Upsides forthcoming for the construction sector?

By Xavier Kong

Ever since the change of hands in government, construction players have had a tough time reading the political tea leaves. Pakatan Harapan went on a review of large-scale infrastructure projects and in the process stifled growth to one of the major economic drivers of the country.

The numbers speak for themselves. Bank Negara Malaysia recently released its report on Malaysia’s gross domestic product (GDP) growth for 3Q19, where the central bank notes that the GDP growth rate has moderated to 4.4%, which is 0.5% lower growth rate quarter-on-quarter compared to 2Q19’s 4.9% growth rate.

This 0.5% difference was attributed to lower growth in key sectors, as well as a decline in mining and construction. However, economic growth is expected to be sustained. Still, the lower GDP contribution from the construction sector bears looking at, considering its status as a major industry of Malaysia.

Danial Razak, research analyst of MIDF Research, tells FocusM that he is not surprised by the lower contribution, all things considered.

“A lot of projects were shelved, and some projects are still in the midst of negotiation, so it is not surprising to see a slowdown in the construction sector, which led to the lower GDP contribution for the quarter,” he says.

TA Securities notes in its report that the main cause of the lower contribution is the oversupply of both commercial and residential properties, with JF Apex Research concurring and adding that this is the first time in eight years that the construction sector turned to the red.

Danial agrees as well, stating that property is one of the stronger contributing segments, and that the overhang will definitely have an impact on the sector’s contribution.

“New planned supply has been stagnant, with no visible catalyst as of yet. The government is addressing the issue with the move to lower the price point for foreigners to purchase property in Malaysia. This move is a positive factor towards helping the overhang issue, and demand may eventually pick up, should this initiative be successful,” he says, adding that a potential catalyst would be the Bandar Malaysia project, which may be announced during the 12th Malaysia Plan that is expected to be presented next year.

Rail of hope?

The East Coast Rail Link (ECRL) was also a project that was renegotiated for lower construction costs and has been given the green light by the government. Tun Daim Zainuddin, special envoy of the prime minister who renegotiated the deal, was quoted by Bernama in April as saying that “the renegotiated ECRL project offers plenty of opportunities to local contractors, including bumiputras, in public works like supplies and technical aspects”.

However, will the ECRL really be a sufficient catalyst, considering Malaysia has a limited number of packages to award for the ECRL project to local contractors? This is due to Malaysia actually being in the position of sub-contractor, as opposed to China as the main contractor.

“It will be a meaningful impact for the construction sector on its own, but from a national point of view, the effect will be quite minimal. Bear in mind that the construction work will be for several years, so this in itself will be supportive to the economy. However, this is balanced by the limited number of jobs for local contractors,” says Danial.

He adds that the ECRL will help in its own way, but it would not provide significant impact to the economy yet, as the forward and backward linkages are the things to look at moving forward.

Affin Hwang Research senior associate director Loong Chee Wei believes that, other than the ECRL subcontracts, more packages for the Pan Borneo Highway in Sabah will also be rolled out.

Loong also notes that other large-scale projects such as the Klang Valley MRT Line 3, Penang Transport Master Plan and Kuala Lumpur-Singapore High Speed Rail could also see news flow on potential revivals in 2020.

Priming the pump

The government has also assigned a higher development expenditure in the recent Budget 2020 of RM56 bil, a marginal increase from the Budget 2019 allocation of RM54.7 bil. However, more of the Budget 2020 allocation was channelled towards smaller projects, rather than towards infrastructure undertakings.

“A lot more focus is given to smaller projects in Budget 2020, considering the higher allocation compared to last year. However, smaller projects also tend to have shorter timelines, and this means a faster impact on the economy,” says Danial.

Loong also notes that, in terms of foreign investor concerns, most were centred on the political uncertainties on leadership succession and government policy risks on construction and concession contracts.

“We believe the government will maintain the sanctity of government contracts so as not to disrupt the capital markets,” notes Loong, who maintains an “Overweight” call on the construction sector as of Nov 18.

This is welcome news, considering Malaysia has seen the worst capital flight when compared to other regional markets, with foreign investors pulling billions of dollars from the local market as a precaution since the government’s surprise win last year.

Finding the niche

Danial also says the niche segment construction players, such as ceramic tile and cement players, have to look at the smaller projects while waiting on the big projects.

“They require the economy of scale for sustainability. I think the Lafarge acquisition by YTL Cement is strategically positive for the cement industry, as there will be fewer competitors. This means that the players will have more control over their prices,” he says.

This comes on the back of the acquisition of Lafarge Malaysia Bhd, now renamed Malayan Cement Bhd, by YTL Corp Bhd’s cement unit, YTL Cement Bhd. The deal was made in May this year, and will see the YTL group forming the largest cement company in Malaysia.

As of Nov 19, AllianceDBS Research has upgraded its call to “Buy” on Malayan Cement, citing improved industry dynamics without the pressure of intense price competition. This comes from higher cement prices, better cost synergies between the two companies and stronger demand.

“YTL Cement and Malayan Cement have a combined market share of about 60%, leading to cost synergies and better pricing power. In addition, we expect cement demand to recover with the revival of several major infrastructure projects,” AllianceDBS analyst Abdul Azim Muhthar says in a note. 

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