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Aggregate construction profit rebound likely in 3Q

Construction sector Maintain overweight: Public-sector civil works done by contractors picked up, growing 3.4% year-on-year (y-o-y) to RM16.6 billion in the third quarter of 2019 (3Q19). However, Light Rail Transit Line 3 project works only resumed in the second half of 2019 for some of the subcontractors. Hence, we expect aggregate construction earnings to rebound in 3Q19 from a low base in 3Q18 post the 14th general election. During our recent analyst marketing in Singapore, we gathered that foreign investors are concerned about government policy risks in Malaysia and Gamuda Bhd’s ability to replenish its order book. We maintain our “overweight” call on the construction sector. Our top “buys” are Gabungan AQRS Bhd, Gamuda, Sunway Construction Group Bhd and Pintaras Jaya Bhd.

We expect aggregate construction core earnings to see a recovery in 3Q19 with higher progress billings for ongoing projects, plus the low-base effect for y-o-y comparison as sector core earnings contracted 27% y-o-y in 3Q18 due to the stalling of some projects as the new government renegotiated the contracts to reduce cost.

We met with 13 investors from nine institutional fund management companies during our recent analyst marketing on the market, construction and electronics manufacturing services sector outlook. Most were concerned about political uncertainties over leadership succession, government policy risks to construction and concession contracts, and Gamuda’s ability to replenish its order book. We believe the government will maintain the sanctity of government contracts so as not to disrupt the capital market.

We believe public-sector contract awards will pick up in 2020. East Coast Rail Link subcontracts to be awarded to Malaysian contractors will start in 1Q20. More packages of the Pan Borneo Highway (the Sabah portion) will also be rolled out. Other large-scale projects such as the Klang Valley Mass Rapid Transit Line 3, Penang Transport Master Plan and Kuala Lumpur-Singapore high-speed rail could see news of a potential revival in 2020.

We believe the positive news of a resumption of government infrastructure spending supports an upward rerating of the construction sector. Other sector “buys” are AME Elite Consortium Bhd, HSS Engineers Bhd and Taliworks Corp Bhd. — Affin Hwang Capital, Nov 18

Source: TheEdgeMarkets