This article first appeared in The Edge Financial Daily on April 16, 2019

Lafarge Malaysia Bhd
(April 15, RM2.45)
Maintain hold with an unchanged target price (TP) of RM2.55: The government announced last Friday that Malaysia will proceed with the East Coast Rail Link (ECRL) project at a much lower cost of RM44 billion (versus RM65 billion previously) for phase 1 and 2 — representing a reduction of RM21 billion.

The Prime Minister’s Office has confirmed that Malaysia Rail Link Sdn Bhd and China Communications Construction Co Ltd (CCCC) have signed a supplementary agreement for the project.  

Pending further details, we think this should be a small win for Lafarge and a positive signal for the cement industry as: i) The RM270 million cement supply contract might be lifted following the suspension last year; and ii) potential revival of other mega projects to boost demand.

To recap, Lafarge Malaysia won a RM270 million contract from China Communications Construction (ECRL) Sdn Bhd to supply cement for all eight packages of work for the proposed ECRL project back in March 2018. The original duration of the contract was for two years, until Dec 31, 2019 with a two-year renewal option. However, the contract had been suspended since July 2018.

Given that the main contractor is still CCCC, the contract suspension is likely to be lifted instead of being retendered. As the cost reduction only resulted in a minimal cut in rail length alignment — circa 6% (from 688km to 640km), we think the RM270 million contract amount might remain the same or if any, see an insignificant cut.

We estimate if the RM270 million contract remains, this will translate into circa 1.2 million tonnes of cement demand — spread over the next four years, equivalent to 300,000 tonnes per year. This is relatively small compared to Lafarge’s effective capacity of 8.2 million tonnes. As such, we think that more infrastructure projects are needed to support demand.

The revival of megaprojects such as the ECRL, Klang Valley double-tracking project and Penang Transport Master Plan shows that the government is still committed to enhancing connectivity in Malaysia.  

As such, we do not discount the possibility the Kuala Lumpur-Singapore high-speed rail being revived (likely to be finalised next year). These projects are needed to drive demand and eventually give cement prices a boost.

We maintain our hold recommendation until we see more sustainable recovery trends for the industry.

Our RM2.55 TP is pegged at 0.9 times forecast financial year 2019 book value — still below -1 standard deviation of its three-year mean of 1.1 times. — AllianceDBS Research, April 15