Post briefing, we came away feeling slightly more assured on its prospects given better clarity over the recent poor results performance. Key highlights include: (i) a recap for 3Q18, (ii) future plans to combat sluggish domestic demand, and (iii) cost optimisation efforts. However, we maintain UNDERPERFORM with slightly higher TP of RM1.85 (from RM1.80) until we see earnings improvements in the coming quarters.

Recap on 3Q18. The group saw weaker sales in 3Q18 due to sluggish domestic cement demand dragged by soft residential projects and slowdown in infrastructure activities. We understand from management that 3Q18 would be the worst performance ever due to the timing of its annual shutting down of major plants in Langkawi and Kantan, which was scheduled in 3Q18. In addition, one-off inventory write-off of RM22.0m resulting from management’s uncovering of inventory discrepancies further added to the losses. Going forward, in the absence of plant shutting down in the upcoming 4Q18, management anticipates the operation landscape will further improve its operating cost leading to potential bottom-line improvement, providing some supports against any slowing down in demand in the local market.

Export exposure to hold the fort. Going forward, management intends to offset the weaker domestic demand by widening its export market reach primarily to Bangladesh through clinker exports, as Bangladesh needs to import main raw materials, especially clinkers used in cement manufacturing. We believe that by increasing its export, this helps to cushion the weak local demand as well as to maintain its capacity utilization at an optimal level. Hence, we are positive on the management clinker exports proposition as it bodes well with the appreciating clinker prices trend.

Cost rationalisation a priority. Apart from diversifying its revenue stream to export market, management also highlighted the urgency for cost rationalisation which they implemented through Voluntary Separation Scheme (VSS), and the potential increase in the local workforce over expatriates depending on their technicalities, of which management is hopeful to achieve 10-20% reduction in SG&A cost for FY19.

Challenging outlook. We are pleased with management’s effort to engage the investment community by hosting an analyst briefing, which we came away feeling more assured on its prospects given better clarity over the recent poor results performance. We believe that with the newly appointed Executive Director/ Chief Financial Officer, Mr. Yeoh Khoon Cheong, it would potentially reduce the element of uncertainty and restore shareholders’ confidence for his strategy in diversifying LAFMSIA’s revenue stream and cost optimisation efforts. However, we remain cautious over the overall group outlook due to weak domestic demand woes combined with overcapacity in the market leading to stiff competition with cement rebates wars to continue.

Post-briefing and more clarity from management, we narrowed our loss assumption to RM333-251m (from RM401-271m) after accounting for lower operating cost following management’s cost optimisation strategy.

Maintain UNDERPERFORM with higher TP of RM1.85 post adjustment in earnings based on an unchanged Fwd. PBV valuation of 0.7x on higher FY19E BV/share of RM2.65 (previously RM2.55). Our 0.7x PBV valuation is pegged below 1999-2005’s Fwd. PBV range of 0.9-1.5x when earnings were relatively volatile ranging from a loss position of RM8.8m to profit of RM118m. We believe our UNDERPERFORM call is justified given; (i) the 7th quarterly loss registered by LAFMSIA since listing, (ii) the 9th consecutive quarter LAFMSIA stopped dividends, which had been consistently paid out every quarter since FY10, (iii) deteriorating balance sheet, and (iv) FY18E losses to be worse than FY17. We prefer to see more concrete and consistent improvements in its earnings, which may prompt us to review our valuations.

Source: Kenanga Research - 23 Nov 2018