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MRCB (OSK Research) neutral; target price RM2.05

Malaysian Resources Corporation (MRCB)
Graceful Ascent


Buoyed by a stream of favorable news, MRCB’s share price has appreciated by 56.3% YTD, outperforming both the Construction Index and KLCI. Following the upward revision in our RNAV valuation, our TP for MRCB has been upgraded from RM1.80 to RM2.05. However, due to the limited upside to our higher TP, we are downgrading our call from Trading Buy to Neutral at a TP of RM2.05, based on SOP valuation. Nevertheless, we see the possibility of MRCB securing the development of the RRIM land as well major construction contracts such as the LRT extension providing the catalysts for a future upgrade in our recommendation.

Strong price rally. With a YTD gain of 56.3%, MRCB’s share price has significantly outperformed both the Construction Index and FBM KLCI, which have risen by around 13.1% and 14.8% YTD respectively. We believe the strong rally has been supported by favorable news, particularly those related to the development of the RRIM land, which the Government announced in March this year. With the development to be undertaken by a JV between EPF and the Government, MRCB is widely considered as the frontrunner to undertake the development on behalf of EPF, partly supported by the fact that the latter is the major shareholder of MRCB with a stake of about 41.78%.

Upward revision in our RNAV. We maintain our earnings forecasts for FY10 and FY11 but have made the following adjustments in our SOP valuation by: i) rolling over the construction earnings component in our SOP valuation from FY10 to FY11 at an unchanged 15x PER, ii) reducing its net debt position to RM548.9m (as at 30 Jun 2010 (1HFY10) from RM768.8m previously, and iii) enlarging its share base from 1361.4m to 1375.3m shares after adjusting for ESOS conversion. Following the adjustments, our TP is raised from RM1.80 to RM2.05.

Downgrade to NEUTRAL. Despite the upgrade in TP, the recent rally in MRCB’s share price has limited the stock’s upside to our current TP. As such, we are downgrading our recommendation from Trading Buy to Neutral at a TP of RM2.05 based on SOP valuation. Nevertheless, we believe that in the event MRCB secures the RRIM land development job as well as lands major construction contracts such as the LRT extension, these would be strong catalysts for a future upgrade in our call. Although the positive news flow and sentiment in the construction sector might continue in the run-up to the announcement of Budget 2011 in mid-Oct, we believe any disappointments arising from lower than expected government infrastructure expenditure might spark off a negative reaction to MRCB’s share price and the construction sector in general.

HIGHLIGHTS

Strong share price performance YTD. As illustrated in Figure 1 below, the YTD gain of 56.3% in MRCB’s share price has beaten the Construction Index (CI) and FBM KLCI’s YTD gains of 13.1% and 14.8% respectively. Although its share price had been generally on the uptrend since early this year, announcement that the development of RRIM land in March 2010 would be undertaken by a JV between EPF and the Government pushed up MRCB’s shares as it is widely considered as the frontrunner to undertake the development on behalf of EPF, largely supported by the fact that EPF is its major shareholder with a 41.78% stake, coupled with its having developed KL Sentral under the same
mechanism. After a temporary mid year correction in the share price as excitement over the RRIM land waned, MRCB’s share price has resumed on an uptrend in tandem with the spiraling FBM KLCI amid favorable news flow on the construction sector and also the Greater KL National Key Economic Area during the Economic Transformation Programme (ETP) Open Day recently.

Current orderbook. As at 30 June 2010 MRCB’s construction & engineering (E&C) outstanding orderbook stands at around RM2bn. As shown in Figure 2 below, of the total amount, about RM1.155bn, or 56.8%, are from the KL Sentral property construction orderbook, namely from Lot A and Lot G. YTD MRCB has secured two sizeable E&C contracts, namely for the upgrading of Sabah Medical Center and the construction Marlborough College in Iskandar region worth RM76m and RM108m respectively. Although the current and upcoming developments in KL Sentral will keep MRCB busy for the next few years, we believe MRCB still needs to pump up its overbook given that the company has not secured any new contracts for its environmental projects as well as power transmission network division.

Time to get aggressive. With the lack of funding from the Government for environmental projects and the scrapping of the Bakun Electricity Grid Transmission (BEGT) project, we believe that MRCB needs to get more aggressive in securing contracts for its E&C division. Nevertheless, we believe the potential boost in its E&C orderbook might come from the LRT extension project, for which MRCB has been shortlisted in the advanced round of tendering as one of the main contractors. As the recently secured construction contract to build Marlborough College marks MRCB’s maiden foray in Iskandar Development Region (IDR), we do not rule out the possibility of the company securing more contracts from IDR as projects in the development region pick up pace. Despite the scrapping of the BEGT project, MRCB still stands a good chance of securing power transmission projects in Sarawak, thanks to its track record and expertise.

Foray into property development in KL City Centre. After being largely focused on KL Sentral over the last two decades, MRCB is expected to make its debut in property developments in KL City Centre (KLCC) area soon. We gather that the company has identified several parcels of land for its proposed mixed development projects, with negotiations to acquire land being in the advanced stages and expected to be announced in the near future.

Upward revision in our RNAV SOP valuation. We maintain our earnings forecasts for FY10 and FY11 but have made the following adjustments to our SOP valuation; i) rolling over the construction earning component in our SOP valuation from FY10 to FY11 at an unchanged 15x PER, ii) reducing its net deb position to RM548.9m (as at 30 Jun 2010 (1HFY10) from RM768.8m previously, and iii) enlarging its shar base from 1361.4m to 1375.3m shares after adjusting for ESOS conversion. Following the adjustments, ou TP is raised from RM1.80 to RM2.05.


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