KEY INVESTMENT HIGHLIGHTS

• Weak 1Q20 as anticipated, FY20F earnings to be backloaded

• Environment division impacted by lower water consumption and EPC revenues, power division impacted by scheduled step-down in capacity rate financial

• Exploring expansion of water operations notwithstanding potential tariff hike delays for SAJ, eyeing extension of RP1 concession

• BUY maintained at unchanged TP of RM1.40, 5% yield attractive

Weak start. Ranhill reported 1Q20 net profit of RM18m. Though at 19% of our FY20F, it was in-line with our expectation of a backloaded earnings trend this year given impact of the Covid19 outbreak and lockdown directives in 1H20. Overall group 1Q20 core earnings fell - 24%yoy on the back of a -9%yoy revenue contraction.

Lower water consumption. Environment division revenue fell by - 6%yoy given lower EPC revenues and lower water consumption following enforcement of the Movement Control Order (MCO) from 18th March. We understand that SAJ’s underlying volumes contracted by around 75mld, or ~4% of daily consumption during the MCO. This was fairly resilient (relative to a typical ~40% consumption by the nondomestic segment) given that some of SAJ’s largest non-domestic consumers were producers of essential items and hence, were operating throughout the MCO e.g. Lotte Chemical Titan which supplies raw materials to the plastic packaging and healthcare industries.

Tariff hike likely to be pushed out. Given the Covid19 outbreak, the challenging macro backdrop and the recent change in the country’s administration, negotiations on SAJ’s scheduled tariff hike might take longer than expected to be concluded. We understand that selective planned capex for OP4 (2018-2020) had been deferred (perhaps to the next OP), which should allow SAJ to manage (lease) costs and maintain its allowable 9% PAT margin. Our recently revised forecast conservatively assumes that a tariff hike is pushed out to FY22F (from FY21F previously).

Eyeing expansion of water operations. Notwithstanding a potential delay in SAJ’s tariff hike, Ranhill is actively exploring opportunities to expand its water supply operations in other states, riding on its 21 years’ experience running a profitable water operation in Johor. Of particular focus in our opinion, are states with currently loss-making water operations (given logically stronger motivation for a change), some of which could entail much larger consumption than Johor. This is a potential wildcard to Ranhill’s near-to-mid term growth prospect. SAJ currently accounts for some 78% of our gross sum-of-parts valuation.

Power segment. In the power segment, revenue contracted by -20%yoy in 1Q20, largely driven by a scheduled stepdown in capacity rate financial payment for RP1 to RM22.24/kw/month from RM35.91/kw/month following full repayment of RP1’s project loan in FY19. On a positive note, Ranhill is looking to commence negotiations with the Government for an extension of RP1’s concession which is scheduled to expire in 2029. RP1, which is 60%-owned by Ranhill (the remaining is ultimately owned by the Sabah State Government via Sabah Energy Corporation Sdn Bhd), runs on a build-operate-own basis. Any positive outcome from the negotiations should provide a valuation catalyst for Ranhill; RP1 currently accounts for just 3% of our gross sum-of-parts value for Ranhill. Meanwhile, completion of Sabah’s West-East transmission line in FY21F could provide a catalyst for increased power dispatch given the current undercapacity situation in East Sabah.

Recommendation. Maintain BUY at unchanged TP of RM1.40. Potential catalysts: (1) Expansion of water operations (2) Extension of RP1 concession (3) Progress in proposed 1150MW Kedah CCGT power export to South Thailand (4) Scheduled rate hike for Johor water operations (5) Johor water-sewerage integration (6) NRW contract wins. Dividend yield of 5% (which is funded by stable cashflows from SAJ) is attractive.

Source: MIDF Research - 21 May 2020