SERBADK posted its first ever earnings disappointment in its 5QFY21 (i.e. 1QCY21) quarter, with core net profit of RM113m coming in 15%/44% weaker QoQ/YoY. Additionally, the unfolding recent events have placed the group’s corporate governance under intense scrutiny. As such, short of it releasing its fully audited accounts, the group’s corporate governance and reliability of its reported financial statements may remain a point of contention. Amidst the uncertainties, we are placing the stock UNDER REVIEW.

Deemed below expectations. SERBADK posted 5QFY21 (i.e. 1QCY21) core net profit of RM113m (note that the group has changed its financial year-end to June 2021, from December 2020). We deem this to be below expectations, with cumulative 15MFY21 core net profit of RM745m coming in at 77% of our 18-month FY21E forecasts. Against consensus, 5QFY21 quarter core net profit only made up 14% of Bloomberg consensus’ 12-month CY21 forecasts (Bloomberg has yet to adjust for the change in financial year end). This marked the first time SERBADK had disappointed in earnings since its IPO. Meanwhile, absence of dividends is also below expectations, as the company had previously paid dividends every quarter.

Overall weaker earnings. YoY against 1QFY21 (i.e. 1QCY20), 5QFY21 saw earnings dropping by 15%. Despite higher gross profit (+3%) led by greater O&M works masking slower EPCC job progressions, the group’s bottom-line was dragged by significantly higher administrative expenses. Meanwhile, QoQ against 4QFY21 (i.e. 4QCY20), 5QFY21 saw earnings plunging 44% sequentially. While 1QCY is typically a seasonally weaker quarter, the quarter was dragged by significantly slower jobs flow especially in Malaysia, given the re- imposition of MCO.

Corporate governance under heavy scrutiny. Following the group’s decision to bring KPMG to court, KPMG had since resigned as the group’s external auditors, citing that the legal action had compromised the auditor’s ability to independently continue its audit. In protest against this, the group on Friday lost almost half of its board members, with five of its independent non-executive directors resigning (although one of them had cited “personal commitment” as the reason for her resignation). We believe the unfolding of recent events has now put the group’s corporate governance under heavy scrutiny. As such, short of it successfully releasing its fully audited accounts, the group’s corporate governance and reliability of its reported financial statements may remain a point of contention.

UNDER REVIEW. Amidst uncertainties surrounding the name, we are placing our call and TP under review until the situation is fully resolved.

Just solely as a reference, current trough valuation within the local oil and gas universe is at approximately 0.3x PBV (e.g. KNM, SCOMIES, REACH, SAPNRG). Should we apply this as a distressed valuation onto SERBADK, we would arrive at a hypothetical “floor” fair value of RM0.32 (based on FY21E).

Post results, we trimmed our FY21E/FY22E earnings by 8%/9% following lower work order recognition assumption. Note that we have also removed any dividend assumptions for the remainder of FY21, and for FY22. Following its recent audit issue, the group saw its credit ratings downgraded on the basis of reduced funding access. This may heighten refinancing risk for its USD-denominated RM900m Sukuk due May 2022. As such, we believe the group may need to undertake capital preservation efforts e.g. reducing capex and cessation of dividends in order to keep its borrowings manageable.

Risks to our call: a successful release of its audited accounts, restoration of dividends.

Source: Kenanga Research - 28 Jun 2021