This article first appeared in The Edge Financial Daily, on November 25, 2015.

Sarawak Cable Bhd
(Nov 24, RM1.73)
Maintain buy with a higher fair value of RM2.20: we maintain our “buy” call on Sarawak Cable Bhd (SCable) with a higher sum-of-parts-based fair value of RM2.20 per share (versus RM1.70 previously), as we tweak our valuation method to reflect contributions from its new Sumatra mini hydro plant. 

Our fair value is based on 10 times price-earnings ratio of forecast financial year ending Dec 31, 2016 (FY16F) earnings per share for its current operations and a discounted cash flow (DCF)-based valuation of its Sumatra plant (Kombih III), which has a 20-year power purchase agreement. 

After three years of construction, SCable’s 78%-owned mini hydro plant in Sumatra (11MW) is expected to be completed by January. The commercial operation date is slated for March. 

With a development cost of about RM70 million, the plant will provide a steady cash flow over the next 20 years. 

Recall that the average tariff for the plant was increased 75% from 778 rupiah (24 sen) per kWh initially to 1,364 rupiah per kWh now. 

The plant is expected to generate a profit before tax of about RM20 million per annum. 

Note that the project is being entirely funded by equity with an expected payback period of four years. 

We are positive on the new business venture as it provides steady recurring income to complement its existing businesses. 

To this end, the management is currently negotiating to develop another two mini hydro plants (10MW each) in Sumatra; the tariffs will be similar to Kombih III’s. 

We understand that the state government’s approval has been received and talks are currently ongoing with various federal government ministries. These will provide further upside in the long run. 

Applying a discount rate of 10% (over 20 years), we derive a DCF-based value of RM149 million from Kombih III. 

Contributions from the plant are now reflected in FY16F and FY17F earnings, which result in 9% and 13% increases respectively. 

Besides that, earnings will remain supported by its outstanding order book of RM1.5 billion (as at end-September). 

While third quarter ended Sept  30, 2015 (3QFY15) numbers (to be released on Friday) are expected to be muted due to foreign-exchange transaction losses, 4QFY15 earnings will be boosted by contributions from the Pengerang and 500kV jobs, as well as its higher-margin high-voltage cables. 

Note that only RM280 million (of RM620 million) has been recognised thus far for its 500kV backbone line job. 

Prospective jobs include 275kV underground cables in Pengerang (among three bidders), Tenaga Nasional Bhd’s (TNB) 500kV line package three and cable supply to TNB (about RM900 million per annum). 

Winners for the first two could be made known by year end. 

All in, we like SCable for its leading position as an integrated transmission line and power cable player in Malaysia — supported by  steady recurring income from its power plant. — AmResearch, Nov 24