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Sunday, November 29, 2015

Can UEM Edgenta extract more value from KFM?

Saturday, 28 November 2015

Can UEM Edgenta extract more value from KFM?

BASED on the share price, the market seems to be reacting positively on UEM Edgenta Bhd’s proposed acquisition of 80% stake in KFM Holdings Sdn Bhd for RM128mil.
Since the announcement came out on Tuesday, the share price of UEM Edgenta rose as high as 9.31% to RM3.42 Thursday, one of its steepest climb for the year.
But whether the trend can be sustained or not will very much be left to how much value Edgenta can extract from KFM.
The acquisition can be broken down into three broad areas – the synergies, benefits and costs.
In terms of synergy, the KFM business is complementary to Edgenta business. Both Edgenta and KFM are mainly involved in the integrated facilities management (IFM) business.
KFM has more exposure in the public sector, while Edgenta has more exposure in the private sector.
KFM has a 20-year concession from the Prime Minister’s Office (PMO) in Perdana Putra Complex, Putrajaya to provide initial rectification works, retrofitting works, asset maintenance services and asset management programmes for PMO.
The concession is expected to end in 2031. More than half of KFM’s revenue comes from a concession to provide management services for the PMO. It also has businesses in Abu Dhabi and Dubai.
According to the term sheet for the proposed acquisition, KFM has total outstanding secured contracts worth RM700mil up until the year 2031.
Going by this, KFM should be churning out around RM44mil on average a year from the “outstanding secured contracts” until 2031. Will it be able to deliver such results?
However, the term sheets do not provide any such details or the breakdown of the RM700mil figure.
Another question that could be raising from the deal is what is the portion of recurring income contribution from KFM’s concession agreement.
An analyst tells StarBizWeek that concessions for IFM business has recurring income portion from daily maintenance works, however there are jobs that only come if there is demand, such as major refurbishment.
“Basically, an IFM business is like a service provider to maintain a building, which needs to be cleaned everyday and some major work like air-conditioning maintenance or major renovation.
“IFM’s concessions are different from highway concessions, because IFM’s concession revenue is depending on the work demand hence income could be inconsistence,” the analyst says.
“That is why there is a fluctuation in KFM’s net profit.”
According to HLIB Research’s report, KFM posted profit before tax of RM7.1mil, RM17.4mil and RM14.1mil for its financial year 2012, 2013 and 2014 respectively.
Though potentially lucrative, as the KFM has been recording profits, the company has debts.
According to a note by HLIB Research, Edgenta is expected to see a bottom-line enhancement of 2.8% in FY16 and 5.1% in FY17.
On the other hand, Edgenta’s debt would balloon as much as 38% post-acquisition.
This is because Edgenta will take over KFM’s debt load totalling some RM105.71mil as part of the deal. Adding in the RM128mil acquisition cost, Edgenta could be paying a hefty price for 80% stake in KFM to only get 5% minimum upside to its bottom-line.
In a email reply to StarBizWeek, Edgenta says: “Even after the acquisition of KFM, our net gearing would remain low and we would still be in a net cash positive position.”
According to the proposal, Edgenta says the proposed acquisition will provide the company the opportunity to consolidate a key market player, acquire complementary skill sets and increase its market share in the facilities management sector in Malaysia.
For KFM’s acquisition, Edgenta plans to pay RM92mil upfront, of which RM36mil is in cash while RM56mil will come from new Edgenta shares to be issued.
The balance of RM36mil will be disbursed over the next three years, subject to KFM’s achievement of key financial targets.
From the RM36mil balance, RM20bil would be paid in three trenches, while the remaining RM16mil will be spread from 2016 to 2018 and is subject to earnings enhancement relating to the PMO concession, which comes from a 5% rise in service fees as well as a 60% investment tax and capital allowance.
Edgenta does not need to seek its shareholders approval for the proposed acquisition as it already has a mandate from shareholders to issue new shares from the previous AGM in May, the term sheet revealed.
HLIB estimates that proposed acquisition price of RM128mil values KFM at 11.3 times trailing FY14 PE and 10.2 times forward PE. It says the deal is fairly priced.
Post-acquisition, total interest bearing borrowings will increase to RM456.87mil from RM351.17mil.
But this is mitigated with KFM’s net asset of RM52.61mil as at end Dec 31, 2014.
Nonetheless, this acquisition can easily be swallowed by Edgenta.
Edgenta is also a cash-rich company. It is sitting on cash and bank balances of RM523.32mil as at Sept 30, and is currently minimally geared.
The company expects its net gearing will only increase to 0.38 times and would still be in a net cash positive position following the acquisition.
Thanks to Edgenta’s stellar share price performance, the company would only be diluting 2% of its total share base for the proposed acquisition.

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