We maintain our OVERWEIGHT rating on the construction sector on the back of the roll-out of mega public infrastructure projects led by the MRT3. We believe the government now has more fiscal space to do so, having got the ball rolling on fuel subsidy rationalisation with the removal of diesel fuel subsidy from 10 Jun 2024. Meanwhile, the private-sector construction market will stay vibrant underpinned by massive investment in new data centres and semiconductor foundries. Our top sector pick is GAMUDA (OP; TP: RM7.29).

More public projects to get off the ground following fuel subsidy rationalisation. Despite the YTD outperformance (driven largely by the award of the RM10b Mutiara Line of the Penang LRT and various data centre building jobs), we remain upbeat as we believe the best is yet to come, i.e. the roll-out of mega public infrastructure projects led by the MRT3 (RM45b). We believe the government now has more fiscal space to do so, having got the ball rolling on fuel subsidy rationalisation with the removal of diesel fuel subsidy from 10 Jun 2024.

A galore of data centre building jobs. The sector has enjoyed a strong flow of private-sector jobs, especially data centre building jobs. GAMUDA secured RM1.74b data centre job in Elmina Business Park, Selangor in May 2024, while SUNCON (OP; TP: RM4.28) clinched a RM748m data centre job in Cyberjaya in Mar 2024 and an extra RM1.5b data centre job for Yellowwood in Johor in Jun 2024. We believe there will be more with Microsoft embarking on its data centre project in Johor, having committed to USD2.2b (RM10.3b) investment in cloud computing & AI services in Malaysia. Similarly, Google has committed to invest USD2b in developing its first data centre and could region in Malaysia. Meanwhile, TM (OP; TP: RM7.53) has teamed up with SingTel to build a 64MW data centre in Johor with the first phase expected to be operational by CY26. On the other hand, TENAGA (MP; TP: RM14.50) has inked Electricity Supply Agreements (ESA) with ten data centre developers with a total electricity requirement of 2,000MW. Two of them with a total electricity demand of 535MW were completed in 1QFY24. Over the longer term, the national utility company guided for a total electricity demand of 5,000MW from new data centres by CY35.

Plenty of road jobs in East Malaysia. Meanwhile, in East Malaysia, Pan Borneo Highway Sarawak Phase 2 and the Phase 1B of the Pan Borneo Highway Sabah are ready to get off the ground while Sabah-Sarawak Link Road is under construction. KIMLUN (OP; TP: RM1.76) has expressed interest to bid for work packages from Pan Borneo Highway Sarawak Phase 2 given that it is already in the market with its involvement in Sarawak-Sabah Link Road. We understand IJM (MP; TP: RM3.00) has also shown interest in the market.

Margin recovery. Meanwhile, the industry is poised for margin recovery as newly-secured contracts reflected cost inflation. In addition, post the pandemic, it has become increasingly common for contracts to carry price escalation clauses to safeguard the margins of contactors. As such, we expect industry margins to improve further from here as older contracts with low margins tail off and new contracts with normalised and higher margins start to contribute.

We now value large-cap builders at 20x forward PER. The expansion in our benchmark multiple is premised upon the improved prospects for the roll-out of mega public infrastructure projects following the fuel subsidy rationalisation. We now value large-cap contractors, i.e. GAMUDA, IJM and SUNCON at 20x (from 18x) forward PER, and mid-cap and small-cap players KERJAYA (OP; TP: RM2.16) at 16x (from 14x), WCT (OP; TP: RM0.88) and KIMLUN at 12x (from 10x). Hence, we raise our TP for GAMUDA to RM7.29 from RM6.70; IJM to RM3.00 from RM2.77; SUNCON to RM4.28 from RM3.85; KERJAYA to RM2.16 from RM1.90; and KIMLUN to RM1.76 from RM1.47. We have already upgraded WCT’s TP to RM0.88 on 21 Jun 2024. Consequently, we upgrade KERJAYA and KIMLUN to OUTPERFORM from MARKET PERFORM and downgrade IJM to MARKET PERFORM and OUTPERFORM, while maintaining our OUTPERFORM calls for GAMUDA, SUNCON and WCT.

We maintain our sector rating at OVERWEIGHT and our sector top pick is GAMUDA for: (i) being in the driver’s seat for the Mutiara Line of the Penang LRT and front-runner for the tunnelling job for the MRT3, (ii) its ability to secure new jobs in overseas markets, (iii) its strong war chest after the disposal of its toll highways, (iv) its strong earnings visibility underpinned by a record outstanding order book of RM25.8b, and (v) its inroads into the renewable energy space.

Source: Kenanga Research - 28 Jun 2024