Wah Seong Corporation - Low-margin jobs dent earnings HOLD

- We maintain our HOLD recommendation for Wah Seong Corporation, with a lower sum-of-parts-based fair value of RM1.57/share (vs. an earlier RM1.81/share), which implies a rolled-forward FY13F PE of 14x – a 15% discount to the oil & gas sector’s 17x.

- We have cut Wah Seong’s FY13F-FY14F earnings by 13%-22% on lower order replenishment and margin assumptions. We also introduce an FY15F net profit with a 16% growth and an order book assumption of RM2.4bil(+10% YoY).

- The group’s FY12 net profit, which was halved YoY to RM53mil, was below expectations, coming in at 24% below our forecast and 17% below of street estimate’s RM63mil. Wah Seong declared a final dividend of 4 sen, raising FY12 DPS by 1 sen to 6 sen – within our expectations.

- Wah Seong’s 4QFY12 net profit fell 45% QoQ to RM5mil due to:- (1) low margin pipe-coating jobs – APLNG and domestic projects, (2) cost overruns for Singaporean project involving an engineering process module, (3) RM5mil in inventory write-downs and impairment of receivables, and (4) RM4mil associate loss contribution from the group’s 27% stake in Petra Energy, which was acquired in September last year.

- The recent US$198mil (RM611mil) Polarled contract has caused the group’s order book to rise 50% QoQ to RM1.5bil currently (See Chart 1) – which represents only 0.7x our FY13F revenue. Hence, the group will need to reaccelerate its order replenishment to meet market expectations.

- We understand that the group is currently bidding for more tenders, around RM4bil with some domestic projects such as the North Malay basin likely to be awarded soon. But the large Polarled contract will only begin to contribute to the group’s earnings by 3QFY13 while any fresh highmargin contracts may only be awarded in the next few months. We also do not expect the 470,000ha Congo plantation to generate significant earnings contributions from log sales. As such, there is a likelihood that lowmargin pipe-coating jobs will continue to depress Wah Seong’s 1HFY13 results.

- A silver lining would be stronger newsflow from Petra Energy’s participation in the small-field risk-sharing contract with Coastal Energy for the Kapal, Banang and Meranti fields. But this is offset by the absence of significant synergies between Petra Energy and Wah Seong’s operations at this stage.

- The stock currently trades at a fair FY13F diluted PE of 16x vs. the sector’s 17x. Uncertainties over the group’s 470,000ha oil palm plantation investment in the Republic of Congo could continue to cap interest in the near term.

Source: AmeSecurities