Downgrade sector rating to Underweight from Neutral in view of recent negative developments.

Maintain SELL on SMRT (TP SGD0.60).

Reiterate BUY on ComfortDelGro (TP SGD2.40) for its low exposure to fare-based business in Singapore.

Recent Developments Lead Us To Turn Negative

Heightened regulatory pressure. Parliament passed a Bill on 17 Feb 2014 that will increase the maximum fine for every rail disruption to 10% of the train operators’ annual fare revenue. This is up from SGD1m previously. The amended Rapid Transit Systems Bill implies that a network-wide rail incident would subject SMRT and SBS Transit (SBST) to a maximum fine of SGD63.2m and SGD14.8m respectively, based on our estimates. In our view, the implementation of the revised financial penalty would easily tip the operators into the red, considering their depressed profit bases.

Risk of higher repair and maintenance expenses. Transport Minister Lui Tuck Yew highlighted an impending change in the maintenance regime for the rail network from the current “find and fix” approach to a new “predict and prevent” approach. He said this in reply to questions from Members of Parliament on the recent train service disruptions. Given the increased scrutiny on system reliability, we expect regulators and operators to adopt a conservative approach, which could lead to higher spending on maintenance work.

Quantum of fare hike lower than expected. The 3.2% increase in bus and train fares that would be implemented from April 2014 fell short of our expectations for a 5% hike. While the fare revision will provide some relief, it will not be sufficient to offset losses at the operators’ fare-based business.

What’s Our View

We downgrade our rating for the Land Transport sector to Underweight from Neutral to reflect the abovementioned negative events. Our SELL call on SMRT (TP SGD0.60) remains unchanged, so is our BUY rating on ComfortDelGro (CDG). We are less worried about CDG than SMRT because: 1) CDG’s Singapore fare-based business accounts for just 7% of its market value, 2) losses at its rail segment is mainly due to start-up costs for the Downtown Line, and 3) there may be upside to rental and advertising beyond 2017.  

Source: Maybank Kim Eng Research - 19 Feb 2014