Riding On Buoyant Construction Sector  

We are initiating coverage on OKA with a BUY recommendation and MYR1.70 FV, pegged to FY15F 10x P/E, still below its 10-year average P/E of 15.6x. We like the company for its: i) prudent management, ii) strong presence in Peninsular Malaysia, and iii) solid earnings visibility, given its ability to ride on the infrastructure developments in Malaysia that have long gestation periods. Being one of the dominant sewage pipe makers in Malaysia, we believe that OKA could potentially benefit from the West Coast Expressway (WCE) project.Earnings growth is expected to remain strong over the next two years, underpinned by more orders and better margins. We expect a CAGR of 25.5% from FY13-15F. OKA is still trading below its NTA/share of MYR1.72 as at end-Sept 2013.

Ipoh-based producer of precast concrete products. OKA is involved in the manufacture of precast concrete products in Malaysia, mainly catering to the infrastructure, sewerage, construction and highway industries. Headquartered in Ipoh, Perak, the company has six factories in Peninsular Malaysia, with two plants in Batu Gajah in Perak, and one plant each in Sungai Petani, Nilai, Senai, Johor and Kuantan in Pahang. Its Batu Gajah Perdana plant manufactures wire rods for its own use. Its plants have a combined production capacity of 660,000 tonnes of precast concrete products annually.

Boost from infrastructure projects. We believe that the prospects of the construction sector will remain strong, underpinned by an extended upcycle driven largely by the MYR73bn Klang Valley Mass Rapid Transit (MRT) project. The Government is expected to focus on projects with low import content and high multiplier effects, such as the WCE, the refinery & petrochemical integrated development (RAPID) and the Gemas-Johor Bahru double track projects that were specifically mentioned in Budget 2014. There was no mention of any cancellation or deferment of mega projects when the Budget was announced in October 2013. In fact, the Government promised more infrastructure developments, such as development of more affordable homes, new expressways, rural developments, and so on. These are poised to boost infrastructure developments as well as accelerate the demand for basic material and related products.

To potentially benefit from WCE project. WCE is a 233km highway that connects Banting in Selangor to Taiping, Perak. In a 3 Jan 2013 Star WCE SB CEO Datuk Neoh Soon Hiong said that the Government was in the midst of setting up a tender committee, and that work on the highway would probably start in 2QCY14. The WCE is scheduled to be completed in 2018. Being one of the dominant players in sewage pipes in Malaysia, we believe that OKA could potentially benefit by supplying the pipes and culverts to be used in WCE’s drainage system, as drainage is vital in road construction. A highway project would require proper drainage along its length to ensure road safety as well as to minimize maintenance problems. 

BUY, with MYR1.70 FV. We like OKA for its: i) prudent management, ii) strong presence with six plants located in various states in Peninsular Malaysia, and iii) strong earnings visibility, given its ability to ride on rising infrastructure developments in Malaysia that have long gestation periods. We expect earnings to be strong in FY14 and FY15, propelled by strengthening sales and better margins.  We expect a 3-year CAGR growth of 25.5% in net earnings for the FY13-15F period. We are initiating coverage on OKA with a BUY recommendation and MYR1.70 FV, pegged to a FY15F P/E of 10x, still below the stock’s 10-year average P/E of 15.6x. The company is still trading below its NTA/share of MYR1.72 as at end-Sept 2013.

Founded and led by Mr Ong Koon Ann in 1981, OKA is involved in the manufacturing of precast concrete products in Malaysia. The company supplies concrete pipes, concrete spigot, socket pipes, jacking pipes, box culverts, L-shape retaining wall units, U-shape drains, concrete porous subsoil pipes, ready-mixed concrete, concrete septic tanks, precast manhole components and industrialised building system (IBS), among others, to cater for the infrastructure, sewerage, construction and highway industries. Precast concrete pipes and U-shape drains are its main revenue contributors, accounting for about 70% of its total sales in FY13. Headquartered in Ipoh, Perak, it has six factories in Peninsular Malaysia, with two plants in Batu Gajah, Perak and one plant each in Sungai Petani, Kedah; Nilai Negeri Sembilan; Senai, Johor and Kuantan, Pahang. Its plant in Batu Gajah Perdana manufactures wire rods for its own use. Excluding its Batu Gajah Perdana plant, OKA has a combined production capacity of 660,000 tonnes annually. The company, which has a total workforce of 600 people, is currently running at about 50-60% of its total capacity at one shift per day.

Infrastructure boost. We believe that the prospects of the construction sector would remain strong, underpinned by an extended upcycle driven largely by the MYR73bn Klang Valley Mass Rapid Transit (MRT) project. Given the scale of the project, its impact will be felt along the entire value chain of the construction sector, which would keep the sector busy until 2019. The Government has also reiterated that projects with low import content and high multiplier effects will be given priority. Given that the West Coast Expressway (WCE), the refinery & petrochemical integrated development (RAPID) project and the Gemas-Johor Bahru double track project were specifically mentioned in Budget 2014, we see these projects as having lower risk of being deferred. There was no mention of any cancellation or deferment of mega projects during the Budget 2014 announcement in October 2013. Furthermore, the Government has promised more infrastructure developments, such as building more affordable homes, new expressways as well as rural developments among others. These projects are poised to boost infrastructure developments and accelerate demand for basic material and its related products.

To potentially benefit from WCE project. West Coast Expressway (WCE) is a 233km highway across Selangor and Perak connecting Banting to Taiping (see Figure 3). WCE will be linked to some existing highways such as the North South Expressway (PLUS), Shah Alam Expressway (KESAS), KL-Kuala Selangor Expressway (LATAR), South Klang Valley Expressway (SKVE), and North Klang Valley Expressway (NKVE), among others. According to The Star report dated 3 Jan 2013, Datuk Neoh Soon Hiong, the CEO of WCE SB, said that the Government is in the midst of setting up a tender committee, and that physical work on the highway is expected to start in 2QCY14. The WCE is scheduled to be completed in 2018. Being one of the dominant sewage pipe manufacturers in Malaysia, we believe that OKA could potentially benefit from the WCE project by supplying pipes and culverts for its drainage system. Drainage is an important feature of road construction. A highway project would require a proper drainage system along the highway to ensure road safety and to minimise maintenance problems. 

Stabilising raw material costs. Steel and cement are the main materials for OKA’s precast concrete products, accounting for about 15% and 35% of its total costs respectively. The global steel outlook remains dismal. as excess capacity in the steel industry has capped steel price increase, despite China’s improving macroeconomic conditions. Similarly, the local cement industry, especially in Peninsular Malaysia, has sufficient capacity situation, with new cement production capacity in the pipeline (see Figure 4). Although the recent electricity tariff hike – which took effect on 2 Jan 2014 – came as an unpleasant surprise to the steel and cement industries, we do not foresee a sudden upsurge in steel and cement prices in the near term, as both industries are facing excess capacity.

Transportation cost hike factored in. In Sept 2013, the Government has increased prices for RON 95 and diesel by 20 sen respectively to MYR2.10/litre and MYR2.00/litre. Transportation forms one of the company’s major cost components, which it outsources to third-party logistics companies. Following the price hike in petrol and diesel, its outsourcing partners have increased transportation cost by about 5%, lifting transportation cost to about 15% of OKA’s total cost. With crude oil prices hovering around USD100/barrel in the absence of any significant near-term price catalyst, we believe that chances of another hike in transportation cost in the near future are slim.

Supplying products to Singapore. Besides catering for the local market, OKA also supplies its precast concrete products to our neighbouring country, Singapore, through its Senai plant. Singapore market accounted for about 10% of its total sales in FY13. The Singapore Government engages in infrastructure developments such as building more flats to cater to rising housing demand and the extension of the MRT. In the past few years, Singapore’s Housing and Development Board (HDB) had been ramping up the supply of HDB flats in efforts to tame property speculation. In Dec 2013, HDB announced that it will reduce the supply of bigger flats by 18% in 2014, but at the same time, it also plans to double the number of two-room build-to-order (BTO) flats. All in all, this will amount to a total of 24,300 flats on offer in 2014. In addition, as part of the Land Transport Masterplan 2013, Singapore plans to double its rail network to 360km by 2030 from 178km currently. The job scope includes building two new MRT lines and extending three existing lines. OKA will likely reap benefits from all these infrastructure developments.  

Past performance review. OKA’s topline has been gradually growing over the past eight years, with a CAGR of 12.5% during the FY06-13 period. It recorded a net loss of MYR2.0m in FY07, due to accelerating raw material costs especially those of cement, steel and diesel. The bad performance was also due to slower growth in the Malaysian construction sector with fewer government projects. OKA managed to turn around subsequently in FY08 with a net profit of MYR1.5m. Although the world economy sank into a global recession following the property bubble burst in the US, OKA managed to chart higher revenue and earnings on the back of the Government’s MYR67bn stimulus packages to mitigate the impact of the global economy slowdown. In addition, raw material costs plunged from their highs during the crisis. Internally, the company strived to maintain its competitive edge through ongoing new product development and product enhancement. It also undertook cost efficiency measures, prudent credit control policy and rationalisation of its operation to ensure operational efficiency. These efforts led to a smooth recovery in the company’s top- and bottomlines, with a CAGR of 10.1% and 30.2% respectively for its revenue and net profit during the FY08-13 period.

Better margins. OKA’s overall 1HFY14 performance was generally better despite relatively flat revenue of MYR71.2m. Net profit surged 86% y-o-y to MYR5.6m, compared with MYR3.0m in 1HFY13. This was mainly driven by an increase in sales of higher-margin products and stringent cost control measures. 1HFY14 EBIT margin increased to 11.6% from 7.5% in 1HFY13. Following its good 1HFY14 results, we expect its 3Q results to be lower q-o-q, mainly attributed to shorter working days due to the Chinese New Year holiday.

No dividend policy, but expecting >30% payout. Although OKA does not have a fixed dividend policy, it has been distributing dividends with a payout ratio of >30% of its net profit since FY03. The company distributed a single-tier first and final dividend of 3.5 sen for FY13. We expect a 4 sen dividend for FY14 & FY15, which will translate into a dividend yield of 3.3%.OKA’s gearing ratio remained comfortably low at 0.18x as at end-Sept 2013.

Peer comparison & valuation

Valuation. OKA’s closest peer is Industrial Concrete Products SB (ICP), which was acquired by IJM Corporation (IJM MK, NEUTRAL, FV: MYR6.21) and subsequently delisted in 2008. IJM Corp privatised ICP at MYR3.30 in Dec 2008. During the 2000-2008 period, ICP was trading at an average P/E of 18.7x. Both OKA and ICP provide precast concrete products but with different product specifications and usage. ICP’s products are usually seen in bridges, building foundations, civil engineering works, marine structures and piled embankments, while OKA’s products are for general usage in the infrastructure, sewerage, construction and highway industries.        

We like OKA for its: i) prudent management, ii) strong presence with six plants located in various regions of Peninsular Malaysia, and iii) stronger earnings visibility with its ability to ride on infrastructure developments in Malaysia, which has a long gestation period. We expect earnings strengthen in FY14 and FY15, underpinned by stronger sales and better margins for its products. We expect a strong 3-year net earnings CAGR growth of 25.5% for tFY13-15F. We are initiating coverage on OKA with a BUY recommendation and MYR1.70 FV, pegged to a FY15F P/E of 10x, still below the stock’s 10-year average P/E of 15.6x. The company is still trading below its NTA/share of MYR1.72 as at end-Sept 2013. 

Source: RHB