd PER range of 10.0x-14.0x. However, with the potential share over-hang or dilutive concern, we are not surprised that the market is valuing FUTUTEC at the lower end of the said valuation range.

· Injecting RM2.3b orderbook companies into the Group. On 6th February 2015, FUTUTEC entered into HoA with their own major shareholders namely Datuk Tee Eng Ho, Datin Toh Siew Chuon and Mr. Tee Eng Seng to inject construction companies namely Kerjaya Prospek (M) S/B (KP) and Permatang Bakti S/B (PB) for a total indicative price tag of RM380.0m which will be financed by the mixture of share swap and cash consideration (280.0m new issuance of shares at RM1.16 and cash of RM55.2m). These target companies will bring-in a total orderbook of RM2.3b (outstanding: RM1.5b) which most of them would last until 2017, as opposed to current FUTUTEC’s orderbook of only RM130.6m. Rationale for injection is because KP has stronger traction and long track record in construction, compared to FUTUTEC, resulting in more contract awards at the former level. Post the injection, conflict of interests will be resolved as the major shareholders will no longer have any private construction arm.

· To add new stream of earnings from property development. FUTUTEC currently has about 10.1 acres of undeveloped landbank in Klang Valley (Genting Highlands and Shah Alam) with total potential GDV of RM500.0m. The group will launch the 1.4 acres Genting Highland land project namely Gohtong Jaya with GDV of RM300.0m this year. Assuming 100.0% take-up with 25.0% pre-tax margin, this project could bring in an average net profit of RM18.8m per annum in the next three years. Subsequently, next year, the group will launch its next project in Shah Alam (8.7 acres) with GDV of RM200.0m. This project will also add about RM12.5m to the group’s bottomline should it manage to achieve 100.0% take-up and PBT margin of 25.0%.

· Strong balance sheet. Currently, FUTUTEC is a debt-free company. We also gather that the target companies are debt-free or have very minimal debts in their book. Even after taking into account the RM55.2m cash that FUTUTEC need to fork out to inject the target companies, the group’s balance sheet is still strong i.e. net gearing of 0.3x. We believe the strong balance sheet is due to good cash flow management as well as the group’s prominent clientele profile with good payment track record. We understand they intend to maintain its light balance sheet in the foreseeable future.

Source: Kenanga Research - 30 Apr 2015