Stock Name: GAMUDA
Company Name: GAMUDA BHD
Research House: OSK
Construction sector
Maintain overweight: During the 4Q10 reporting season last month, we noted that some contractors had embarked on kitchen-sinking exercises.
WCT Bhd and MTD Bhd (not rated) each made RM36 million in provisions for Bakun Dam. The provisions comprise: (i) RM26 million for additional costs required to complete the job; and (ii) RM10 million for contributions on the part of two other consortium members that are unlikely to be able to meet the cash calls of the MCH JV, which is undertaking the Bakun Dam job.
Ahmad Zaki Resources Bhd (AZRB) reversed out RM99 million in revenue for its Alfaisal University job in Saudi Arabia. The job has incurred delays and the reversed sum represents the associated prolongation costs.
Sunway's associates were in the red mainly due to RM18 million in profit reversal on its Al Reem project. Job delays led to an upward revision in costs and Sunway chose the most conservative approach by reversing out all its past profits.
Although AZRB has a 7.7% stake in the MCH JV (similar to WCT and MTD), it did not make the RM36 million provision. We understand that the individual members of the JV were given the discretion on how much to provide, subject to their auditors' approval. Unlike WCT and MTD, AZRB was never awarded any of Bakun's construction packages by the MCH JV. While AZRB was in the running for one package worth RM240 million, the job was subsequently awarded to Sinohydro Corp as its price was slightly lower. We gather that due to cost overruns, the final cost of that package had ballooned to over RM400 million.
Last December, AZRB instituted a RM58 million counter-claim against three members of the JV (Sime Engineering Sdn BHd, WCT and Sinohydro) on the grounds of breach of their fiduciary duties. Management maintains its view that no provisions for Bakun will be made. Should AZRB be required to make a provision for the RM36 million, this would wipe out our FY11 earnings forecast of RM35.8 million.
The 1.33 billion dirhams (RM1.32 billion) Al Reem job in Abu Dhabi comprising five towers was awarded to a consortium comprising IJM Corp Bhd, LFE Corp Bhd, Sunway and Zelan Bhd (each with a 25% stake) in 2006. The job is now 95% complete and Sunway will not be recognising any profits on the remaining portion of works. There was no profit reversal on the part of IJM as it had not recognised any to begin with. Based on the notes accompanying the recent results, there was no indication of either Zelan (NR) or LFE (NR) recording any profit reversals on the said job.
We highlight two risks that may lead to more kitchen-sinking:
(i)'' ''drastic increases in material prices, and
(ii)'' ''the further spread of the Middle East unrest. An unexpected rise in material prices cannot be discounted given that oil prices are now above US$100 per barrel. This would lead to failure to achieve the targeted margins on existing jobs, which may in turn result in profit reversals and provisions. In the Middle East, Malaysian contractors have minimal exposure to the countries experiencing protests but if these spread, ongoing jobs could be adversely impacted (WCT is the most exposed at 52% of its order book, mainly in Qatar). This may give rise to project delays and in the worst-case scenario, cancellations.
While we regard the recent kitchen-sinking exercises as one-off events that are unlikely to recur, spiralling material prices and escalation of the Middle East crisis remain the key risks. For now, we maintain our 'overweight' rating on the sector, driven primarily by:
(i)'' ''implementation of the various projects under the Economic Transformation Programme; and
(ii)'' ''the potential of more contract awards as the government attempts to generate a feel-good factor given the potential of an early general election. Our top picks are Gamuda Bhd ('buy', target price: RM4.78) and Mudajaya Group Bhd ('buy', TP: RM7.44). For small cap plays, we like KimLun Sdn Bhd ('buy', TP: RM2.32). ' OSK Research, March 10
This article appeared in The Edge Financial Daily, March 11, 2011.
Company Name: GAMUDA BHD
Research House: OSK
Construction sector
Maintain overweight: During the 4Q10 reporting season last month, we noted that some contractors had embarked on kitchen-sinking exercises.
WCT Bhd and MTD Bhd (not rated) each made RM36 million in provisions for Bakun Dam. The provisions comprise: (i) RM26 million for additional costs required to complete the job; and (ii) RM10 million for contributions on the part of two other consortium members that are unlikely to be able to meet the cash calls of the MCH JV, which is undertaking the Bakun Dam job.
Ahmad Zaki Resources Bhd (AZRB) reversed out RM99 million in revenue for its Alfaisal University job in Saudi Arabia. The job has incurred delays and the reversed sum represents the associated prolongation costs.
Sunway's associates were in the red mainly due to RM18 million in profit reversal on its Al Reem project. Job delays led to an upward revision in costs and Sunway chose the most conservative approach by reversing out all its past profits.
Although AZRB has a 7.7% stake in the MCH JV (similar to WCT and MTD), it did not make the RM36 million provision. We understand that the individual members of the JV were given the discretion on how much to provide, subject to their auditors' approval. Unlike WCT and MTD, AZRB was never awarded any of Bakun's construction packages by the MCH JV. While AZRB was in the running for one package worth RM240 million, the job was subsequently awarded to Sinohydro Corp as its price was slightly lower. We gather that due to cost overruns, the final cost of that package had ballooned to over RM400 million.
Last December, AZRB instituted a RM58 million counter-claim against three members of the JV (Sime Engineering Sdn BHd, WCT and Sinohydro) on the grounds of breach of their fiduciary duties. Management maintains its view that no provisions for Bakun will be made. Should AZRB be required to make a provision for the RM36 million, this would wipe out our FY11 earnings forecast of RM35.8 million.
The 1.33 billion dirhams (RM1.32 billion) Al Reem job in Abu Dhabi comprising five towers was awarded to a consortium comprising IJM Corp Bhd, LFE Corp Bhd, Sunway and Zelan Bhd (each with a 25% stake) in 2006. The job is now 95% complete and Sunway will not be recognising any profits on the remaining portion of works. There was no profit reversal on the part of IJM as it had not recognised any to begin with. Based on the notes accompanying the recent results, there was no indication of either Zelan (NR) or LFE (NR) recording any profit reversals on the said job.
We highlight two risks that may lead to more kitchen-sinking:
(i)'' ''drastic increases in material prices, and
(ii)'' ''the further spread of the Middle East unrest. An unexpected rise in material prices cannot be discounted given that oil prices are now above US$100 per barrel. This would lead to failure to achieve the targeted margins on existing jobs, which may in turn result in profit reversals and provisions. In the Middle East, Malaysian contractors have minimal exposure to the countries experiencing protests but if these spread, ongoing jobs could be adversely impacted (WCT is the most exposed at 52% of its order book, mainly in Qatar). This may give rise to project delays and in the worst-case scenario, cancellations.
While we regard the recent kitchen-sinking exercises as one-off events that are unlikely to recur, spiralling material prices and escalation of the Middle East crisis remain the key risks. For now, we maintain our 'overweight' rating on the sector, driven primarily by:
(i)'' ''implementation of the various projects under the Economic Transformation Programme; and
(ii)'' ''the potential of more contract awards as the government attempts to generate a feel-good factor given the potential of an early general election. Our top picks are Gamuda Bhd ('buy', target price: RM4.78) and Mudajaya Group Bhd ('buy', TP: RM7.44). For small cap plays, we like KimLun Sdn Bhd ('buy', TP: RM2.32). ' OSK Research, March 10
This article appeared in The Edge Financial Daily, March 11, 2011.
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