• Maintain OVERWEIGHT. We remain upbeat on the construction sector, premised on the lifting of the political overhang post state elections. Moving forward, the Federal Government may now be able to focus its efforts to roll out big-ticket infrastructure projects, in addition to implementing institutional reforms. As such, we do not discount the possibility of any of the infrastructure projects making a debut in 4Q23 at the earliest. Our Top Picks are Gamuda, Sunway Construction and Kerjaya Prospek.

• The value of construction works done in 2Q23 reached MYR32.4bn (+8.1% YoY). In the same period, the economic output of the construction sector grew 6.2% YoY, marking the fifth consecutive quarter of YoY growth. The ample supply of labour, combined with receding material cost pressures, put contractors in a good position to not just ramp up the progress of their projects, but also be ready to accept new jobs that may boost earnings visibility.

• Underperformance in 2Q23 a temporary hiccup, in our view. Out of the 10 companies under our coverage that reported results, one came in line, two exceeded expectations and seven fell below estimates. The underperformance was mainly due to earlier billing progress assumptions being too optimistic. Nevertheless, revenue growth was prevalent among most contractors. We believe that the adequate supply of labour should result in higher revenue recognition of projects, as they move along the S curve in the coming quarters.

• Key events to look out for in the near term is the tabling of the 12th Malaysia Plan mid-term review (12MP MTR) on 11 Sep that had initially outlined MYR400bn worth of development expenditure for 2021-2025. We are hopeful of key infrastructure projects to be mentioned in the 12MP MTR such as the Penang Light Rail Transit (LRT), Mass Rapid Transit 3 (MRT3), Johor Bahru-Singapore Rapid Transit System (RTS) Link and the Pan Borneo Highway. The icing on the cake would be the reinstatement of previously omitted stations for LRT3 worth c.MYR1bn under the 12MP MTR.

• Top Picks. We keep Gamuda as the sector Top Pick, in addition to Kerjaya Prospek and Sunway Construction. We prefer these names for their commendable earnings visibility over the next 3-6 years. Gamuda has a sizeable presence overseas – serving as a strategic hedge to any domestic weakness. Kerjaya Prospek has a framework arrangement with Samsung C&T which would enable it to secure more private sophisticated jobs (backed by its net cash pile). We also favour Sunway Construction for its diverse tenderbook, which features a steady flow of internal jobs together with industrial infrastructure contracts that includes the Song Hau 2 power plant project (pending financial close) in Vietnam will lift its orderbook by c.MYR6bn.

• Key downside risks to our sector weighting are longer-than-expected delays in contract rollouts, and larger-than-expected cost reductions related to the MRT3 project.

Source: RHB Securities Research - 7 Sept 2023