This article first appeared in The Edge Financial Daily on September 26, 2019

Malakoff Corp Bhd
(Sept 25, 85 sen)
Maintain buy with a lower target price (TP) of 97 sen: While the Malaysia Electricity Supply Industry 2.0 (Mesi 2.0) could cap the award of new power purchase agreements (PPAs) in the near term, we expect the performance of the Tanjung Bin energy plant to improve after a 70-day scheduled outage in the second financial quarter ended June 30, 2019 (2QFY19).

Malakoff Corp Bhd’s further growth should be fuelled by the acquisition of Alam Flora and the doubling of its stake to 24% from 12% in the Shuaibah 3 Independent Water and Power Plant.

Under the recently approved Mesi 2.0, future PPAs will comprise capacity payments and exclude locked-in energy payments. This means that more efficient plants will be prioritised to lower electricity tariffs. Energy, Science, Technology, Environment and Climate Change Minister Yeo Bee Yin has also guided that future PPAs will have much shorter tenures (versus 21 years previously) and will be rolled out via capacity auctions by end-2023 at the earliest.

Meanwhile, independent power producers (IPPs) can source for coal and gas from third parties instead of getting the supply from Tenaga Nasional Bhd (“neutral”; TP: RM14.51), and cost savings can be shared between end-users and IPPs. This should encourage all IPPs, including Malakoff, to improve their efficiency.

All its PPAs will remain intact in the next few years, save for one of the four phases of its 40%-owned Kapar power plant, whose PPA had expired previously but extended until year end.

The Kapar power plant’s loss widened by 1.2 times to RM26.8 million for the first half of FY19 on higher scheduled outages and forced outages as a result of turbine rectification works.

We are positive on the acquisition of Alam Flora as it provides steady and recurring operating cash flows while allowing Malakoff to tap into the waste-to-energy business in the longer run.

The acquisition is expected to be completed by 1QFY20 and estimated to generate a net profit of about RM26 million per annum (10% of earnings estimated for FY20), factoring in a RM45 million amortisation cost and an additional RM28 million finance cost, assuming 60% debt financing. Note that we have yet to impute the acquisition into our forecasts.

Malakoff has entered into operating and maintaining renewable assets by securing a 21-year contract with a 29MWac large-scale photovoltaic power plant in Kota Tinggi, Johor.

While the earnings contribution could be small at this juncture, this could be a growth opportunity in line with the government’s target to increase renewable energy to 20% of Malaysia’s power generation mix, from the current 2%, by 2025.

Meanwhile, Malakoff is also bidding for 100MW of the Large Scale Solar Cycle 3 project, which is expected to be awarded by year end, as the commercial operation date is slated for 2021.

We cut our FY19 to FY21 earnings forecasts by 1.2% to 6.1%, factoring in higher losses from the Kapar power plant.

We reduce our sum-of-parts-derived TP to 97 sen from RM1 post earnings adjustment, with a potential 13 sen per share upside from the Alam Flora acquisition. Its FY20 dividend yield, estimated at 5%, still looks attractive. — RHB Research Institute, Sept 25