UMWH’s strategic exit from the Oil & Gas industry envisioned a better long-term outlook for the company with its three core segments enhancing the group value, improving its profitability and strengthening its balance sheet. However, near-term outlook remains bleak with the spill-over of O&G losses for 1H17 and thin margins given the prevailing unfavourable forex. Maintain UNDERPERFORM with a higher TP of RM5.07, based on higher applied PER of 13.0x over our FY17E EPS, as we foresee recovery for the Automotive industry in 2 years’ time.

The strategic exit. The group strategic exit from listed and unlisted O&G segments are expected to improve the group's profitability as the O&G segment has been weighing down the group with its widening losses over the years due to lower rig utilisation and high overhead costs. Furthermore, the exit is expected to strengthen the group's balance sheet with reduced borrowings (estimated at RM3.5b), generating significantly lower net gearing (estimated net gearing FY17E at 0.5x). Overall, the exit would reduce constraints on cash flow and enable the group to embark on various asset allocation strategies.

The strategic focus. Exiting the O&G industry, the group will focus on growth revolving around the three core segments of Automotive, Manufacturing & Engineering and Equipment.

Automotive segment. We expect the group to introduce at least two new models later on in 2H17, which is face-lifted Toyota Camry and the most anticipated model, Toyota CH-R maybe in sight. For future growth, the new Bukit Raja manufacturing plant (670k sq m in size) is expected to be operational in early 2019, for production of both passenger as well as energy-efficient vehicles. (Initial production capacity of 50.0k units annually based on 1 shift). (Refer to overleaf)

M&E segment. The group will re-focus on venturing into high-value manufacturing starting with its unit of UMW Aerospace Sdn Bhd. The group will be the single source Tier-1 supplier for Rolls-Royce’s fan case with expected first delivery in Oct 2017 to the engine assembly facility in Seletar Aerospace Park, Singapore. We foresee the sustainable earnings will be seen in FY19, with continuous margin improvement over the years under 25+5 year contract where its revenue is in USD. The UMW Aerospace plant has only taken up 30 acres (from 861 acres) in Serendah Land, which open up the possibilities for the group to monetise the vast land to create High- Value Manufacturing centralised activities.

Equipment segment. The group will reposition their heavy equipment business towards more urbanised sectors such as construction with possibilities of growth through regional expansion. We foresee gradual increase in volume sold for industrial equipment capitalizing on mega projects (worth over RM550.0b), agriculture & plantations and expansion of equipment leasing business.

Outlook. Near-term outlook remains bleak with the spill-over of O&G losses for 1H17 and thin margins given the prevailing unfavourable forex. Nonetheless, the outlook for 2H17 looks promising with the strategic exit from the O&G industry improving the group profitability with more solid balance sheet. Furthermore, the anticipated new models for 2H17 should excite consumer sentiment bringing in more volume to the group. Overall, we expect the group to make a comeback with its three core segments delivering positive results moving forwards.

Maintain UNDERPERFORM with a higher TP of RM5.07 based on higher applied PER of 13.0x over our FY17EPS (previously TP of RM4.68 on an applied PER of 12.0x), as we foresee recovery for the Automotive industry in 2 years’ time. No changes to earnings assumptions where the earnings are exclusive from O&G segments.

Source: Kenanga Research - 07 Mar 2017