1Q18 is a soft start for FY18 but operationally was not a bad quarter with broad-base improvement from all segments. As 2Q18 will see first full quarter contribution from Paka Power Plant after the recommencement in Sep 2017, earnings are likely to improve from here. Nonetheless, earnings prospect remains lacklustre until two greenfield projects come online after 2020. It remains MP with revised price target of RM1.30.

1Q18 broadly in line. Although 1Q18 net profit of RM132.4m only made up 15%/17% of house/street’s FY18 estimates, we consider it broadly in-line give that the Paka Power Plant was still loss-making as its PPA Extension Contract, which started in Sep has an one-month impact to the group earnings. Earnings should pick up from 2Q18 onward on full quarter contributions from the local IPP. No dividend was declared in 1Q18, as expected.

Weak QoQ but operationally not bad. On the surface, 1Q18 earnings fell 34% sequentially to RM132.4m from RM199.5m which was largely due to higher interest cost, which rose 17% as well as RM62.9m deferred tax credit recognised for Wessex Water in 4Q17 due to the reduction of UK corporate tax to 17% from 18%. In fact, operationally, most business segments reported improved pre-tax profit such as a 4% hike in PowerSeraya, 6% rise in Wessex Water, losses at YES reduced to RM17.6m from RM22.7m. Paka Power Plant was the only segment which showed deterioration in earnings as pretax loss widened to RM18.2m from RM14.7m. On the other hand, associate income also leapt by 30% to RM95.6m.

Likewise, weaker performance from last year. On a YoY comparison, 1Q18 earnings declined 10% from RM146.5m, although top-line grew 10%, which saw revenue growth for all business segments. The decline in bottom-line was largely due to higher interest expense by 40% as well as higher minority interest by RM18.6m. Besides, earnings for both PowerSeraya and Wessex Water fell 25% and 8%, respectively, on higher financing costs. On a positive note, losses at Paka Power Plant were reduced by 30% to RM18.2m with the start of PPA Extension Contract effective Sep 2017 while YES’ losses also narrowed by 73% to RM17.6m on lower opex following the launch of the nationwide 4G LTE services last year.

Earnings set to improve. With Paka Power Plant already recommenced in Sep 2017, 2Q18 will see full quarter contribution, which should be able to turn around the local IPP. Likewise, earnings prospect for YES is set to be better judging from its growing subscriber base as well as the launch of 4G LTE service. However, outlook for PowerSeraya remains challenging as the electricity market in Singapore remains competitive with new capacity coming on-stream. Meanwhile, for Wessex Water, earnings are expected to be fairly flattish in GBP terms, but it faces forex translation risk as the currency remains vulnerable given the lingering Brexit issue.

Still MARKET PERFORM. While we maintain our FY18-FY19 earnings estimates, we cut its FD RNAV to RM1.42/share from RM1.66/share after adjusting cash flows following the release of audited FY17. As such, our price target is reduced to RM1.30/share with unchanged 10% holding company discount from RM1.50/share previously. The stock remains a MARKET PERFORM for its decent yield of c.4%. Upside risks to our call include a sudden recovery by PowerSeraya and unexpected turnaround at YES.

Source: Kenanga Research - 23 Nov 2017