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MRCB (OSK Research) maintain neutral; target price RM2.30

Bigger, But Will it be Better?

Yesterday MRCB and IJM Land (IJML) signed a memorandum of understanding (MOU) on the two companies’ proposed merger, which will effectively give rise to the country’s second largest property player. Although generally positive on the move, we maintain our NEUTRAL recommendation at this juncture on the basis that the full details on the proposed merger have yet to be finalized, and the fact that the offer price of RM2.30 for MRCB only represents a premium of about 7% over its last closing price. Our TP has been raised from RM2.05 to RM2.30 to reflect the proposed offer price. Nevertheless we do not rule out the possibility of MRCB’s share price overshooting the offer price over the short term, driven by the excitement over the proposed merger.

Creating a giant with ~RM6.5bn in RNAV. Based on our RNAV of RM2.2bn for MRCB and consensus RNAV of RM4.2bn for IJML, the merged entity will have a combined RNAV of about RM6.5bn, which will make it one of the leading listed property development companies in Malaysia with a significantly larger landbank and enlarged geographical presence. The merged group is expected to have a combined landbank of over 9,000 acres and a presence in the Klang Valley, Penang, Johor, Perak, Negeri Sembilan, Sabah and Sarawak. It is also estimated to have net book value in excess of RM3bn.

Fair offer price but not that attractive. Although there has been no decision on whether the proposed merger will be satisfied via a pure share swap for shares in the newco or a combination of shares in the newco and cash, the exchange or offer price for each MRCB and IJML share has been fixed at RM2.30 and RM3.65 respectively. The RM2.30 offer price for MRCB offers only a 7% and 12.2% upside from the last closing price and our previous fair value respectively. As such, we view the offer price as somewhat fair, and yet not that attractive, owing to the rather limited premium or upside.

Maintain NEUTRAL. As the offer price represents limited upside from the last closing price and the fact that the details of the proposed merger have yet to be finalized, we advise investors to hold on to the stock pending the finalization of the finer details. As such, we maintain our NEUTRAL recommendation although we are raising our TP for MRCB from RM2.05 to RM2.30 to reflect the offer price. Nevertheless, we do not rule out the possibility of MRCB’s share price overshooting the offer price over the short term driven by the excitement stirred up by the proposed merger.

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KEY HIGHLIGHTS

Details of the proposed merger. Under the proposed merger, a newly incorporated company (newco) will be established. The proposal will involve a share swap of MRCB and IJML shares with new shares in the newco. The company’s announcement said the parties involved have yet to decide whether the proposed merger would entail a pure share swap or a combination of both share swap and cash. Nevertheless, the exchange or offer price has been set at RM2.30 per MRCB share and RM3.65 per IJML share. Both parties are expected to enter into a definitive merger agreement within 3 weeks from the date of the MOU. Upon completion of the proposed merger, the newco will take over the listing status of MRCB and IJML.

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Background on IJM Land. IJM Land was incorporated in Malaysia as a private limited company on 29 Sept 1989 under the name of Econstates SB. On 28 Sept 1990, it was converted into a public company and assumed the name Econstates Berhad. On 19 March 2004, its name was changed to RB Land Holdings and subsequently changed it to the present name on 19 June 2008. IJM Land was listed on the Main Board (now known as Main Market) of Bursa Securities on 19 Dec 1991. The principal activity of IJM Land and its subsidiaries are property development, construction, hotel operations and investment holding. As at 30 Sept 2010, IJM Land had an authorized share capital of RM2bn comprising 2bn shares of RM1 each, of which 1.108bn shares have been issued and credited as fully paid-up. IJM Land also has 222.560m Warrants 2008/2013 and RM400m nominal value of 10-year 3% coupon redeemable convertible unsecured loan stocks (RCULS) outstanding as at 30 Sept 2010. IJM Corp is the largest shareholder in IJML with a 62.48% stake, followed by EPF at 8.26%.

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Instrumented by EPF? With EPF as the common and significant shareholder in IJM Corp, IJM Land and MRCB, we believe the proposed merger may have been initiated by EPF as part of its efforts to consolidate its property exposure as well as to establish its own sizeable property arm. This, we believe, will enhance EPF’s capability to achieve its goal of increasing its exposure in the property market as part of its investment diversification strategy. With the Government announcing that EPF is to undertake the development of the prized Rubber Research Institute (RRIM) land in Sungai Buloh, we believe the merged entity may be the frontrunner to undertake the development on behalf of the fund.

OUR VIEW

Post merger. We gather that over the long run the merged entity will be a pure property player, which means that it is likely for MRCB to dispose of its non-property divisions upon completion of the merger. Assuming the proposed merger is completed in 2011, based on our revenue and net profit forecasts for MRCB for FY11 and CY11 consensus forecast for IJML, the merged entity is expected to achieve RM2.6bn in revenue and RM451m in PBT for CY11, assuming zero synergy in the first year of merger. With the number of the new shares to be issued by the newco and the conversion ratio yet to be determined, we are unable to determine the exact stakes in the newco that the existing shareholders of both companies would end up with. Nevertheless, both IJM Corp and EPF will emerge as the two largest shareholders of the merged entity, with the latter controlling more than a 50% stake in the merged entity. Both MRCB and IJML have yet to finalize the management structure of the merged entity.

Synergistic merger. We view the proposed merger as a merger between two synergistic and complementary property businesses given the different strengths of MRCB and IJML in the property market segments. Presently, the property development activities of MRCB are mostly in the commercial sector and are heavily concentrated in the Klang Valley, with its flagship project, KL Sentral commanding a GDV of over RM12bn, whereas IJM Land’s strength lies in its township and residential developments in the Klang Valley, Penang, Johor, Negeri Sembilan, Sabah and Sarawak. The proposed merger will also provide an opportunity for the merged entity to pool together the skills, experience, competencies and in-depth knowledge of the managements of MRCB and IJM Land respectively. This in turn will allow the merged entity to benefit from better project management, which is expected to give rise to improved operational efficiency and economies of scale. By leveraging on each other’s core competency over time, the value of the merged entity could be further enhanced via the adoption of best practices from both MRCB and IJM Land.

Giving birth of a giant with ~RM6.5bn RNAV. Based on our RNAV of RM2.2bn for MRCB and consensus RNAV of RM4.2bn for IJML, the merged entity will have a combined RNAV of almost RM6.5bn, making it one of the leading listed property development companies in Malaysia with a significantly larger landbank and enlarged geographical presence. The merged group is expected to boast of a combined landbank of over 9,000 acres and a presence in the Klang Valley, Penang, Johor, Perak, Negeri Sembilan, Sabah and Sarawak. We believe the merged entity will also be well-placed to pursue strategies that will propel growth on the back of combined net assets in exceeding RM3bn. Given the
significant increase in size, the merged group would be able to exert its leadership in the commercial and residential segments of the property market and also be more competitive in the local and international markets.

Fair price but not that attractive. As mentioned earlier, although it is yet to be decided whether the proposed merger would be satisfied via pure share swap for shares in the newco or a combination of share in the newco and cash, the exchange or offer price for each MRCB and IJML share has been set at RM2.30 and RM3.65 respectively. The RM2.30 offer price for MRCB only represents a 7% and 12.2% upside from the last closing price and our previous fair value respectively. As such, we view the offer price as somewhat fair, yet not quite attractive due to the small premium and upside from the last closing price.

RECOMMENDATION

Maintain NEUTRAL. With the offer price offering a less than 7% upside from the last closing price coupled with the fact that the final details of the proposed merger have yet to be finalized, we advise investors to hold on the stock at this juncture pending finalization of the proposal. As such, we maintain our NEUTRAL recommendation. However, our TP for MRCB has been raised from RM2.05 to RM2.30 to reflect the offer price for the proposed merger. As shown in Figure 3 below, the offer price translates into 1.4x and 1.1x P/RNAV for MRCB and IJML respectively. As such, with its sector peers mostly trading at a discount to their RNAV, we believe the potential upside from the merged entity has been largely reflected or priced into the proposed offer price, which further supports our NEUTRAL recommendation at this
juncture. Nevertheless, we do not rule out the possibility of MRCB’s share price scaling above the offer price over a short term driven by excitement over the proposed merger.


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