DRB-Hicom Bhd
(Feb 13, RM1.33)
Maintain add call with an unchanged target price of RM1.69: The Edge Malaysia weekly highlighted DRB-Hicom Bhd’s wholly owned subsidiary Proton Holdings as an attractive acquisition target, given that it has unrecognised deferred tax assets of RM7.9 billion, which makes the subsidiary an attractive acquisition target for foreign strategic partners (FSP) like China’s Geely Automobile Holdings and France’s PSA Group. It also said that the massive tax credits benefits would give Proton a long tax holiday once the company returned to profitability.

We think it important to note that the deferred tax assets are classified as “unrecognised”. According to Proton’s financial statements, this was because the availability of future taxable profits (for which the group can utilise the tax benefits) is uncertain.

In other words, the auditors did not expect Proton to become profitable in the near term. Proton only recognised deferred tax assets of RM20.2 million in its latest 2016 financial statement. 

The unrecognised deferred tax assets are divided into four components — RM3.4 billion for unutilised tax losses, RM2.3 billion for unabsorbed capital allowances, RM2.1 billion for unutilised reinvestment allowances and the remaining RM72 million for other temporary differences. Proton can use the unutilised tax losses immediately upon registering positive net profit.

We view the unrecognised deferred tax assets as a long-term positive for DRB-Hicom and Proton’s FSP, as they stand to benefit from the tax credits if and when Proton returns to profitability. However, we do not expect the tax credit benefits to be realised in the near term, as the FSP may not turn Proton profitable immediately, given the various operational challenges, competitive landscape and sluggish demand that the company faces currently.

We believe that finding the right FSP for Proton is still DRB-Hicom’s main priority, as it seeks to move forward with Proton’s recovery plan. DRB-Hicom’s management highlighted that there are three key criteria on which Proton’s potential FSP will be evaluated — strategic, operational and cultural fit. To recap, DRB-Hicom’s management expects to complete the selection in the first half of 2017 (1H17), in line with the target set by the government.

We maintain our “add” call on DRB-Hicom with an unchanged sum-of-parts-based target price of RM1.69 (a 10% discount to revalued net assets valuation). Our “add” call is supported by the imminent FSP for Proton and better performance in DRB-Hicom’s services division. Key downside risks are the lack of FSP for Proton and further deterioration in Proton’s earnings. — CIMB Research, Feb 13