Cahya Mata Sarawak. Company Guide

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1 Version 8 Bloomberg: CMS MK Reuters: CMSM.KL Refer to important disclosures at the end of this report AllianceDBS Research, Malaysia Equity 30 Nov 2017 BUY (Upgrade from Hold) Last Traded Price ( 29 Nov 2017): RM3.55 (KLCI : 1,720.38) Price Target 12-mth: RM4.40 (24% upside) (Prev RM4.30) Shariah Compliant: Yes Analyst Abdul Azim Muhthar azimm@alliancedbs.com Woo Kim TOH wookim@alliancedbs.com What s New 9MFY17 met our expectations but missed consensus OM Sarawak registered net profit in 3Q17 Raised FY18F and FY19F earnings by 3-6% Upgrade to BUY with higher TP of RM4.40; valuation attractive after decline in share price over past 2 months Turnaround in OM Sarawak Upgrade to BUY with TP RM4.40. (CMS) s share price has declined by c. 13% since its recent peak in September the shares are now trading at 15.5x FY18F PE (- 1SD 5-year PE). We see an accumulation opportunity in CMS given that operating performance at 25%-owned OM Sarawak seems to be turning around after it registered net profit in 3Q17. As the general election (GE14) is approaching - slated to be held in 1HFY18 - CMS is seen as a beneficiary of additional ad-hoc infrastructure projects. As such, we believe sentiment for the stock is turning more positive. Where we differ. Our topline assumption is lower than consensus as we assume revenue recognition from Pan Borneo should come in progressively starting FY18. Price Relative Forecasts and Valuation FY Dec (RM m) 2016A 2017F 2018F 2019F Revenue 1,552 1,658 1,700 1,773 EBITDA Pre-tax Profit Net Profit Net Pft (Pre Ex.) Net Pft Gth (Pre-ex) (%) (31.8) EPS (sen) EPS Pre Ex. (sen) EPS Gth Pre Ex (%) (32) Diluted EPS (sen) Net DPS (sen) BV Per Share (sen) PE (X) PE Pre Ex. (X) P/Cash Flow (X) EV/EBITDA (X) Net Div Yield (%) P/Book Value (X) Net Debt/Equity (X) CASH CASH CASH CASH ROAE (%) Earnings Rev (%): Consensus EPS (sen): Other Broker Recs: B: 4 S: 0 H: 2 Source of all data on this page: Company, AllianceDBS, Bloomberg Finance L.P Potential catalyst. Sooner-than-expected contribution from Pan Borneo and renewal for road maintenance concessions. We assume the revenue recognition from Pan Borneo to come in progressively starting FY18 onwards as it is still in early stages of development. As for road maintenance concessions, we expect the announcement of a renewal within next 1-2 months. Valuation: After adjusting our earnings and rolling over SOP-based target price to end-fy18, we raised our TP to RM4.40. Our RM4.40 TP implies 19.2x FY18F PE and 1.9x P/B. Key Risks to Our View: Raw material costs. Fluctuations in raw material costs (i.e. coal, steel) will impact margins for the cement and building material divisions. Forex will also play a role as some of the raw material purchases are transacted in USD (such as coal and imported clinker). At A Glance Issued Capital (m shrs) 1,074 Mkt. Cap (RMm/US$m) 3,814 / 930 Major Shareholders (%) Majaharta S/B 12.5 Employees Provident Fund 12.2 Lejla Taib 10.3 Free Float (%) m Avg. Daily Val (US$m) 0.54 ICB Industry : Industrials / Construction & Materials Refer to important disclosures at the end of this report ed: JS / sa:bc

2 WHAT S NEW Turnaround in OM Sarawak Within our estimate, but below consensus. CMS reported net profit of RM62m in 3QFY17 (3QFY16: RM58.7m), which brings 9MFY17 earnings to RM149m - 70% of our full year forecast and 64% of consensus. We expect 4QFY17 earnings to be roughly similar on the back of earnings delivery from OM Sarawak and possibility of ad-hoc maintenance projects. Thus, CMS should meet our full year projections. After the completion of in-house modification of 6 SiMn, the production volume for SiMn also increased significantly (+108% q-o-q) with 6 furnaces having achieved its design capacity of 100 tonnes per furnace per day. EXHIBIT 1: OM Sarawak s commercial operation Cement division. Despite benefiting from lower handling costs and cheaper imported clinker, the PBT for this division 3Q17 was flattish at RM35m. Earnings was dragged by concrete business - which recorded a 93% y-o-y plunge in PBT. This was mainly due to higher raw materials cost (mainly iron related products), lower sales volume and competitive pricing. Construction materials and trading division. As expected, earnings from this division continues to pick up after a relatively weak 1HFY17. 3QFY17 PBT was up by 8% q-o-q to RM22.6m (2QFY17:RM21m), thanks to increased demand from Pan Borneo project as well as Jabatan Kerja Raya (JKR) works. Flat performance for road maintenance division. Revenue improved 11% y-o-y, mainly attributed to additional road maintenance works and minimal contribution from Pan Borneo construction. However, as these additional road maintenance works carried a smaller margin, 3QFY17 PBT was flattish at RM19m. OM Sarawak finally profitable Share of results from associates and JV jumped by 80% y-o-y, 341% q-o-q to RM25.4m in 3Q17. On top of steady contribution from Sacofa, the strong earnings growth from associates and JV is largely due to the improved performance by OM Sarawak, which recorded its maiden quarterly profit in 3Q17. Source: OM Holdings Ltd Upturn in price. According to Platts articles, FeSi price has risen to c.usd1,500 in Sep from c.usd1,000 in the same period last year (2QFY17: c.usd.1,100), which in line with the uptrend in steel and commodity prices. Higher prices coupled with increase in sales volume should translate to better earnings for OM Sarawak. Raised earnings by 3% and 6% for FY18-FY19F Given OM Sarawak s increase in production, fully operational furnaces as well as higher price for FeSi, we raised our earnings by 3-6% for FY18-FY19F.. Upgrade to BUY. After adjusting our earnings and rolling over SOP-based target price to end-fy18, we raised our TP to RM4.40. We also upgrade our call from Hold to BUY as valuation has turned attractive after the share price decline over the past 2 months Strong volume production at OM Sarawak. For the Sep quarter performance report released by OM Holdings, a total of 14 out of16 furnaces were in operation - 8 out of 10 furnaces for ferrosilicon (FeSi) while remaining 6 furnaces were for manganese alloy (SiMn). Production of FeSi increased 35.8% y- o-y (+3% q-o-q) with an average daily production output of 61 tonnes per furnace per day, which is above its design capacity of 55 tonnes per furnace per day. Page 2

3 Quarterly / Interim Income Statement (RMm) FY Dec 3Q2016 2Q2017 3Q2017 % chg yoy % chg qoq Revenue (2.3) (10.4) Cost of Goods Sold (268) (284) (257) (4.3) (9.5) Gross Profit (12.8) Other Oper. (Exp)/Inc (4.4) (8.1) (13.2) Operating Profit (6.5) (19.1) Other Non Opg (Exp)/Inc (2.7) (4.8) (7.4) (174.3) 52.2 Associates & JV Inc Net Interest (Exp)/Inc (0.3) (0.6) (0.6) (127.9) (1.2) Exceptional Gain/(Loss) nm nm Pre-tax Profit (1.4) Tax (23.2) (22.0) (25.9) Minority Interest (12.9) (10.1) (7.6) 40.8 (24.9) Net Profit (4.2) Net profit bef Except (4.2) EBITDA Margins (%) Gross Margins Opg Profit Margins Net Profit Margins Source of all data: Company, AllianceDBS SOP-based valuation for CMS Business division Valuation Effective Multiple Valuation Per CMS Description Method stake (x) (RM m) share Cement P/E 100% , x FY18 P/E Construction materials P/E 51% x FY18 P/E Road maintenance P/E 100% x FY18 P/E Property RNAV 65% % discount to estimated market value, less MI OM Sarawak P/E 25% x FY18P/E Sacofa P/E 50% x FY18P/E Total value 3, % stake in K&N Kenanga % stake in KKB Engineering Net cash / (net debt) Investment securities End-FY18 forecast SOP-based TP 4.40 Implied 19.2x FY18 PE and 1.9x P/B Sources: AliianceDBS Page 3

4 CRITICAL DATA POINTS TO WATCH Cement revenue Critical Factors Natural monopoly in Sarawak s cement market. CMS owns the only three cement manufacturing plants in Sarawak with a combined annual capacity of 2.75m MT. Capacity utilisation is now at c.60% after completion of 1.0m MT cement plant in early CMS is now well positioned to leverage on increased construction activities in the state. Construction materials business supported by Pan Borneo Highway project. CMS is also involved in the manufacturing and trading of other building materials in Sarawak, including concrete products, quarries, premix, and wire mesh (which complements its other divisions). After an exceptionally strong FY14-15, sales normalised in 2016 but we expect the performance of this division to pick up again in FY18-19 supported by: 1) an increase in infrastructure spending by the government ahead of the next general election - due to be called in 2018; and 2) on-going demand from the massive RM27bn Pan Borneo Highway project. Awaiting renewal of road maintenance concessions. For the last 15 years, this division was involved in road maintenance works across Sarawak, principally through CMS Roads Sdn Bhd and 51%-owned PPES Works (Sarawak) Sdn Bhd. The former maintains approximately 5,500 km of state roads, and the latter about 200km of federal roads. However, these concessions will expire in Given its proven track record and investments made over the years in plants and machinery, there is a strong chance that these concessions will be renewed/extended. 25%-associate OM Sarawak owns a greenfield ferrosilicon (FeSi) and manganese alloy (SiMn) smelter in Samalaju, Sarawak. The remaining 75% stake is held by OM Holdings Ltd, an Australianlisted vertically-integrated miner, smelter and trader of manganese and other ores/alloys. Phase 1has a total of 16 units of furnaces, of which 10 units are allocated for the production of FeSi while remaining 6 units allocated for the production of manganese alloy. Due to weak ferrosilicon prices previously, the company has converted six of its furnaces to produce manganese alloy, which is seeing better demand and it is planning to convert two more in To strengthen its financial position, CMS has also subscribed to RM110m convertible preference shares (CPS) issued by OM Sarawak in Cement production (MT) Construction materials (y-o-y growth( Road maintenance (y-o-y growth) Source: Company, AllianceDBS Page 4

5 Jun-14 Sep-14 Dec-14 Mar-15 Jun-15 Sep-15 Dec-15 Mar-16 Jun-16 Sep-16 Dec-16 Mar-17 Jun-17 Sep-17 Jul-14 Sep-14 Nov-14 Jan-15 Mar-15 May-15 Jul-15 Sep-15 Nov-15 Jan-16 Mar-16 May-16 Jul-16 Sep-16 Nov-16 Jan-17 Mar-17 May-17 Jul-17 Sep-17 Company Guide Graph 1: CMS share price movement relative to FBM KLCI index movement (m-o-m) 15% 10% 5% 0% -5% -10% -15% -20% -25% Acquisition of 50%-stake in Sacofa CMS (LHS) CMS hiked its cement prices by 4.6% KLCI (RHS) Awarded RM1.36bn Pan Borneo Project Heavy selldown by some of major shareholders 6% 4% 2% 0% -2% -4% -6% -8% -10% Source: Company, Bloomberg L.P., AllianceDBS CMS share price vs top 3 divisions sales CMS (LHS) Agg. Top 3 Div (RHS) Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16 3Q16 4Q16 1Q17 2Q Remarks Cement, construction materials and road maintenance are main contributors to the group s earnings (c.80-90%) with correlation of 0.6. We expect these segments to reap benefits from Pan Borneo project as well as other infrastructure spending from state and federal governments. Source: Bloomberg L.P., AllianceDBS CMS share price vs consensus EPS forecasts RM CMS MK (LHS) CMS Fwd EPS (RHS) RM Remarks CMS share price performance has strong correlation to market expectations for its forward earnings (correlation of 0.7). Apart from performance of core divisions, its associates such as Sacofa and OM Sarawak do play an important role in driving its earnings. Source: Bloomberg L.P., AllianceDBS Page 5

6 Balance Sheet: Remains in net cash position. As at end-dec 2016, CMS balance sheet remains strong with a small net cash position. In May this year, it issued a RM500m sukuk which pushed it gross gearing to 0.3. Gross gearing level should hover around this level as we think it should have enough cash at its disposal and we also do not see CMS venturing into new businesses after the acquisition of 50%-stake in Sacofa. Stable capex in FY Normal annual capex for CMS is roughly around RM80m. However, RM150m was spent equally over two years in FY14-15 for the construction of CMS s new cement grinding plant. As CMS is looking to expand its capacity for the construction materials and trading division, we assume capex for FY18 and FY19 should be around RM120m p.a. Share Price Drivers: Further development activities in Sarawak. CMS three core divisions are largely tied to infrastructure development activities in Sarawak. Among others, the Samalaju Industrial Park for energy-intensive industries and the construction of hydropower electric dams have been the focus for the state government under the SCORE (Sarawak Corridor of Renewable Energy) initiatives. Leverage & Asset Turnover (x) Capital Expenditure ROE (%) Demand from Pan Borneo Highway project. All 11 works packages under Phase 1 have been launched and actual construction works have started in The project is now on track and CMS is expected to benefit from its status as one of the major suppliers of building materials in Sarawak. Key Risks: Raw material costs. Fluctuations in raw material costs (i.e. coal, steel) will impact margins at the cement and building material division. Forex will also play a role as some raw materials are transacted in USD (such as coal and imported clinker). Forward PE Band (x) Fluctuations in ferroalloy prices. A decline in ferroalloy prices would reduce profit contribution from OM Sarawak and affect the production volume. Company Background CMS is the monopoly producer of cement in the state of Sarawak. It is also involved in the manufacturing of building materials, road maintenance, property, etc. PB Band (x) Source: Company, AllianceDBS Page 6

7 Key Assumptions FY Dec 2015A 2016A 2017F 2018F 2019F Cement revenue Cement production (MT) 1,575 1,731 1,766 1,819 1,910 Construction materials (y-o-y growth) 7.67 (17.7) Road maintenance (y-o-y growth) 22.0 (19.4) (4.9) (13.5) 1.37 Income Statement (RMm) FY Dec 2015A 2016A 2017F 2018F 2019F Revenue 1,788 1,552 1,658 1,700 1,773 Cost of Goods Sold (1,374) (1,193) (1,289) (1,317) (1,376) Gross Profit Other Opng (Exp)/Inc (72.0) (33.9) (60.2) (60.6) (60.9) Operating Profit Other Non Opg (Exp)/Inc Associates & JV Inc 45.9 (11.9) Net Interest (Exp)/Inc 0.94 (10.6) (14.2) (33.0) (33.0) Exceptional Gain/(Loss) Pre-tax Profit Tax (84.0) (84.8) (70.6) (69.6) (72.7) Minority Interest (56.5) (48.1) (46.2) (48.9) (50.4) Preference Dividend Net Profit Net Profit before Except EBITDA Growth Revenue Gth (%) 6.8 (13.2) EBITDA Gth (%) 18.7 (15.6) Opg Profit Gth (%) 9.6 (5.0) (5.0) Net Profit Gth (Pre-ex) (%) 20.5 (31.8) Margins & Ratio Gross Margins (%) Opg Profit Margin (%) Net Profit Margin (%) ROAE (%) ROA (%) ROCE (%) Div Payout Ratio (%) Net Interest Cover (x) NM Source: Company, AllianceDBS Demand from Pan Borneo starts to kick in Page 7

8 Quarterly / Interim Income Statement (RMm) FY Dec 3Q2016 4Q2016 1Q2017 2Q2017 3Q2017 Revenue Cost of Goods Sold (268) (327) (232) (284) (257) Gross Profit Other Oper. (Exp)/Inc (4.4) 1.57 (16.7) (8.1) (13.2) Operating Profit Other Non Opg (Exp)/Inc (2.7) (3.7) (4.5) (4.8) (7.4) Associates & JV Inc Net Interest (Exp)/Inc (0.3) (0.6) (0.6) Exceptional Gain/(Loss) Pre-tax Profit Tax (23.2) (26.3) (11.3) (22.0) (25.9) Minority Interest (12.9) (13.9) (4.6) (10.1) (7.6) Net Profit Net profit bef Except EBITDA Growth Revenue Gth (%) (10.7) 26.5 (37.3) 37.5 (10.4) EBITDA Gth (%) (68.1) Opg Profit Gth (%) (73.1) (19.1) Net Profit Gth (Pre-ex) (%) (77.7) (4.2) Margins Gross Margins (%) Opg Profit Margins (%) Net Profit Margins (%) OM Sarawak turned profitable Balance Sheet (RMm) FY Dec 2015A 2016A 2017F 2018F 2019F Net Fixed Assets 1, ,160 1,183 1,203 Invts in Associates & JVs ,015 1,093 Other LT Assets Cash & ST Invts ,057 1,155 1,263 Inventory Debtors Other Current Assets Total Assets 3,231 3,465 4,196 4,403 4,630 ST Debt Creditor Other Current Liab LT Debt Other LT Liabilities Shareholder s Equity 2,015 2,195 2,323 2,471 2,626 Minority Interests Total Cap. & Liab. 3,231 3,465 4,196 4,403 4,630 Non-Cash Wkg. Capital Net Cash/(Debt) Debtors Turn (avg days) Creditors Turn (avg days) Inventory Turn (avg days) Asset Turnover (x) Current Ratio (x) Quick Ratio (x) Net Debt/Equity (X) CASH CASH CASH CASH CASH Net Debt/Equity ex MI (X) CASH CASH CASH CASH CASH Capex to Debt (%) Z-Score (X) Source: Company, AllianceDBS Page 8

9 Cash Flow Statement (RMm) FY Dec 2015A 2016A 2017F 2018F 2019F Pre-Tax Profit Dep. & Amort Tax Paid (93.0) (83.4) (70.6) (69.6) (72.7) Assoc. & JV Inc/(loss) (45.9) 11.9 (36.6) (74.4) (78.2) Chg in Wkg.Cap. (299) (37.7) 100 (1.8) 1.19 Other Operating CF (42.9) (27.8) (190) Net Operating CF (37.7) Capital Exp.(net) (183) (56.2) (80.0) (120) (120) Other Invts.(net) Invts in Assoc. & JV (223) (177) Div from Assoc & JV Other Investing CF (81.0) Net Investing CF (456) (124) (80.0) (120) (120) Div Paid (91.0) (32.2) (85.6) (98.4) (103) Chg in Gross Debt Capital Issues Other Financing CF 46.2 (19.5) Net Financing CF (96.4) (101) Currency Adjustments Chg in Cash (480) Opg CFPS (sen) Free CFPS (sen) (20.6) Source: Company, AllianceDBS Target Price & Ratings History Source: AllianceDBS Analyst: Abdul Azim Muhthar Woo Kim TOH Page 9

10 DISCLOSURE Stock rating definitions STRONG BUY - > 20% total return over the next 3 months, with identifiable share price catalysts within this time frame BUY - > 15% total return over the next 12 months for small caps, >10% for large caps HOLD - -10% to +15% total return over the next 12 months for small caps, -10% to +10% for large caps FULLY VALUED - negative total return > -10% over the next 12 months SELL - negative total return of > -20% over the next 3 months, with identifiable catalysts within this time frame Commonly used abbreviations Adex = advertising expenditure EPS = earnings per share PBT = profit before tax bn = billion EV = enterprise value P/B = price / book ratio BV = book value FCF = free cash flow P/E = price / earnings ratio CF = cash flow FV = fair value PEG = P/E ratio to growth ratio CAGR = compounded annual growth rate FY = financial year q-o-q = quarter-on-quarter Capex = capital expenditure m = million RM = Ringgit CY = calendar year M-o-m = month-on-month ROA = return on assets Div yld = dividend yield NAV = net assets value ROE = return on equity DCF = discounted cash flow NM = not meaningful TP = target price DDM = dividend discount model NTA = net tangible assets trn = trillion DPS = dividend per share NR = not rated WACC = weighted average cost of capital EBIT = earnings before interest & tax p.a. = per annum y-o-y = year-on-year EBITDA = EBIT before depreciation and amortisation PAT = profit after tax YTD = year-to-date Page 10

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