This article first appeared in The Edge Financial Daily, on April 21, 2016.

Hock Seng Lee Bhd
(April 20, RM1.93)
Upgrade to buy call with an unchanged target price (TP) of RM2.19. We believe that Hock Seng Lee Bhd’s (HSL) recent share price weakness presents a compelling risk-reward opportunity. 

In our opinion, upside factors, namely healthy order book level and net margin profile outweigh the downside risks such as uncertainty over the upcoming state election. 

In addition, HSL’s current price level is attractive as Sarawak is poised to benefit from more infrastructural largesse post-April state election, and consequently, HSL will stand to benefit from the implementation of the 11th Malaysia Plan (11MP), especially in road works maintenance. Roads in Mukah, Balingian and Kuching, for example, were badly damaged during the 2015 floods and is in dire need of repair. 

Under 11MP’s Sarawak development budget, the Ministry of Rural and Regional Development (MRRD) is allocated RM15 billion out of the total RM49.5 billion. 

Hence, we surmised that the inflow of projects for HSL will continue especially in road maintenance and building construction. 

Note that the state government maintains 20,500km of roads in Sarawak, while the federal government maintains 9,500km with an annual budget of RM500 million. 

HSL’s unbilled order book swelled to an all-time high of RM3.05 billion. This provides ample earnings visibility for six years. Coupled with a stable 10-year average net margin of 14.1%, we believe that HSL’s fundamental is sturdy, reducing its key risk factors in relation to execution and cost overrun.

We upgrade our recommendation from “neutral” to “buy” pursuant to the recent price weakness with an unchanged TP of RM2.19 per share based on the discounted cash flow method (weighted average cost of capital: 9%). — MIDF Research, April 20