KEY INVESTMENT HIGHLIGHTS

• 3QFY21 normalised earnings rebounded strongly by +174.9%qoq to RM10.9m on resumption of activities

• 9MFY20 normalised earnings amounted to RM22.4m which is in line with our expectation

• Poised to be a beneficiary of mega infra projects in Sabah and Sarawak through a sizeable Budget 2021 allocation

• Solid order book of RM2.0b which translates into earnings visibility for the next three years

• Maintain BUY with a revised target price at RM1.18

Earnings remain resilient. Hock Seng Lee Berhad (HSL)’s 3QFY20 normalised earnings rebounded strongly by +174.9%qoq to RM10.9m albeit still lower on a year-on-year basis (-25.4%yoy). This was mainly driven by the prompt resumption of its core business operations postMCO. Cumulatively, the group’s 9MFY20 normalised earnings decreased by -50.4%yoy to RM22.4m, primarily dragged by lower contributions from its respective business divisions in 1HFY20. Nonetheless, this came in within our expectation but below consensus as it accounted for 71.0% and 67.8% of FY20 full year earnings estimates. Moving forward, we expect HSL’s construction and business activities to pick up pace in 4QFY20.

Solid order book to support earnings momentum. The group’s construction division posted 9MFY20 profit before tax (PBT) decline of - 50.5%yoy to RM19.2m, mainly on lower progress billings due to the halt in operations in 2QFY20. Nonetheless, we are of the view that the current strong order book of the group which stood at RM2.0b as at 30 September 2020 is expected to provide earnings momentum for the group moving forward. This is mainly due to the prompt resumption of business operations and implementation of catch-up strategies to ramp up progress from 3QFY20 onwards, leading to potential higher progress billings. For instance, the group has completed on schedule for the Batang Rajang Bridge in Sibu which is part of the Pan Borneo Highway Project in October 2020. To note, the group has also secured YTD RM101m worth of new orderbook.

Property development. This segment’s 9MFY20 PBT dropped to RM10.0m (-50.1%yoy). The decline was due to movement restriction as well as the recognition of sales with lower profit margin due to discounts/promotions and increase in construction costs. Moving forward, the company’s only major launch will be Samariang Aman 3. It will start with 126 units, single-and double-storey, terrace and semidetached homes. The company expects homebuyers to react positively to these landed properties. Moreover, the group’s first community mall, ‘La Promenade Mall’, is expected to commence in early 2021 with major anchor tenants which would provide recurring income stream.

Earnings estimates. We are making some housekeeping changes to our earnings estimates to also take into account the impact of the CMCO on the group’s businesses. We are revising our FY20/FY21/22 forecast to RM31.5m, RM55.1m and RM61.7m respectively to better reflect the group’s current earnings performance and healthy pace of work operations.

Target price. We are revising our target price to RM1.18 (previously RM1.21) on revision of earnings estimates. Note that we are attaching a PER of 11.8x to the group’s FY21 EPS of 10.0sen. The PER represents one standard deviation premium to the group’s five year historical average. We are attaching a premium to HSL due to positive sentiments on the East Malaysia’s construction players which are poised to be benefited from a larger budget allocation for development spending on the state of Sabah and Sarawak.

Maintain BUY. We posit that the group’s revenue and earnings prospects remain healthy moving forward in anticipation of recovery in 4QFY20 earnings following the resumption of construction activities and increased workforce capacity at work sites as seen during the Recovery MCO period. The group’s prospect is also well-supported by its healthy outstanding order book of about RM2.0b for its construction division which will provide earnings visibility over the next 2-3 years. Meanwhile, we are of the view that HSL could continue to be a beneficiary from the potential mega infra projects roll-out in the state of Sarawak and Sabah (i.e. Sarawak-Sabah Link Road, Coastal Road, Trans-Borneo Highway project, Sarawak Water Supply Master Plan and Water Grid, Sarawak Petrochemical Hub) in the foreseeable term. In addition, we believe the development expenditure of RM9.6b allocated for the state of Sabah and Sarawak under Budget 2021 and the commitment of the Sarawak’s state government of an additional RM9.8b budget for the state alone with the majority of funds earmarked for developments would bode well with the group’s order book replenishment rate moving forward. All factors considered, we maintain our BUY recommendation on HSL.

Source: MIDF Research - 27 Nov 2020