SMALL-cap construction stocks are experiencing good times as investors have been chasing share prices up in the last couple of weeks. Furthermore, the rally has not been confined to just that sector — small caps on the broader market have also been running higher.
Fund managers say the improving sentiment among investors is one reason for the rally.
“Generally, small-cap stocks have been enjoying a rally over the last five to six weeks. It is thanks to the sentiment since November last year. Since US President Donald Trump’s inauguration, there has not been any trade war-related policies and the market is taking that as a positive development,” says Areca Capital Sdn Bhd CEO Danny Wong.
Thus, local investors have been taking a “risk-on” view — they have been hunting for growth stocks, which include small-cap stocks, he adds.
“Foreign funds are returning to the Asian equity markets — South Korea and Taiwan have been the main beneficiaries. Meanwhile, Malaysia has seen an inflow of foreign funds of about US$100 million as at a week ago,” Wong elaborates.
Most analysts are “overweight” on the construction sector because of the slew of major infrastructure projects that were announced in 2016 after a lull the year before. Nevertheless, the projects, such as the mass rapid transit (MRT) and Pan Borneo Highway, are expected to mainly benefit the mid to large-cap construction stocks.
Where does it leave the small caps?
“The larger projects are usually awarded to the bigger companies, which have a good track record of delivering projects. But some of them will trickle down to the smaller contractors. For example, the MRT viaduct contracts and station works will usually be subcontracted to smaller companies,” says an analyst.
The analyst opines that the rise in the share price of small-cap construction stocks is not across the board.
“I don’t think there is a theme that is driving the stocks. The increase could have happened on a case-by-case basis,” he says.
It is noteworthy that Gabungan AQRS Bhd has seen its order book increase to RM1.8 billion on the back of development and infrastructure projects won.
“Gabungan AQRS’ forte is the construction of affordable houses, specifically under the schemes of PR1MA and Rumah Selangorku. It recently secured two packages from PR1MA amounting to RM740 million in Pahang and Selangor,” MIDF Research says in a report. The company could secure more packages from PR1MA and the Selangor government as a good track record is crucial to win jobs, it adds.
Gabungan AQRS is mainly involved in projects in Sabah and Pahang. MIDF Research opines that the company could benefit from the growing construction activities in the two states.
Since the start of the year, the counter has gained about 15%, from 91 sen to RM1.05.
Meanwhile, Pesona Metro Bhd has risen 15% this year. It has an order book of RM2.3 billion, five times its market capitalisation of RM455 million.
“All of Pesona’s existing jobs are either government-related or from listed property developers in Singapore, Malaysia and Thailand. With 75% of its order book comprising newly secured jobs, the risk of cost overruns is minimal,” Hong Leong Investment Bank Research says in a note last December.
Other companies, such as Hock Seng Lee Bhd and Kerjaya Prospek Group Bhd, also have sizeable order books of over RM2 billion. Nevertheless, their market capitalisation is slightly larger, ranging from RM900 million to RM1.2 billion.
Hock Seng Lee has been a beneficiary of large infrastructure projects, such as the Pan Borneo Highway, while Kerjaya Prospek’s expertise is in high-rise development works.
In terms of valuations, the forward price-earnings ratio of the small-cap construction stocks varies over a wide range, from low single digits to the high teens.
However, an analyst opines that the stocks that trade beyond a PER of 10 to 12 times could appear overpriced.
While 2016 was a year when many construction companies expanded their order books, they will need to prove themselves this year through earnings delivery, analysts opine.
“The magnitude of contracts this year will be smaller than last year. The next leg of rerating for the sector will depend on the earnings delivery of the projects,” says an analyst.
Areca’s Wong believes that the rally seen in the construction sector will continue beyond this year.
“Global growth has not fully recovered yet and exports could be affected by the potential US tax and trade plans. In order to achieve the domestic gross domestic product target of 4.5%, there is a need for more domestic construction activities to spur growth,” he says.
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