Morningstar | CCCC's 3Q Result in Line with our Estimate; FVE Maintained at HKD 8.60
No-moat China Communication Construction Company's, or CCCC's, reported third-quarter earnings that are on track to deliver our full-year estimate. Foreign exchange gains boosted the group’s bottom line, which booked a decent 11% year-over-year growth in the third quarter. Excluding such gains, CCCC’s third-quarter net income dropped by 10% compared with the same period last year. We maintain our fair value estimate of HKD 8.60 per share on CCCC and consider the current market price fairly valued.The company’s results reaffirm our view that the business' profitability will gradually decline over the next couple of years. CCCC’s gross profit margin fell to 12.0% for the third quarter of 2018, versus 12.8% for the year-ago period. We think the main reason behind falling margin is that CCCC executed less high-margin PPP projects during the period. While debt-saddled local governments will rely more on financing from construction companies like CCCC for various projects, we are starting to see signs that construction companies are holding back on investing too much into PPP projects with long payback cycles. Even though China has granted its local governments CNY 1.35 trillion in specialty debts (up 69% from 2017’s annual cap) to spend on infrastructure, it appears that large portion of those funds is utilized to pay back past debts as opposed to launching new projects.
Recovery in the company’s margins will more likely be seen over the longer term (post-2023) as capital investment toll roads start to bear fruit. Our valuation has factored in the government’s proactive measure of bringing forward infrastructure investment to help soften the potential blow to the economy from the U.S.-China trade war.
Lastly, the value of new contracts signed in the first nine months of 2018 amounted to CNY 583 billion, representing a year-on-year decrease of 4%. The slight drop in new contracts was due to a higher base effect resulting from the booking of the high-value Malaysia East Coast Rail Link Project, or ECRL, during the same period of last year. Excluding the impact of ECRL, we estimate CCCC recorded a high-single-digit growth in new contracts during the first nine months of the year.
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