KNM Group - Residual 4QFY11 provisions as expected SELL

We maintain SELL on KNM Group with an unchanged fair value of RM0.75/share pegged to an FY12F PE of 10x – a 30% discount to the oil & gas sector’s 15x. 

We maintain FY12F-FY13F net profits for now with the expectations that KNM would start afresh on a clean slate next year on the back of new order accretions. Note that we are projecting an FY13F earnings decline of 9% due to the end of the recognition of the Borsig tax incentive. Hence, our FY12F-FY13F earnings are currently 22%-53% below consensus.

We introduce FY14F earnings with a growth of 30% largely due to a 5% increase in new order assumption and a 1ppt- improvement in fabrication margin.

KNM’s FY11 net profit loss of RM83mil was not a surprise, coming in within our and street expectations. The residual provisions for the group’s projects were largely expected following the group’s shocking 3QFY11 net loss of RM116mil.

OoQ, KNM’s 4QFY11 pre-tax loss plunged to RM11mil from RM145mil in 3QFY11, which had provisions that included RM80mil for cost overruns on various projects in Asia and Oceania and RM50mil for doubtful debt write-offs. We understand that KNM was still in the red due to additional provisions of RM30mil in 4QFY11.

KNM has recently entered into an option agreement to acquire a 55-acre vacant land for the RM2.2bil Peterborough Renewable Energy Ltd (PREL) project. With the land ownership, we understand that KNM could possibly end up with an 80% stake (with the balance held by UK-based sponsors) in this waste-to-energy concession if the group could secure external borrowings. This may be a negative development as this huge project will likely elevate the group’s current net gearing level of 0.5x to 0.9x, unless other investors dilute KNM’s equity stake to an associate level. 

KNM’s current order book stands at RM5.8bil, with new orders secured up to RM1.8bil for this year and tendering up to RM18bil potential orders. But as the order book includes (1) the RM2.2bil Peterborough Renewable Energy Ltd (PREL) project, (2) RM908mil Lukoil contracts in Uzbekistan, and (3) the recently awarded US$200mil (RM638mil) waste-to-energy Sri Lankan EPCC job from Octagon Consolidated, we note that over half of the group’s order book does not have clear visibility in commencement.

Normalising tax rates, KNM currently trades at a pricey FY12F PE of 30x, way above the oil & gas sector’s. This is unjustified given KNM’s persistently poor quarterly earnings delivery.

Source: AmeSecurities