This article first appeared in The Edge Financial Daily, on 30 November, 2015.

Kimlun Corp Bhd(Nov 27, RM1.33)Upgraded to buy call with a higher fair value of RM1.60: Our upgrade is premised on Kimlun Corp Bhd’s improving margins and strong position to secure packages in the upcoming Klang Valley Mass Rapid Transit Line 2 (KVMRT2) project. 

For the nine-month period ended Sept 30, 2015 (9MFY15), its earnings rose 40% to RM49 million on the back of a 12% dip in revenue. Notably, its pre-tax margin expanded to 8% versus 5% a year earlier. Excluding a RM10.77 million gain from land disposals a year earlier, core earnings rose 100%, which exceeded both our and market expectations. 

The main variance can be attributed to improving margins for both its construction and manufacturing divisions, which helped to mitigate the decline in revenue. The group profit before tax margin rose to 8% (versus 5.7% a year earlier).

The fall in revenue was due to the lower amount of construction jobs completed and lower sales of segmental box girders (SBGs). 

Nevertheless, the construction margins improved due to the execution of construction jobs that yielded higher margins, lower raw material prices and fuel prices. 

As for its manufacturing arm, the margin also improved on the back of an appreciating Singapore dollar (versus the ringgit) and the recognition of the tunnel lining segments (TLS) that yielded better margins.  All in, construction and manufacturing margins expanded by 2.4 percentage points (ppts) and 9.5ppts respectively to 8% and 26% for 9MFY15. 

Kimlun also benefited from a foreign-exchange gain of RM4.8 million, which helped to reduce its selling and administrative expenses by RM5 million. 

As at end-September, Kimlun’s outstanding construction and manufacturing order books stood at RM940 million and RM200 million respectively. Year to date, it has secured RM554 million worth of construction jobs — within our assumed replenishment rate of RM600 million. We assume a replenishment rate of RM650 million next year, as the group eyes the affordable housing segment. 

Tenders for the supply of SBG and TLS packages for KVMRT2 are expected to be called by year end. Kimlun should be a front runner in securing these contracts, given its experience in KVMRT1 and available capacity at its Senawang plant (about a 30% utilisation rate). We forecast Kimlun to secure RM250 million worth of KVMRT2 packages next year. 

After a lull in FY14, Kimlun looks attractive given its improving margins and good position to secure packages in KVMRT2. 

We deem our eight times price-earnings ratio target to be fair (versus its three-year mean of nine times) for a small- to mid-cap construction outfit. — AmResearch, Nov 27