KNM downgraded on reduced earnings and PER forecasts

Written by Financial Daily    Wednesday, 10 August 2011 11:30

KNM Group Bhd
(Aug 9, RM1.51)
Downgrade to reduce at RM1.58 with revised target price of RM1.32 (from RM2.21): We are downgrading KNM to a “reduce” (from “buy”) with a lower target price (TP) of RM1.32 (from RM2.21) following our 3% to 36% cut in FY11 to FY13 earnings, coupled with a reduced CY12 target price-earnings ratio (PER) of eight times (from 13 times). The sharp 36%/3%/3% cuts in FY11/FY12/FY13 earnings forecasts are mainly due to our expectation of further delay in the commencement of KNM’s RM2.2 billion Peterborough Energy Park engineering, procurement and construction (EPC) work. As the project has yet to reach the financial close at this juncture, we now expect the EPC work to commence in CY12.

We have lowered our target PER for KNM from 13 times CY12 earnings to eight times in view of higher company risk premium and possible earnings/contracts disappointments. We think the street may be overly optimistic on KNM’s FY11 pre-tax profit forecast of RM120 million (70% above Affin’s forecast). KNM has reported RM6 million to RM7 million of quarterly pre-tax profit for the last two quarters and we do not expect a drastic improvement in 2QCY11 as the group is likely to continue billing on its older, lower margin contracts because:

(i) The delay in commencement of Peterborough EPC work is a disappointment. To recap, the Peterborough EPC contract was awarded by Peterborough Renewable Energy Ltd, controlled by a group of local businessmen, in December 2010 to construct a £450 million (RM2.2 billion) energy park. While we remain optimistic and expect the project to commence in FY12, any further delay in financial close will be detrimental to KNM’s share price;

(ii) Possible disappointment in concluding the RM17 billion Gulf Asian Petroleum (GAP) contract. GAP is still in the preliminary project planning stage and it has yet to complete the front-end engineering and design (FEED) study and has not secured the project financing nor entered into any supply and offtake agreements; and (iii) In view of the rising global stock market volatility and economic uncertainties, investors may shun KNM and switch into more defensive stocks, or other oil and gas companies with better earnings visibility.

We are not optimistic on KNM’s immediate term share price outlook in view of these concerns, but we think the group’s strong order book of RM5.5 billion and steep share price correction (-44% year-to-date) will help to limit the downside to around our TP of RM1.32. Earnings disappointment and downgrade in street forecast is a key de-rating catalyst. Note that our revised FY11/FY12 forecasts are 46% and 27% below street. — Affin IB Research, Aug 9


This article appeared in The Edge Financial Daily, August 10, 2011.