• Stay NEUTRAL with a new MYR1.04 TP from MYR1.08, 12.2% expected total return. Earnings for 9MFY20 (Jan) missed. We believe net profit will pick up in CY20F, as Light Rail Transit Line 3 (LRT3) billings gain pace, coupled with higher contributions from the water metering segment. Although the country’s water restructuring initiative outcome remains unclear, we believe George Kent Malaysia could benefit from water projects and smart meter implementation. A positive outcome for water reform – paving the way for higher sector development allocations – could be a re-rating catalyst.
   
• 9MFY20 earnings missed expectations. GKEN reported 3QFY20 core earnings of MYR10.3m (-7.2% QoQ, -50.1% YoY). This contributed towards 9MFY20 earnings of MYR34.8m (-47.8% YoY), representing 62% and 60% of our and Street’s forecasts. A second interim dividend of 1 sen was declared vs 1.5 sen previously.

• Results review. The engineering & Construction wing remains sluggish, recording a revenue of MYR40m (-42% QoQ, -39% YoY) on billings for the remaining two ongoing hospitals – Endocrine and Tanjung Karang – and Mass Rapid Transit Line 2 projects, with narrowing segmental EBIT margins. Conversely, revenue from the metering division of MYR33m was up 14.7% QoQ (-14% YoY) on recognition of export orders, which were initially expected for 1HFY20. The segmental EBIT margin for the metering unit widened to 17.9% (2QFY20: 14.7%), benefiting from favourable brass prices in 3QCY19. However, 9MFY20’s EBIT margin of 16.2% was 7ppts lower than 9MFY19’s.

• LRT3 billings to gain pace in FY21. We think billings for GKEN’s LRT3 project should resume during the next calendar year, as our checks suggest that most of the work package contractors for this project are in the final stages of negotiation post finalisation of the design works. However, we expect construction revenue to decline in FY21 post completion of the Endocrine Hospital, as well as in FY22 – after the completion of Hospital Tanjung Karang – if no further wins are secured.

• Key assumptions and risks. Our FY20F-22F earnings are trimmed by 17%, 4%, and 3% after we removed the MYR300m job wins assumption for FY20 to reflect the conservative construction margins for the remaining hospital projects. This was also done to re-time the billings for outstanding projects. Our target P/E of 9x is -1SD from its 5-year average 1-year forward P/E, which we think is fair, given the shrinking outstanding orderbook. We maintain our assumption of MYR300m in new wins for FY21F-22F, where near-term wins could stem from the construction of water treatment plants.

• Risks to our call include cost overruns on the LRT3 project, a prolonged slowdown in construction, and a low win-rate in the open tender system.

Source: RHB Securities Research - 19 Dec 2019