KUALA LUMPUR: As the economic weather seems to be getting harsher amid uncertainties on the global front plus signs of weaker domestic growth, resilient earnings are getting vital.
Traditionally, toll road operators and power producers would come to mind when talking about resilient earnings. Wait a minute! Some of the ICT companies, which usually may not be investors’ cup of tea, could be the new breed of stocks that offers better earnings visibility, thanks to the government-outsourced contracts in hand.
These ICT companies derive revenue from government contracts, for instance, providing IT solutions for licence renewal or certain permit applications. To a certain extent, these companies are the dominant players in the respective IT solutions or services they provide. Their revenues are usually based on the number of applications or transactions processed.
At the initial stage, these companies’ earnings might be volatile, as they normally incur lumpy initial capital investment costs. Nonetheless, as soon as they have secured the contract and once the IT systems are up and running, a steady stream of profits would start flowing in. A good example is probably MY E.G. Services Bhd. And when the transaction volume picks up and the initial costs are paid off, profit margins will widen.
“There are two things to keep in mind when considering such ICT stocks as investments. First, investors must check to identify how the net margins are like for these companies.”
“Secondly, they need to assess and determine the changes of these companies clinching another contract replacement after the current one has concluded,” said Areca Capital chief executive officer Danny Wong.
Some analysts, however, caution that it might be over simplified to compare ICT companies to concessionaires, like toll road operators and independent power producers, simply because the tenure of the government outsourcing ICT contracts tend to be shorter compared to toll road and power purchase agreements.
Hence, there are risks of the contract not being renewed. Furthermore, those contracts may be exposed to higher political risks.
The following comprises some of the ICT companies that have government contracts in hand helping to churn out revenue:
My E.G. Services Bhd
One IT counter which could be in a sweet spot is My E.G. Services Bhd (MYEG). The company functions as a one-stop service portal to link Malaysians with commonly encountered government agencies, capitalising on the modern day’s desire for convenience. Their services range from road tax renewals, insurance renewals to even paying summonses.
But in recent times, the company has managed to secure various contracts like foreign worker renewal permit. MYEG charges a fee of RM35 on the government for each foreign worker renewal permit processed.
It was also awarded with a six-month contract by the Immigration Department to register illegal foreign workers during the contract period which started from Sept 4. MYEG added that fees earned under this contract will depend on how many workers it registers. The company did not give the potential amount of fees it could derive from this contract.
The increase in foreign worker renewal permit transactions and insurance has boosted MYEG’s net profits for the fourth quarter ended June 30, 2015. Its net profits gained 78% to RM29.65 million from RM16.63 million a year ago. Revenue grew 27% to RM45.06 million from RM35.37 million previously. It is worth noting that MYEG’s net margins have been in the 40% range since 2012.
Both CIMB Research and Macquarie Equities Research have “buy” calls on the stock. Last Friday, the stock closed at RM2.85, implying that it has more than 13% upside potential according to Macquarie’s target price of RM3.17. CIMB’s target price is RM3.92.
Scicom (MSC) Bhd
Scicom (MSC) Bhd, which was once purely a call centre business has now diversified into education, government services and e-commerce segments.
But what could pique investor interest is its contract to process foreign student visa applications from the Ministry of Education awarded in 2013.
The contract awarded entitles Scicom, that puts up the investment expenditure, to a percentage of fees collected by the ministry for every new visa application and renewal.
The ministry charges RM1,000 for each new visa application and RM140 for a renewal.
Its net profits for the fourth quarter ended June 30, 2015 jumped 60% to RM10.59 million from RM6.59 million a year ago. Revenue expanded marginally to RM48.13 million from RM44.7 million previously.
For the financial year ended June 30, 2015, its revenue grew to RM176.83 million from RM160.14 million in the previous financial year. Net profits leapt 49.5% to RM34.69 million from RM23.2 million previously. Its net margins widened to 19.6% in 2015 from 14.5% in 2014.
Scicom’s share price has been rebounding since mid-August but has yet to reach its high of RM2.29 achieved in April this year. Based on last Friday’s closing of RM1.88, the stock is trading at a forward price-earnings ratio (PER) of 17.09 times.
Censof Holdings Bhd/Dagang NeXchange Bhd
Censof Holdings Bhd (Censof) is a global player through its subsidiaries with presence in Indonesia, the United Arab Emirates, Myanmar, Australia and the Philippines. The company has five main revenue streams — financial management software solutions, IT infrastructure solutions, payment gateway systems, wealth management and training solutions.
The company has bagged several government-related contracts over the last year, one of which was a RM2.8 million contract with Talent Corp Malaysia Bhd to train participants in the ICT sector through its subsidiary Knowledgecom Corp Sdn Bhd.
Censof was also awarded a RM3.5 million renewable contract with the Inland Revenue Board to maintain its accounting system through subsidiary Century Software Sdn Bhd.
But the icing on the cake for Censof is its 39% stake in Dagang NeXchange Bhd (DNex), which was contracted by the government in 2009 to implement the National Single Window — electronic trade facilitation services.
The facility offers exporters, importers, port operators, shipping agents and freight forwarders to clear goods and pay duties electronically with the Royal Malaysian Customs Department and the Ministry of International Trade and Industry.
The portal charges government agencies 75 sen per kilobyte and private users 85 sen per kilobyte for its services.
DNex’s subsidiary, Dagang Net Technologies Sdn Bhd, is providing the service. Its contract with the government for the NSW trade facilitation service was extended last September for another two years.
The contribution of DNex to Censof’s business is significant, as it is the largest contributing division of the group. Censof’s segmental reporting for the first quarter ended June 30, 2015 showed that DNex’s revenue contribution for the NSW totalled RM22.61 million, way ahead of its other business segments while profits before tax came up to RM7.8 million.
Its second largest segment, financial management solutions only raked in revenue of RM9.09 million for the first quarter and profits of RM286,000.
Censof’s share price closed at 27 sen last Friday, up 1.5 sen. Meanwhile, DNex’s share price closed at 24 sen, up 0.5 sen.
Datasonic Group Bhd
But not all beneficiaries of government contracts are able to churn out steady earnings all the time.
Datasonic Group Bhd is probably one of them. Its earnings have been volatile. The company has contracts to supply new polycarbonate MyKads to the National Registration Department (NRD) and to supply polycarbonate datapage of passports also from the Immigration Department.
Datasonic’s net profit halved to RM12.35 million for the first financial quarter ended June 30, 2015, against RM27.7 million. Revenue contracted to RM54.36 million during the quarter from RM71.5 million. The earnings contraction was mainly because its earnings are lumpy and dependent on the number of MyKad and passport orders required for a particular quarter from the NRD and the Immigration Department.
Nevertheless, its net margins look decent, at around 25% for its financial year ended March 31, 2015. Datasonic’s forward PER is at 21.4 times.
Datasonic was contracted to supply 10 million raw myKad and consumables, valued at RM220.2 million, to the NRD which will end on May 30 next year while its contract with the Immigration Department to supply 10 million passport data pages for RM284.7 million ends on Feb 28, 2018.
The company seems to have fallen off the radar of investors in recent times. The share price has sunk to RM1.20 last Friday, which pales in comparison to its better days when the share price went up to a high of RM2.40 in April 2014.
Since securing the contracts from the NRD and the Immigration Department, Datasonic has not wowed investors further with new substantial contracts.
Datasonic was once considered a frontrunner for the contract to implement the fuel subsidy scheme via MyKad, but since the price of crude oil has fallen drastically, the project has been put on the backburner.
Prestariang Bhd
Prestariang Bhd which is principally involved in the ICT training and certifications and distributes software licences but is categorised under the trading and services sector, has seen profits decline in recent times as well despite the rise in revenue.
The company said that it was a consequence of the lower-margin nature of its existing jobs. Prestariang’s net margins shrank to 25.7% in FY2014 compared with 35.3% in the previous year.
Nevertheless, just this year, the company was appointed by the Ministry of Finance as the sole Microsoft Licensing Solutions Partner to provide Microsoft software licenses to all government agencies in Malaysia for three years. The contract is potentially worth RM150 million a year.
Despite that, Prestariang’s net profits for the first half of its financial year ending Dec 31, 2015 came below RHB Research’s expectations.
“We attribute this to slower-than-expected orders under its Microsoft contracts, which the group previously inked with the Ministry of Finance and the Ministry of Education,” said RHB Research in a report.
But the research house is expecting the financial performance in the second half of the year to improve, as its contracts which expired in May to July 2015 are up for renewal. One of it is the renewal of a RM20 million contract from the Ministry of Higher Education to supply Microsoft software and services to all public institutes of higher learning under the “Managing University Software as an Enterprise” programme.
The share price is currently on an uptrend following the plunge in August. Last Friday, it closed at RM1.98. Currently, there are four buy calls on the share and one sell call. The target prices of the buy calls range from RM2.30 to RM3.05.
This article first appeared in digitaledge Daily, on September 21, 2015.