This article first appeared in The Edge Financial Daily, on March 21, 2016.

KUALA LUMPUR: When crude oil prices took a nosedive over the past two years, so did Muhibbah Engineering (M) Bhd’s share price. 

Fund managers were fleeing the stock simply because a significant portion of the company’s contracts was sourced from the oil and gas (O&G) industry. They were worried that Muhibbah Engineering’s earnings would be hard hit by the downturn in the O&G industry. Its share price halved from the peak of RM3.40 in July 2014 to a low of RM1.60. The stock revisited the trough in August last year when crude prices sank below US$50 per barrel.

Nonetheless, the company has demonstrated its resilient earnings and ability to replenish its order book. Muhibbah Engineering has been able to keep its net profit at around RM80 million in the past three financial years.  

Few may have expected Muhibbah Engineering to be among the key beneficiaries of the refinery and petrochemical integrated development (Rapid) — a massive downstream project that Petroliam Nasional Bhd (Petronas) did not shelve despite the slash on capital expenditure (capex) by the national oil firm.  

Currently, the company has an order book of RM2.35 billion, of which RM1.73 billion is from the construction division; RM694 million from the cranes division; and RM105 million from shipyards. This order book is expected to last two to three years, according to its financial director Shirleen Lee.

Muhibbah has secured two contracts so far in 2016. Last year, Muhibbah Engineering secured about RM800 million to RM1 billion contracts, including jobs from Rapid.

Lee foresees the company being able to bag contracts of similar values this year too. In short, its order book would continue to grow, so too would Muhibbah Engineering’s earnings. 

She believes that securing contracts of RM800 million to RM1 billion is achievable this year. Lee opines that the construction industry is in its most buoyant time that one has seen in the last 20 years.

“The size of cakes is so huge, so all these capex will be the revenue for contractors,” she told The Edge Financial Daily.  

Besides the ballooning order book, Muhibbah Engineering has a steady recurring income from its concession business, including airports in Cambodia. In other words, the rising tourist arrivals in Phnom Penh and Siem Reap would help to boost Muhibbah Engineering’s earnings. 

Muhibbah owns a 21% effective stake in Cambodia Airports, which manages three international airports namely Phnom Penh, Siem Reap and Sihanoukville airports, in a consortium with Vinci SA, a French conglomerate. 

Cambodia Airports derives its income from airport passenger tax, ground handing fee, rental of duty free shops and profit sharing, aircraft landing fees, and cargo handling fees. 

The concession period for the three international airports is up to 2040. In financial year 2015 (FY15), total passengers for the three airports were 6.47 million, an increase by 13% from 5.73 million in FY14.

Lee anticipates passengers to continue to grow by double digits this year, which will sustain the company’s earnings going forward.

The passenger capacity of Phnom Penh and Siem Reap airports has doubled after the refurbishment works in 2015.

Lee also pointed out that Muhibbah Engineering holds a 21% stake in Roadcare (M) Sdn Bhd, the company that has recently been granted a renewal by the Malaysian government of a 10-year concession for road maintenance jobs in several states. 

“This contributes about a few millions a year to our earnings. It fluctuates between RM5 million and RM10 million,” Lee said, adding that if the government requests to build new roads, then Roadcare will stand a chance to earn an extra income.

Given the lesson learnt in the past on cost overruns, Muhibbah is more cautious about expanding its businesses, and sensitive in risk management.

“Cost overruns are just a part of the puzzle of the business. You have to continue sharpen your sword. The construction business is up and down. If you estimate it correctly, do it efficiently; you will make more. If you underestimate it, you make less,” she said.

When asked if the group is facing cost overruns given the weakening ringgit, she said, “some are, and some are not, and some are better. Eventually, with a more diversified portfolio, it will be mitigated by each other.”

She takes the reversing trend of the ringgit against the US dollar and oil prices recently as examples in mitigating risks. When oil prices [are] up, it augurs well for its crane business, but when oil prices fall, the group’s construction works would cushion the impact.

About 60% of the group’s earnings are dominated by US dollars, Lee noted, and that this may change going forward, as Rapid may play a bigger role in the future.

Lee sees this as a “balancing strategy” that helps the group to mitigate potential risks.

While Petronas is lowering its budget and cutting capex, Lee emphasised that the downsizing is for upstream, and that construction contracts are different from ship-chartered contracts as the charges are fixed according to the signed contracts.

Muhibbah Engineering’s share price has rebounded from its recent low of RM1.60 for late-August. 

A senior fund manager is of the view that Muhibbah Engineering’s valuation is not expensive at 10 times price-earnings ratio for the earnings forecas for FY16 and nine times for FY17.

The fund manager highlighted that the concession businesses (airport and road maintenance) which contribute 20% of total profit before taxes provide a good cushion against  any external shocks, while Cambodian airports concession is expected to register strong growth in the next few years following the recent extension works. 

Alliance DBS Research analyst Chong Tjen-San projects a 23% increase in net profit for FY16. Muhibbah Engineering posted a net profit of RM85.58 million compared with RM81.55 million the year before. 

“So far 2015 construction margins are higher than 2014. I think their order book now comprises higher margin jobs. Going forward,  as long as there are ample job flows and the raw material environment remains benign, I think margins should be stable,” Chong said.

Besides, cash generating from Cambodian airports concession continues to deliver strong double- digit passenger arrivals, and will benefit from the recent expansion to 12 million passengers per year while its road maintenance division recently received an extension for another 10 years.

Chong sees Petronas’ licence is a trump card that the company holds to compete effectively in the highly competitive and crowded civil engineering space. 

Meanwhile, RHB Research O&G analyst Wan Mohd Zahidi said that the company has a track record of downstream O&G construction, having done work in Malaysia, Singapore and the Middle East.

“Muhibbah is not a new kid on the block. I am sure it has experienced its fair share of difficulties in the industry and knows how to mitigate the slowdown in the industry. Having said that, I think being in the downstream segment of the O&G industry, Muhibbah is relatively sheltered from the difficulties being experienced by their upstream counterparts,” he added.