More on Indah Water Konsortium

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Water Sector Maintain neutral: The Edge shed more light over the weekend on a proposal by 1Malaysia Development Bhd (1MDB) to take over and manage Indah Water Konsortium Sdn Bhd (IWK) together with Puncak Niaga Holdings.
We understand that 1MDB is in the process of assessing the partial privatisation of IWK in which the federal government would retain control. 1MDB is a unit of the Ministry of Finance (MoF).
We had written previously that the 1MDB-led partnership had apparently sought to acquire the assets and liabilities of IWK for a nominal value of RM1. In return, it would request a 60-year concession to operate and manage IWK facilities within most parts of Peninsular Malaysia. The debts worth over RM1 billion still owing to MoF would be repaid over the long term.
The Edge report added that Puncak executive chairman Tan Sri Rozali Ismail has confirmed the group is in talks with 1MDB on the possible takeover of IWK. However, Puncak endeavours to lend its technical expertise and not take up a majority stake.
In addition, the proposal may involve a RM2 billion allocation by the federal government for the 1MDB-led consortium to upgrade and build new sewerage services over the next few years.
Theoretically, we believe Puncak could be seen as a strategic fit to 1MDB’s reported plans to take over IWK. Puncak is involved in both upstream and downstream water operations — the latter through 70%-owned Syarikat Bekalan Air Selangor (Syabas). Hence, a merger between water and waste water operations that leverages Puncak’s expertise and wide network could make commercial sense.
But we remain unmoved for now because:
(i) the proposal is still in the initial stages — we are unsure of its exact structure and form against an evolving political backdrop;

(ii) IWK is still loss-making and received RM150 million in subsidies from the federal government in 2010;
(iii) tariffs remain a sticky issue. Since IWK commenced operations, the group has endured three rounds of tariff reductions which resulted in an estimated revenue loss of  about RM1 billion as at 2009; and (iv) we are unsure if the proposal would eventually pave the way for a joint billing system between water and sewerage services. At the moment, IWK bills are charged separately from water bills within Peninsular Malaysia.
We maintain our “neutral” weighting on the water sector. Similarly, Puncak (Fair value: RM1.60 per share) and Kumpulan Perangsang Selangor (FV: RM1.21) are retained as “hold”. — AmResearch, Sept 19