ENGTEX’s 1QFY24 results met expectations. Its 1QFY24 core net profit surged 1.5x as its profitability was no longer capped by high-cost inventory. It is poised to benefit from a new wave of water projects including pipe replacement. We maintain our forecasts, TP of RM1.41 and OUTPERFORM call.

Its 1QFY24 core net profit of RM9.4m met expectations at 24% of both our full-year forecast and the full-year consensus estimate.

YoY, its 1QFY24 revenue grew marginally by 1% driven by higher sales volume but partially offset by weaker ASP for its steel products. However, its core net profit more than doubled as its margins normalised with the depletion of high-cost inventory (which had come about due to the declining steel prices).

QoQ, similarly, its 1QFY24 core net profit surged more than 5x on a 4% growth in its top line as its profitability was no longer capped by high-cost inventory (see chart on next page).

Outlook. The sentiment towards water-related stocks has improved following the recent announcement by National Water Services Commission (SPAN) of an average hike of RM0.25/m3 or ~42% hike in water tariffs effective 1 Feb 2024 for domestic users (of which some have not been adjusted in the past four decades). The hike will translate to strengthened cash flows for these water operators, allowing them to kick start their capex programmes in water infrastructure including non-revenue water (NRW) reduction initiatives. We believe a pick-up in pipe replacement orders will be kicking in by 2HFY24 and accelerate into FY25 as the tendering and funding process among Pengurusan Aset Air Bhd (PAAB), water operators, and contractors typically takes at least six months to be finalised. Also helping is the stabilisation of product prices as steel prices bottom out (see chart on next page).

ENGTEX, a water pipe maker, will benefit from investments to reduce the national non-revenue water (NRW) from 36% in 2021 to 15% by 2049. It is estimated that 70%-75% of current NRW is attributed to leaks, pipe bursts, and damaged fittings.

Forecasts. Maintained.

Valuations. We also maintain our TP of RM1.41 based on 0.8x FY24F PBV, which is in line with sector valuation during the last upcycle in 2014 which was triggered by the massive RM1b Langat 2 water treatment plant with a capacity of 1,130m litres per day (MLD) following the completion of the Pahang-Selangor Raw Water Transfer project. There is no adjustment to our TP based on ESG given a 3-star rating as appraised by us (see Page 5).

Investment case. We like ENGTEX for: (i) the huge potential in the water pipe replacement market locally, (ii) its dominant market position in both large-diameter mild steel (MS) pipes and ductile iron (DI) pipes, and (iii) its strong earnings visibility underpinned by significant order backlogs and a strong pipeline of new projects. Maintain OUTPERFORM.

Risks to our call include: (i) volatility in input costs and end-product selling prices, (ii) rising input costs, and (iii) the delay in the roll-out of water infrastructure projects.

Source: Kenanga Research - 24 May 2024