FY16 results beat expectations substantially owing to a writeback of tax provision for DPL. Even without this, underlying numbers were still impressive led by top line growth and margin expansion, thanks to the DPL project. We remain positive on PESTECH and comfortable with our earnings forecasts on the back of current order book and tender book prospects. OUTPERFORM maintained for its explosive earnings growth story with a revised price target of RM2.00.

FY16 above. 4Q16 results came in above expectations with full-year FY16 core profit of RM66.1m beating house/street’s estimates by 22%/ 18% largely due to lower-than-expected taxation after a write-back of tax provision in 4Q16 following the confirmation of Diamond Power (DPL) receiving a 9-year tax exempt status. As such, effective tax rate in FY16 was 6% as opposed to our assumption of 18%. There was no dividend declared in 4Q16, but we believe a final dividend would be announced at a later date.

Earnings helped by lower taxation. Sequentially, 4Q16 core net profit surged 178% to RM31.0m from RM11.2m in 3Q16 while revenue leapt 55% to RM190.7m from RM123.4m previously. The substantial jump in earnings was largely due to the said write-back of tax provision for DPL. In addition, the improved earnings were also attributed to higher revenue where work progress for DPL and Samajaya were higher. Work progress for DPL was 53% in 4Q16 from 36% in 3Q16 while Samajaya’s completed job done hit 64% from 55% previously. However, work progress for Alex Corp was slow at 65% from 63% in 3Q16 as PESTECH slowed down the project pending a potential job upgrade request by the client.

DPL a booster too. A comparison to the corresponding period last year, 4Q16 core earnings tripled from RM10.1m while FY16 core profit doubled from RM32.6m last year. Besides the tax provision write-down mentioned above, the remarkable results were also attributed to the start of DPL project, which was reflected in its top line, which soared 114% in 4Q16 while FY16 revenue hike 71% to RM508.7m from RM297.5m previously. The DPL project contributed c.RM228m revenue to the group in FY16. Based on RM26.7m MI in FY16 which largely accounted for DPL, the taxexempt net margin for DPL was c.29%. Even applying a 20% Cambodian corporate tax, net margin is still 23%, which is quite impressive as opposed to PESTECH’s target margin of 9%-11% for new project tenders.

Outlook remains upbeat. With DPL expected to be ready by end-2017, PESTECH is expected to enjoy low taxation rate at least in FY17 for the EPC earnings coupled with higher profit margin. From its current tender book of RM1.45b, it aims to secure at least three projects by this yearend; one local rail electrification project and two Cambodian projects of which it stands a high chance of securing. This will help to replenish the declining order book of RM840m as of end-Jun from RM1.11b three months ago. In view of strong DPL EPC’s margin and lower taxation, we upgraded our FY17 estimates by 13% while FY18 forecasts revised upward slightly by 1%, mainly on cash flow adjustment.

Maintain OUTPERFORM. We believe the recent weakness in its share prices, which is in line with the overall weak sentiment for small to midcap stocks, presents a great accumulation opportunity for exciting stock with explosive earnings growth story. After another record year in FY16, it will not stop here and expects to escalate to new heights in FY17 with its current order book in hand. We continue to rate the stock as OUTPERFORM with higher price target of RM2.00/SoP share postearnings revision from RM1.88/SoP share previously. Risks to our call include failure to replenish order book and cost over-runs.

Source: Kenanga Research - 1 Sep 2016