PANTECH’s earnings outlook, in our view, remains intact backed by: (i) stronger contribution from trading segment underpinned by increasing PVF demand from RAPID, and (ii) sustainable manufacturing margins backed by better plant utilization rate. With recovery in earnings, we believe PANTECH deserves to trade at its mean average valuation and, thus, we maintain our OUTPERFORM call with an unchanged TP of RM0.75 pegged to 1.0x FY19E PBV.

Stronger domestic demand. In the past two quarters, PANTECH had seen revenue growth of 65%-17% YoY from the trading segment. This is largely backed by increasing demand from domestic projects, especially RAPID in Pengerang. YTD, PANTECH has received RM80m-90m orders from RAPID (vs full-year orders of RM100m in FY17). Moving forward, we expect the demand for pipes, valves and fittings (PVF) to be robust as the project is entering infrastructures development and buildings phase along with the gradual completion of groundwork. We understand that part of the orders are variation orders from sub-contractors, which usually fetch higher margins due to higher urgency. Thus, we reckon trading EBIT margins will improve in FY18 from 10.5% a year ago.

Expecting better plant utilisation. Besides stronger domestic sales, the manufacturing arm is also targeting better earnings contribution in view of higher sales orders from overseas. Note that 31% of its FY17 top-line is generated from export markets dominated by US, Indonesia and Middle East and such demand, in our view, are sustainable on the back of: (i) robust activities from shale producers in US, as well as (ii) revival and continuous maintenance work from O&G downstream segment in Middle East and Indonesia. While both its stainless steel and carbon steel plants are currently operating at 90% utilisation (vs 80%/70% in FY17), we expect these two plants to continue operating at optimal utilisation of at least 85% in FY18-19.

Galvanising plant to spur growth. Since the commercialisation of its 48,000mt capacity galvanising factory in December last year, PANTECH had achieved 30% utilisation in 1Q18 and had further improved it to 45%. Although the 51%-owned plant is still loss-making, the company is confident of achieving 50% utilisation, the breakeven level by 4Q18. We estimate the full utilisation will contribute an additional RM8m/annum to the bottom-line whilst complementing its existing business without the need to outsource the PVF galvanising job to third parties.

Reiterate OUTPERFORM. Although both local plants are operating at full capacity, PANTECH has no aggressive expansion plan in the near term. Having said that, the company is looking to replace and upgrade part of its machinery and this would probably enhance its production capacity. With no changes in our estimates, we maintain our OUTPERFORM call on the stock with an unchanged target price of RM0.75, pegged to higher PBV of 1.0x FY19 PBV (from 0.9x previously) on a fully diluted share base, including in-the-money warrants. Our TP has an implied FY19E PER of 13.1x, which is close to its 5-year average mean of 12.8x. We believe PANTECH deserves to trade at its average mean valuation for: (i) recovery in profit margins, (ii) healthy balance sheet with net gearing at 0.1x and (iii) higher orderbook visibility of 5 months from 3 months previously. Risks to our call include: (i) weaker-than-expected performance of the trading division, and (ii) lower-than-expected selling prices of pipe fittings & valves.

Source: Kenanga Research - 2 Aug 2017