Midas Holdings - Investors have taken the last train out; we stay put (CIMB)

Current S$0.34

Target S$0.36

We visited the company after its dismal 3Q. We expect another 1-2 painful quarters, until railway development recommences. We also believe a cash-strapped Railway Ministry in China will be the industry’s main growth obstacle.

While we maintain our FY11 EPS, we slash FY12-13 to capture slower revenue recognition, and higher operating and financing costs. Our TP falls accordingly, still based on 8x CY13 P/E, industrial peers’ 5-year forward average. However, maintain Neutral as we believe the negatives have been priced in.

Recurring pain

Midas’s 3Q pain could be blamed on slower train deliveries and higher operating/finance costs following its recent capacity expansion. In the aftermath of two railway accidents, the Chinese government had halted railway development. This led to slower deliveries for existing contracts and growing inventories in the industry value chain. Further, a cash-strapped Ministry of Railway (MoR) started withholding payment to its major suppliers. As a result, Midas’s key clients and the industry’s largest paymasters, state-owned locomotive producers CSR and China CNR, have been delaying payments too. Midas’s collection days grew to 311 in 3Q. It had to finance its working capital with short-term financing. We do not see any quick solutions in the near term.

The real issue

Liquidity appears to be flowing back into the industry recently with the MoR repaying CSR and CNR Rmb23bn in arrears. This should alleviate Midas’s cash flow. However, the key issue is whether the MoR still has the ability to fund development projects to meet the targets spelt out in China’s 12th five-year plan. The market does not believe so, judging from the escalating yields on its recently issued corporate bonds. In response to mounting debt concerns, new Railway Minister Sheng Guangzu plans to reduce railway investments by 30%. This could impede growth in the railway development industry.

All priced in

As we believe Midas’s 0.7x P/BV valuations have priced in the negative news, we maintain our Neutral rating.