INVESTMENT HIGHLIGHTS

• Seals joint-billing deal with Indah Water

• Paves the way for full water-sewerage integration in Johor

• Joint-billing enhances earnings by just 1% but eventual operational integration could drive 30%-40% gap-up

• Re-affirm BUY at higher TP of RM1.30, 6% yields attractive

Seals deal with Indah Water. Ranhill, via 80%-owned SAJ Ranhill has finalised the joint-billing deal with Indah Water Konsortium (IWK) to implement a single bill system for water and sewerage services in Johor (excluding Pasir Gudang and Johor Bahru, managed by the city council). We expect the joint-billing to commence early FY19F as we understand the Minister of Water, Land and Natural Resources intends to implement joint-billing in Johor together with Melaka and Negeri Sembilan. The move should improve IWK’s collection given the possibility of imposing action against defaulting consumers and on the back of SAJ’s sterling 94% collection rate.

Earnings accretive deal. We estimate the joint-billing program to enhance Ranhill’s revenue by around RM1.8m/annum and net earnings by around RM1m/annum, or 1.3% against our previous forecast, on conservative estimates. SAJ is understood to have spent around RM1.2m in capex to improve backroom operations for the joint-billing to proceed.

Kick starts water-sewerage integration. Most importantly, the joint billing paves the way towards a complete integration of water supply and sewerage operations, which has been the aspiration of the Water Services Industry Act (WSIA) 2006. A switch to volumetric tariff could bring in incremental RM300m-RM400m revenue and boost Ranhill’s earnings by 30%-40%.

Phased integration? Integration is likely to involve a switch to a volumetric tariff (as current tariffs are too low and have not been revised for over 2 decades); there could be contemplation on whether to integrate sewerage operations with state operators first or to switch to a volumetric prior to that. We think the water-sewerage integration could be done in phases based on readiness of state operators, of which SAJ Ranhill is one of the most profitable in the country. We think this could be part of the upcoming National Sewerage Plan announced in the 11th Malaysia Plan Mid-Term Review recently.

Deeply undervalued. We raise our TP to RM1.30 (from RM1.15) as we factor in incremental earnings from the joint-billing program and we reduce the discount to SOP to 10% from 20% previously. At just 10.5x FY19F PE, Ranhill is deeply undervalued. At current market cap, implied valuation for its water business is a mere 9x, below Penang-based peer, PBA Holdings’ 10x PE and the broader utilities sector’s average PE of 11x. Balance sheet has been successfully de-geared since its 2016 IPO, while attractive dividend yields cushions downside. Key catalysts: (1) Schedule rate hike for Johor water (2) TGE progress into production well drilling (3) Johor water-sewerage integration

Source: MIDF Research - 9 Nov 2018