We  remain  OVERWEIGHT  on  the  construction  sector.  Views  of  the speakers featured in our RHB Regional Infrastructure Conference in KL on  5  Aug  2014  are  consistent  with  ours  –  the  growth  prospects  of infrastructure  development  in  the  region  are  strong.  Our  top  themes and  corresponding  stock  picks  are  the  Klang  Valley  MRT  (Gamuda), piling (Pintaras Jaya) and public housing (Protasco).

Southern Corridor High-Speed Rail (HSR). It takes only 90 minutes to travel  from  one  end  of  the  Southern  Corridor  HSR  to  the  other  end.  A HSR connectivity will generate massive economic spin-offs to both cities. It is not yet decided if the Southern Corridor HSR will adopt conventional rail or Meglev technology.

Penang  Undersea  Tunnel.  The  project  will  be  carried  out  in  three phases.  It  boasts  participation  from  two  leading  Chinese  construction groups.  The  contractors  will  receive  land  and  rights  to  reclaim  land measuring  a  total  of  110  acres  in  Penang  Island  and  a  30-year concession to collect toll at the tunnel for works done.

Infrastructure  growth  in  Asean.  Industry  experts  estimate infrastructure  needs  in  Asean  to  be  at  USD60bn  per  annum.  Good governance,  capital  market  development  and  commitment  from  the Government  are  crucial  to  ensuring  that  wealth  from  natural  resources will be channelled into infrastructure development.

Sector  risks.  These  include:  i)  the  Government  dialing  back  on  its commitment and timeliness in the implementation of Lines 2 and 3 of the Klang Valley MRT project, ii) constraints on construction resources, and iii) an escalation in input costs.

Strong  growth  prospects  and  plenty  of  opportunities.  Views  of  the three  speakers  are  consistent  with  ours  –  the  growth  prospects  of infrastructure development in the region, including Malaysia, are strong. There  are  plenty  of  opportunities  in  terms  of  new  infrastructure  projects that  will  keep  players  busy  for  many  years  to  come.  Our  top  three themes  and  corresponding  stock  picks  are:  i)  the  Klang  Valley  MRT  – Gamuda (GAM MK, BUY, FV: MYR5.61), ii) piling – Pintaras Jaya (PINT MK, BUY, FV: MYR4.88), and iii) public housing – Protasco (PRTA MK, BUY, FV: MYR2.43).

RHB Regional Infrastructure Conference

Speakers And Topics
Infrastructure a recurring theme in Malaysia and the region. Our inaugural RHB Regional Infrastructure Conference in KL on 5 Aug 2014 attracted participation from 103  fund  managers,  and  about  30  representatives  from  various  publicly  listed companies,  a  government-linked  corporation  and  a  government  agency.  The  three speakers we featured and their respective topics were as follows:
i)  Mr Tonny Yeap - Head, Special Projects & Technology, of Land Public Transport Commission  (SPAD)  –  who  spoke on the “Southern Corridor HSR  Between  KL and Singapore”,
ii)  Dato’ Zarul Ahmad Mohd Zulkifli –  Chairman  of  Consortium  Zenith  BUCG  Sdn Bhd – who spoke on the “Penang Undersea Tunnel”, and
iii)  Mr  Stuart  L.  Dean  –  CEO  of  General  Electric  for  Asean  –  who  spoke  on  the “Infrastructure Growth In Asean”.
 
Southern Corridor HSR Between KL and Singapore
Highlights. Among the key takeaways from the session are:
i)  It takes only 90 minutes to travel from one end of the Southern Corridor HSR to the other end,
ii)  A HSR connectivity will generate massive economic spin-offs to both cities, and
iii)  It  is  not  yet  decided  if  the  Southern  Corridor  HSR  will  adopt  conventional  rail  or Meglev technology.

90  minutes  on  Southern  Corridor  HSR  from  KL  to  Singapore.  Assuming  a  top speed  of 350 km per  hour  (kph),  theoretically,  one  could travel  from one end of  the 330-km  Southern  Corridor  HSR  to  the  other  end  within  90  minutes  on  an express/non-stop  service.  Coupled  with  travel  time  between  HSR  terminals  and central  business  districts,  waiting  time  prior  to  departure  and  time  spent  at  the immigration check point (that add up to about one hour), the entire journey will take about 2.5 hours. This compares with “door-to-door” travel time of about five hours by car  and  double-tracking  train  service  (under  construction)  and  3.6  hours  by  plane. There will also be “transit services” that stop at five transit points along the alignment. While  the  final  alignment  has  yet  to  be  decided,  SPAD  hinted  that its “preferred” alignment runs from KL to Singapore via Seremban, Melaka,  Muar, Batu Pahat and Nusajaya (see Figure 1).

Massive  economic  spin-offs.  A  HSR  connectivity  between  KL  and  Singapore  will enhance  the  competitiveness  of  two  of  the  largest  cities  in  South-East  Asia  in  the international arena. A World Bank study  shows that businesses located within “daily reach” of major national/regional hubs of commerce and information, will attract more businesses as well as a large pool of talent and labour. A HSR connectivity will also increase  tourist  arrivals  and  leisure  travelling  between  the  two  countries,  as  well  as boost  real  estate  development  and  redevelopment  potential,  and  hence  real  estate values. During the construction phase, the project will create thousands of jobs in the construction sector.  Upon  commencement  of  operations, massive manpower  will be needed to operate and maintain the infrastructure, creating jobs for the population.  Conventional HSR or Maglev? SPAD and its counterpart in Singapore have yet to decide on the rail technology for the Southern Corridor HSR. They have two options, namely, conventional HSR (top speed of 350 kph) and Maglev (top speed of 500 kph, but  more costly).  Similarly,  project  financing  (reportedly  at about  MYR40bn)  has  yet to be decided. However, if other HSR projects in the world are a guide, the Southern Corridor  HSR  project  is  quite  likely  to  be  largely  public-funded  (it  is  unclear  at  this point  how  the  costs  will  be  shared  between  Malaysia  and  Singapore). Administratively,  the  Southern  Corridor  HSR  may  be  challenging  as  it  is  a  cross-border  HSR  project.  At  present,  cross-border  HSR  projects  are  still  considered  rare with  only  two  in  the  world,  namely,  the  London  -  Paris  HSR  and  Shenzhen  -  Hong Kong HSR projects.  
 
Penang Undersea Tunnel  
Highlights. Among the key takeaways from the session are:
1)  The Penang Undersea Tunnel project will be carried out in three phases,
2)  The  project  boasts  participation  from  two  leading  Chinese  construction  groups, and
3)  Consortium  Zenith  BUCG  Sdn  Bhd  will  receive  land  and  rights  to  reclaim  land
measuring  a  total  of  110  acres  in  Penang  Island  and  a  30-year  concession  to collect toll at the tunnel for works done.
Three  highways  and  an  undersea  tunnel.  Known  as  the  “Penang  Undersea Tunnel”,  this  massive  road  network  project  (reportedly  carrying  a  price  tag  of MYR6.3bn)  in  Penang  Island  actually  comprises  three  highways  and  an  undersea
tunnel, to be implemented in three phases as follows (see Figure 2):

1)  Phase  1A  –  An  alternative  10.5-km  dual  carriageway  running  parallel  to  the existing northern coastal road from Tanjung Bungah to Teluk Bahang,
2)  Phase 1B – A 4-lane dual carriageway connecting Bandar Baru Ayer Itam/Farlim to Lebuhraya Tun Dr. Lim Chong Eu,
3)  Phase 2 – A by-pass from Persiaran Gurney to Lebuhraya Tun Dr Lim Chong Eu, and
4)  Phase 3 – A third link between the Island and Mainland, from Persiaran Gurney to Seberang Perai.

Strong Chinese partners. The project boasts participation from two leading Chinese construction  groups,  namely,  Beijing  Urban  Construction  Group  (BUCG)  (as consortium  partner)  and  China  Railway  Construction  Corporation  (CRCC)  (as engineering, procurement, construction and design contractor). BUCG has a long list of  completed  high-profile  projects  to  its  name,  including  the Beijing Bird’s Nest Olympic  Stadium and  Beijing Capital  International  Airport  Terminal 3.  As  for  CRCC, the group has constructed more than 100 motorways with a total length in excess of 22,600 km in China to-date. Among the prominent projects it has completed are the Xiamen Xiang’an Undersea Tunnel and the  Jinshuigou  Super-Major  Bridge  of  the Yumenkou-Yanliang Expressway.

Payment  in  kind.  Consortium  Zenith  BUCG  Sdn  Bhd  will  receive  from  the  Penang State  Government  land  and  rights to  reclaim  land measuring  a  total of  110  acres  in Penang Island and a 30-year concession to collect toll at the tunnel for works done. Already,  the  consortium  has  accepted  two  parcels  of  reclaimed  land  measuring  a total  of  nine  acres  valued  at  MYR305m  as  payment  for  the  feasibility  studies  and detailed design works, which it expects to be completed by early-2015.

Infrastructure Growth In Asean  
Highlights. Among the key takeaways from the session are:
1)  Industry  experts  estimate  infrastructure  needs  in  Asean  to  be  at  USD60bn  per annum, and
2)  Good  governance,  capital  market  development  and  commitment  from  the Government,  are  crucial  to  ensuring  that  wealth  from  natural  resources  will  be channelled into infrastructure development. A  USD60bn  question.  On  the  back  of  a  growing  population  and  expanding  middle class, industry experts estimate infrastructure needs in Asean to be at USD60bn per annum. These are basically in the areas of power, roads, water/sanitation, railways, airports  and  ports.  Certain  countries  in  the  region  have  so  much  catch-up  to  do  in terms  of  investment  in  certain  infrastructure,  for  instance,  water/sanitation  in Indonesia  and  Myanmar,  as  well  as  for  power  in  Cambodia  and  Myanmar. Electrification  (access  to  electricity  as  a  percentage  of  population)  in  the  two countries stands at only 24% and 13% respectively. Infrastructure development funded by wealth from natural resources. Generally, countries within Asean do have the money to be spent on infrastructure development,
given  the  enormous  wealth  generated  from  the  abundance  of  natural  resources. However, a few conditions will have to be put in place to ensure that the money will go into infrastructure development. Firstly, good governance with a level playing field for  players  must  prevail  to  attract  private  investment  in  infrastructure  (in  the  form  of privatisation,  public-private  partnership,  etc.  Secondly,  capital  market  development will have to continue to enable recycling of the region’s  surplus  savings  within  the region  (instead  of  going  to  US  Treasuries,  for  instance).  Last  but  not  least, Governments in the region should be prepared to fund the lion’s share of the national infrastructure requirements (as much as 60% based on the opinion of certain industry experts).
 
Conclusion
Strong  growth  prospects  and  plenty  of  opportunities  in  infrastructure development in Malaysia and the region. The views of the three speakers featured in  our  RHB  Regional  Infrastructure  Conference in  KL on  5 Aug  2014  are consistent with  ours  –  the  growth  prospects  of  infrastructure  development  in  the  region, including  Malaysia,  are  strong.  There  are  plenty  of  opportunities  in  terms  of  new infrastructure  projects  (such  as  the  Southern  Corridor  HSR  and  the  Penang Undersea Tunnel in Malaysia) that will keep players busy for many years to come. We  believe  picking  the  right  themes  is  crucial  to  a  winning  investment  strategy  in construction  stocks.  This  is  subject  to  the  availability  of  meanngful  proxies  to  the themes, and decent upside to our valuations for the proxies. Our screening produces three top themes with meaningful proxies that exhibit decent upside to our valuations. They are: i) the Klang Valley MRT – Gamuda, ii) piling – Pintaras Jaya, and iii) public housing – Protasco. We  believe  the  best  proxy  to  the  Klang  Valley  MRT  project  is  Gamuda,  as  it  has secured, via a 50:50 MMC-Gamuda JV, the choice parts of Line 1 of the project (and most likely Lines 2 and 3 as well).

It plays the roles of: i) the project delivery partner (PDP) for the elevated portion, from which the JV earns a PDP fee amounting to 6% of the elevated portion’s contract value of about MYR14bn, and ii) the main contractor of the tunnelling portion that the JV  is  involved  with,  for  which  we  assume  a  margin  of  12%  over  the  corresponding contract value of MYR8.3bn.  

The  prospects  for  the  piling  segment  are  strong,  backed  by:  i)  the  MYR73bn  Klang Valley  MRT  project,  ii)  a  proliferation  of  high-rise  developments  amid  rising  land scarcity in prime locations that require extension piling, and iii) the chronic shortage of piling capacity in the market, which should boost piling rates. We believe the best proxy  to  the  piling  segment  is  Pintaras  Jaya,  given  its  advantages  over  its  rivals including  its:  i)  full  range  of  piling  machines,  tools  and  accessories,  ii)  in-depth knowledge  of  ground  conditions,  and  iii)  ability  to  secure  cash  discounts  for  key inputs.

We believe that margins from public housing projects are attractive given: i) that the contracts  are  awarded  largely  on  a  directly-negotiated  basis,  and  ii)  the  inherently relatively  low  execution  risks  for  these  simpler  building  jobs.  We  believe  the  best proxy  to  public  housing  is  Protasco,  as  it  has  already  bagged  two  public  housing projects worth a total of MYR667m.

Sector risks. These include: i) the Government dialing back on its commitment and timeliness in the implementation of Lines 2 and 3 of the Klang Valley MRT project, ii) constraints on construction resources, and iii) an escalation in input costs.

Source: RHB