KNM Group 3QFY08 : Year end estimates can be met
• Within expectations.
Annualised 9M08 net profit fell short of house estimates by 16% and also street estimates by 17%. However, we expect that the shortfall would be reversed in coming 4Q hence citing results still within our expectations. The main reason for the shortfall this quarter stemmed from the one-off interest payment (est. RM30m) for the newly converted bridging loan into term loan as well as new capacity from organic growth in plants (Malaysia, Saudi and Canada) commencing in 4Q only. Besides that, 1H08 would bring full year annualised earnings downwards as it included only 1 month of earnings from Borsig. Otherwise, with a full 3 months contribution of Borsig, y-o-y earnings are up 70% and EBITDA margins recorded for the quarter are notably stronger at 21.3% compared to 19.4% before.
• Margins should stay strong.
As mentioned above, margins have improved y-o-y and q-o-q as the Group has shifted most of its manufacturing focus to higher-end process equipment which earns a better average selling price. We expect this to continue to be the case going forward as the group shifts more and more of its products to the upper echelon of process equipment and levies off Borsig’s technologies. Currently about 60% of total group production is high end and KNM looks to bring this to 80% in 3-4 years.
• Order book still strong. Concerns on replenishment.
KNM’s order book continues to be strong at an estimated RM4.7bn but we have some concerns that replenishment will not be as robust going forward given the state of oil prices. As many oil majors are now holding back on spending and some even aborting unconventional oil projects till a later date, we believe there to eventually be some flow through effect to a company like KNM. This is especially so for its facilities in Edmonton, Canada (oil sands) and Brazil (deepwater developments). We have factored in a softer order book replenishment going forward to reflect our concerns hence our lower than industry estimates.
• Maintain HOLD. TP RM0.85.
With the expectations that 4Q results will be stronger (with show of new capacities, lower effective tax from some tax savings in Germany, and minimal interest costs) hence we make no changes to our estimates at
this juncture. In view of the upcoming impairment tests to the Group’s RM1.56bn of goodwill to be decided by FYE, we maintain a hold call on KNM given the uncertainty of potential impairments despite the upside
seen from current prices.