We met with the management recently to obtain some updates, especially on the construction and concession segments. Key takeaways are as follows:

Have Yet to Secure a New Job YTD but Supported by Sizeable Order Book

YTD, Persona Metro has yet to secure any new construction job. However, we are not overly concerned as the company has sizeable outstanding order book, which overspills from an unprecedented huge job wins in 2016 (see Exhibit 1). The existing order book of RM1.8bn (see Exhibit 2) could last the company for another 2 years. As such, the company has been selective in tendering for new projects this year to sustain margins going forward.

Increased Steel Bar Price and Labour Issue Impacted 2Q17 Margin

That being said, its construction operating margin has declined from an average of 7.7% for the four immediate preceding quarters to 2.7% in 2Q17. The management attributed this to: 1) increase in steel bar price in 2Q17, 2) higher labour cost, and 3) unfavourable profit mix with higher recognition of building jobs which generally have lower margin versus infrastructure jobs. Looking forward, we expect the situation to persist in the remainder of FY17.

Start Recognising Concession Earnings

The management informed that the Certificate of Acceptance for UNIMAP Student Hostel has been received in August 2017. Following this, the acquisition of a 70% stake in SEP Resources (M) Sdn Bhd (SEP) which holds the concession, was completed in end-September 2017. Subsequently, 27.7mn consideration shares of PESONA was issued and listed on 9 October 2017. The acquisition of the remaining 30% of SEP is expected to complete by 1Q18.

PESONA has started recognising the maintenance revenue for the student hostel in 2Q17. With the partial completion of the acquisition of SEP, PESONA will start recognising availability charges starting 4Q17. This will provide stable recurring income to the company for the next 20 years.

Impact

We downgrade our FY17-19 construction earnings by 6.1% to 12.6% respectively to incorporate i) lower construction margin assumptions for various building projects from between 6% and 7% to 4.5% due to elevated steel bar price; ii) cut our FY17 order book replenishment assumption from RM500mn to RM300mn as the company has yet to secure any new contract YTD. Meanwhile, we also incorporate contribution from UNIMAP student hostel, which we forecast to contribute net profits of RM3.9mn, RM14.5mn and RM14.8mn to the group in FY17, FY18 and FY19. All in, we cut FY17 earnings estimate by 8.0% but raise FY18 and FY19 earnings forecasts by 21.1% and 23.4%.

Valuation

We adopt a new sum-of-part valuation approach to price in the new concession business. Using a DCF method with discount rate of 8%, we value the concession business at RM82.2mn. For the construction division, we attach a PE of 12x FY18 EPS, which is at peer’s average, and derive a fair value of RM379.6mn. Based on enlarged share base after the issuance of share consideration, we arrive at a lower target price of RM0.64 (RM0.78 previously). Maintain BUY on the stock.

Source: TA Research - 25 Oct 2017