This article first appeared in The Edge Financial Daily on January 23, 2020
Malakoff Corp Bhd
(Jan 22, 87.5 sen)
Maintain buy with a higher target price (TP) of 98 sen: Malakoff Corp Bhd’s acquisitions and corporate disposals in 2019 resulted in changes to the group’s earnings profile and valuation. Although earnings expansion appeared moderate (1%-4% of forecasted financial year ending Dec 31, 2020 [FY20F]-FY21F earnings), Malakoff’s war chest for future ventures has expanded following the completion of the Macarthur Wind Farm sale in December, which yielded estimated balance net proceeds of A$211 million (RM602 million).
Based on our estimates, the Shuaibah Phase 3 water desalination and power plant in Saudi Arabia of which Malakoff acquired an additional 12% to now own 24% will contribute chunky incremental earnings of about RM33 million per annum for FY20 and FY21 (12% of FY20F earnings). This is net of: i) amortisation of intangible assets of RM70.4 million; and ii) loss of interest income (acquisition price: US$70 million [RM284.9 million]). Therefore, this would boost Shuaibah’s contribution to an estimated RM80 million for FY20 (FY19 estimate: RM57 million). Also, this would result in Shuaibah contributing the lion’s share of the group’s associate income. We expect a stronger showing by Shuaibah in FY20 given that the third quarter of 2019 (3Q19) was afflicted by lower capacity payment from: i) boiler tube leaks and derationing at the power plant; and ii) natural deterioration of seawater reverse osmosis membranes at the water plant.
Meanwhile, for Alam Flora, its acquisition was finally completed in December 2019 after multiple delays (initial target: 1Q19). We estimate that consolidation of Alam Flora will result in marginal core earnings erosion of about RM400,000 for FY20, underpinned by: i) chunky amortisation cost of intangible assets (RM46 million per annum); and ii) interest cost of RM28 million per annum (assuming 60% debt financing at 5.4% per annum). Nevertheless, we expect an earnings contribution of RM10.5 million for FY21 on the back of: i) a contractual tariff hike (delayed since September 2018); and ii) the start of operations in Kelantan and Terengganu. However, there may be a downside risk to our estimates due to sustained delays in both scenarios.
Lastly, following the Macarthur disposal, we estimate loss of earnings contributions of RM29 million-RM32 million for FY20-FY21 (10% of forecasted earnings). Net profit erosion is expected to be cushioned by: i) interest savings of RM14.3 million per annum from repayment of the Macarthur acquisition loan of A$140 million; and ii) interest income from balance of sales proceeds (net of loan repayment and transaction costs). Nevertheless, for the second, we believe there is a high likelihood that Malakoff would recycle the proceeds into new investments. If it happens to be brownfield assets, this would help to plug the earnings gap from the Macarthur disposal.
Recall that the management has expressed its intention to expand beyond conventional power generation in Malaysia. We believe this would be ideal — given the recently launched Malaysia Electricity Supply Industry (Mesi) 2.0 reforms that will lead to a transformed industry. To recap, under Mesi 2.0, generation companies (gencos) may lose out from: i) a medium-term freeze of new projects — as the next capacity auction will only be launched at end-2023 (delivery: 2029); and ii) a new competitive capacity market theoretically leads to lower tariffs at the expense of gencos. Furthermore, Malakoff’s existing power purchase agreements will expire from the current contracted capacity of 7,000mw to 1,000mw by 2032. Therefore, the group is actively evaluating investment opportunities in high-growth countries or regions. In particular, the management is eyeing international renewable energy (RE) opportunities.
Our FY19-FY21 forecasts are raised by 4%-6%. Additionally, our sum-of-parts-based TP is raised to 98 sen from 93 sen. The group is also a front runner for RE projects tendered by the Energy Commission on the back of its sizeable balance sheet (versus new players) and extensive track record as the largest independent power producer in Malaysia. There is also a slew of smallish pipeline projects, which include: i) a strategic collaboration with Japan-based Electric Power Development Co Ltd to develop potential greenfield and brownfield power generation and/or water projects globally; ii) a collaboration with Touch Meccanica for two (capacity: 55MW) small hydro plants (power purchase agreement: 21 years) in Pahang under the feed-in-tariff scheme; and iii) a 2.4mw biogas project in Sg Kachur, Johor. — TA Securities, Jan 22