May 4, 2010

KNM - highlight

•  We maintain our HOLD call on KNM Group Bhd (KNM) with unchanged fair value of RM0.60/share based on industry’s FY10F PE of 12x.

•  KNM Group Bhd’s (KNM) audited FY09 net profit has been raised by 53% from RM171mil to RM261mil from the company’s earlier result announcement back in February. 

•  While there were some minor adjustments to revenue and costs, the highest impact to the accounts came from the additional positive tax charge of RM95mil - which stems from the recent tax incentive of RM1.4bil arising from the acquisition of Borsig for RM1.8bil (EUR372mil) back in 2008. 

•  We believe that restrictions on this valuable tax incentive is part of the reason why KNM’s substantial shareholder/group managing director Lee Swee Eng recently aborted his proposed offer (via Bluefire Capital Group) to buy KNM’s entire business at an equivalent value of RM0.90/share.

•  KNM’s auditors, KPMG has stated that the accounts give a true and fair view without any qualifications.

•  From the accounts we note that KNM made provisions for contract losses of RM38mil and unrealized foreign exchange loss of RM47mil. Including the Borsig tax adjustment, we estimate that KNM’s FY09 core net profit fell 25% to RM251mil in tandem with a 27% revenue reduction to RM1.8bil. 

•  From greater clarity of KNM’s results, it appears that our earlier FY10F-FY12 assumptions on KNM’s operating costs appear on track.

•  Positive tax charge is largely the recognition of the Borsig tax incentive as a tax asset with pre-tax profit of RM138mil. Assuming that KNM is able to claim additional tax incentives of RM95mil for FY10F-FY12F, we estimate that our earnings forecasts could be raised by 36%-48%.

•  This significant but uncommon tax effect is likely  to be adjusted to normalized rates for comparison with industry peers.  Hence, we have only marginally adjusted FY10F-FY12F earnings, as our effective tax rate assumption of 10% has not been changed. 

•  The stock currently trades at a FY10F PE of 11x – which is at the mid range of KNM’s FY07-FY09 PE band 5x-26x and roughly in line with industry.

by AM Research