Investment Merits

• Integrated steel player with upstream and downstream operationsto be fully vertically integrated in FY25 (Jul)
• JV’s capacity to increase almost 3-fold in FY24, meaningfully  boosting associate earnings contribution
• Trading at 5.3x FY24F P/E vs peer average of 7.9x

Company Profile

Hiap Teck Venture (HTVB) is primarily involved in the downstream  manufacturing of steel pipes, hollow sections, and scaffolding  equipment. It also trades a wide range of steel products that serve  various sectors, including construction, oil & gas, engineering, and  manufacturing. HTVB’s 27.3%-owned JV with Chinese steel major  Shanxi Jianlong Industry – Eastern Steel (ESSB) – is engaged in the  upstream production of steel slabs and billets. ESSB operates an  upstream steel plant in Terengganu with a rated capacity of 700,000 MT  pa and is currently Malaysia's sole producer of steel slabs. ESSB  exports c.70% of its production, sells 15-20% to HTVB, and sells the  remainder domestically. HTVB exports 10-15% of its downstream  finished goods and sells 85-90% domestically.

Highlights

Has upstream and downstream capabilities. With a coke oven, blast  furnace, and slab and billet casters, ESSB is capable of iron- and steelmaking and produces steel slabs and billets. Its blast furnace (BF)  currently has a rated capacity of 700,000 MT pa, while its billet caster  has 1m MT pa. Meanwhile, HTVB's downstream business imports hotrolled coil (HRC) to produce finished steel goods, such as hollow  sections, cold formed channels, and cold-rolled steel sheets. HTVB also  buys slabs and billets from ESSB to produce flat- and long-steel  products.

Soon to be fully vertically integrated, bringing cost advantages.  Not only will ESSB's BF have an additional capacity of 2m MT pa (ready  by 2QCY23), it will also have a rolling mill (ready by Jul 2024) to  produce HRC using its own steel slabs. That will make ESSB one of the  only two players in Malaysia capable of producing HRC. With a ferro  alloy furnace to be ready soon, and its existing coke oven, ESSB has  control over its inputs such as ferroalloys and coke. With its iron- and  steel-making, casting, rolling, and downstream (forming, cutting,  welding) capabilities, HTVB has control over the entire supply chain,  from start to finish. This provides it with greater control over its input  costs and quality, as well as its product quality, making HTVB less  susceptible to supply chain disruptions, sudden input cost fluctuations,  and high logistics costs.

ESSB's new capacity to meet ASEAN's steel needs. As ASEAN is  still a net importer of steel, billets and HRC, ESSB will be able to cater  to ASEAN's steel demand, replacing the region’s current imports from China, Japan, and South Korea, and potentially helping customers save on logistics costs. Also, if the only other HRC producer in Malaysia – Megasteel – is currently not producing HRC, ESSB will be able to capture the HRC demand in Malaysia, reducing consumers' reliance on imports. These are all part of Jianlong Group's ambitions for ESSB, as the Chinese steel giant aims for ESSB to be its export base for ASEAN, especially as China continues to reduce its steel production capacity to meet its emission targets by 2030. ESSB is also well positioned to benefit from Indonesia's increasing steel demand in the coming years, especially with to the relocation of its capital city to Nusantara.

Company Report Card

Latest results. In 2QFY23 (Jul), HTVB achieved revenue of MYR361m  and core net profit of MYR7m. The 9% QoQ revenue decline was  mainly due to lower sales volumes and lower ASPs. However, HTVB  recorded an operating profit of MYR1.6m, a turnaround from 1Q23's  operating loss of MYR45m. The stark difference was mainly due to: i)  2Q23's MYR12.7m reversal of inventory write-down and 1Q23's  MYR27m inventory write-down, and ii) lower COGS in 2Q23 vs 1Q23.  Accounting for the improved 2Q23 ESSB contribution and after  removing the impact of inventory write-downs (and reversals), 2Q23  core net profit of MYR7m represented a turnaround from 1Q23's core  net loss of MYR22m. YoY, revenue rose 8% as the higher sales volume  outweighed the lower ASP. However, net profit fell 75% due to higher  COGS (thus, lower margins), which outweighed ESSB's 7-fold increase  in contribution.

Balance sheet. As at 2QFY23, HTVB's net gearing stood at 0.27x, with  most of the short-term borrowings tied to working capital. Its net gearing  has been trending down from a high of 0.66x in FY18. HTVB does not  have any long-term borrowings.

Dividends. While HTVB does not have a dividend policy, it consistently  paid dividends over the last five years – even during the trough of the  pandemic. HTVB paid DPS of 1 sen in FY21 and FY22, representing a  dividend payout ratio (DPR) of 11%. Given HTVB’s capital requirements  for ESSB’s rolling mill, we are not expecting any increase in DPR for  FY23F-25F. Assuming a similar DPR for FY24F, this implies FY24F  yield of 2%.

Management. The group is led by CEO Foo Kok Siew, CFO Raymond  Hoo Weng Keong and COO Phang Chin Khiong. HTVB's major  shareholder is Tan Sri Dato' Law Tien Seng, who is an executive deputy  chairman of HTVB.

Investment Case

Fair value. We ascribe a fair value range of MYR0.45-0.52, based on  7x and 8x FY24F P/E, which is the valuation range which its peers trade  in. We think that the market has yet to price in its strong earnings  growth for FY24F, once ESSB’s contribution jumps.

Key risks include lower-than-expected steel prices, higher-thanexpected raw material costs, lower-than-expected production volumes,  and unfavorable supply-demand dynamics.

Source: RHB Securities Research - 16 May 2023