Gamuda's MRT2 profit sacrifice preferable to contract termination, say analysts

KUALA LUMPUR (Oct 29): While the revised cost structure of the mass rapid transit Sungai Buloh-Serdang-Putrajaya Line (MRT2) project could result in only a marginal total earnings contribution, analysts believe Gamuda Bhd's sacrifice in its profit margin is still preferable to a contract termination.

In a note this morning, MIDF Amanah Investment Bank Bhd Research said the project's continuation seemed as a rational avenue for the group to manage the risk at hand.

"The hefty haircut arrived and offered by Gamuda-MMC (MMC-Gamuda KVMRT (T) Sdn Bhd, a joint venture between MMC Corp Bhd and Gamuda Bhd) means that total earnings contribution would probably be marginal once completed as a result of widening margin compression.

"Given the revision, we are expecting a conservative sum of RM49.2 million from the underground contract on top of Gamuda's annual profit estimate. This is taking into account the downside risks namely adjustment to margin and the extension of completion deadline," the research firm's analysts said in a note this morning.

MIDF raised the target price on the stock to RM2.89, from RM2.70 previously, with a maintained "buy" call.

Meanwhile, Affin Hwang Capital Research added that by remaining as a turnkey contractor the MRT2 project and settling the earlier disagreement with the new government amicably, Gamuda will retain its competitive advantage in future MRT projects in Malaysia, such as the MRT3.

"We gather that Gamuda's profit before tax (PBT) margin of 15% for the MRT2 underground contract will be reduced to about 5-6%. [But] we believe the sacrifice in profit margin is preferable to a termination of the contract.

"Assuming PBT margin of 5% for the remaining underground works, we lift our core earnings per share forecasts by 7-16% in FY19-21E (partially reversing our downgrade previously, which assumed the contract was terminated)," its research analyst Loong Chee Wei wrote in a note today.

Loong upgraded the stock to a "hold" from sell, following the sharp correction in its share price, with a higher target price of RM2.70 versus RM2.55 previously.

To recap, the Ministry of Finance had earlier rescinded its Oct 7 decision to terminate MMC-Gamuda's joint venture contract for the underground works portion of MRT2.

The decision came at the end of renegotiations between both sides on Oct 22, whereby the consortium agreed to a larger cost cut of 21.5% or RM3.6 billion, which is RM1.47 billion more than the reduction of RM2.13 billion previously offered.

At 9.57am, shares in Gamuda fell two sen or 0.81% to RM2.45, with a total of some 15 million shares traded, making the group one of the top ten active stocks thus far.

From its closing of RM3.21 on Oct 5, the stock has lost some 24% of its value. —

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