06 March 2012

RHBRI: 4Q11 Earnings Review and Market Strategy

In tandem with the moderating economic growth trend, corporate earnings remained weak in 4Q 2011Of the 113 reported earnings that we cover, 55 of the results (48.7% of the total) were within our expectations, 33 below projections (29.2% of the total) and 25 above forecasts (22.1%) (see Table 1). Against the consensus numbers, 44.2% of the reported earnings were within expectations, 38.1% below and 17.7% above projections (see Table 2). Sequentially, net EPS for the FBM KLCI stocks under our coverage weakened back to +1.7% qoq and +2.8% yoy in the 4Q, from +8.9% qoq and +12.4% yoy in the previous quarter (see Chart 1).

However, the downgrade to upgrade ratio has improved significantly to 1.07 times, from 1.65 times in the previous quarter. Overall, 2011 has been a year where Corporate Malaysia suffered from slowing sales and falling utilisation rates. This, coupled with the trend of higher costs, resulted in falling margins for many companies under our coverage. Consequently, normalised net EPS growth for the FBM KLCI stocks under our coverage slowed sharply from 20.9% in 2010 to +4.7% in 2011. The sharp slowdown in EPS growth, however, partly reflected the higher base effect as well as the plunge in Tenaga’s earnings arising from the gas curtailment issue. Excluding Tenaga, our 2011’s normalised net EPS for the FBM KLCI stocks has slowed down less significantly to +10.1%, from +21.2% in 2010.

Businesses Turning More Upbeat

What’s worth highlighting is that Corporate Malaysia are becoming less pessimistic and expect their business prospects to be stable with prospects of it turning up gradually as the year progresses. Likewise, we expect almost all sectors to record flat or improved earnings in 1Q 2012, with the exception of transport and semiconductor sectors. In our view, earnings of the transportation companies will still likely to be weighed down by slower economic growth and rising fuel costs. Whilst we also expect the semiconductor industry to suffer weak earnings in the 1Q, its outlook should improve from 2Q as cost rationalisation and stronger chip sales will likely translate into a significant improvement in earnings thereafter.

Meanwhile, we have seen more aggressive inventory write-down by companies, particularly amongst the steel product manufacturers. At the same time, banks could have also made pre-emptive provisions for loan impairment. Consequently, barring unforeseen circumstances, the downside risk to corporate earnings may not be as significant moving forward and analysts have turned less pessimistic in their assumptions for earnings projections.

Earnings Revised Up

Overall, we have adjusted some of the assumptions, translating to an upward revision in our 2012’s normalised net EPS growth for the FBM KLCI stocks under our coverage to +12.3% (see Table 3), from +10.3% previously (as reflected in our 2012 Market Outlook & Strategy Report dated 16 December, 2011). Excluding Tenaga, our 2012’s normalised net EPS for the FBM KLCl stocks has also been revised up to 8.8%, from 7.8% two months ago. The upward revisions in earnings were more significant in the oil & gas, consumer and utilities sectors (see Table 4). Similarly, our 2013 earnings estimate for the KLCI benchmark has been tweaked up slightly to 7.9% (+7.0% ex-Tenaga), from +7.3% (+5.5% ex-Tenaga) previously.

General Election Will Create Volatility,
Not Likely To Be A Game Changer

On the local front, a key event that will have significant bearing to the equity market is the impending general election. There are strong market expectations that the country’s general election (due in March 2013) will be held any time soon. Given what happened during the previous general elections on 8 March 2008 where the ruling coalition, Barisan Nasional (BN), lost two-thirds majority, there are fears that if BN were to lose a simple majority, the local bourse could suffer a major temporary setback. This is on account of uncertainty in the continuity of the country’s economic policies that could slow down the implementation of the economic Transformation Programme (ETP). We, however, believe that the likelihood of this happening is low.

Market Strategy :
Buy On Dips With Increasing Focus On Recovery Sectors

Whilst not all the external risk factors have gone away and the impending general election locally could also create uncertainty for the local bourse, the global economic recession risk is receding. Consequently, we are turning more positive on the market. Nevertheless, as fundamentals are just starting to improve, earnings will still need to play catch up for stocks with rich valuations before the market can scale new heights.

Consequently, the risk of a market pullback and consolidation in the near term is still high although we believe that any volatility in the market would provide opportunity for investors to accumulate fundamentally-robust stocks on weakness. We are also turning more positive on cyclical sectors that are poised for recovery, although investors’ risk perceptions can still change very quickly should situation turn out to be worse than expected. As a result, we would still recommend investors to hold some defensive stocks that have strong cash flows to pay sustainable dividends. A list of our top picks is reflected in table below, which includes “buy on weakness” tactical holdings.

Source: RHB Research Institute report

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