Although 2Q19 results came within expectation, led by lower taxation and higher share of profit of investment, operationally, earnings still weak, especially the extended losses at PowerSeraya. With earnings catalysts to be seen only in 3-4 years’ time when its two greenfield projects come into the system as well as challenging outlook for PowerSeraya, we believe the stock is fairly valued currently. Maintain MP at RM0.900.

2Q19 in line. 2Q19 core profit of RM156.5m came with expectations, bringing 1H19 core profit to RM304.9m which made up 49%/48% of house/street’s FY19 estimates. The core profit in 2Q19 is adjusted partly for RM70.5m or SGD23.4m impairment of receivable at PowerSeraya for an outstanding litigation for its electricity retail contract’s customers. No dividend was declared in 2Q19 as expected as it had been paying only final dividend in 4Q for the past five years.

Improved results but PowerSeraya’s losses widened. 2Q19 core profit rose 6% sequentially to RM156.5m on the back of 4% hike in revenue. The improved results were largely attributed to higher share of profit of investment accounted for using equity method by 25% or RM23m as well as lower taxation by 31% or RM12.7m. However, after adjusting for the above-said impairment, PowerSeraya’s pre-tax loss widened to RM46.7m from RM15.9m in 1Q19 which was due to lower vesting contract level, lower retail and tank leasing margin. Meanwhile, losses at YES also increased slightly to RM10.1m, from RM8.3m previously, which was still manageable.

Losses at PowerSeraya dampened YoY results as well. Similarly, 2Q19 and 1H19 core profits rose 6% and 11%, respectively, to RM156.5m and RM304.9m primary due to abovementioned improved share of profit of investment and lower taxation. However, at pre-tax level, earnings fell 43% and 27%, respectively, owing to losses at PowerSeraya while earnings from Wessex Water also weakened due to higher finance costs as well as the strengthening of MYR against GBP. On the positive note, the PPA Extension Contract Paka Power Plant helped to boost earnings.

The going remains tough in the near term. Earnings prospects remain challenging in the immediate term before the two new greenfield projects, namely PT Tanjung Jati coal-fired power plant in Indonesia and Attarat Power’s oil shale-fired power plant in Jordan, come on-stream in 3-4 years’ time. For existing businesses, outlook for PowerSeraya remains challenging as the electricity market in Singapore remains competitive with generation capacity oversupply in the wholesale electricity market. Meanwhile, for Wessex Water, earnings are expected to be fairly flattish in GBP terms while YES will continue to be loss-making in the near term.

Still in the price, MARKET PERFORM maintained. Post results, we decided to trim FY19-FY20 estimates by 2% each as we adjusted our earnings assumptions for PowerSeraya given the tough business environment in the island state. With this, we also widen our holding company discount to 20% from 10% in view of volatile PowerSeraya’s earnings; our target price is reduced to RM0.900 from RM1.05 previously. With its share price recovering about 10% YTD, we believe it is already fairly valued by the market. Thus, MARKET PERFORM rating maintained. Risks to our call include (i) a sudden recovery by PowerSeraya and (ii) an unexpected turnaround at YES.

Source: Kenanga Research - 28 Feb 2019