AEM Holdings Ltd - DBS Research 2017-05-23: Entering A New Growth Phase

AEM Holdings Ltd - DBS Vickers 2017-05-23: Entering A New Growth Phase AEM HOLDINGS LTD AWX.SI

AEM Holdings Ltd - Entering A New Growth Phase

  • Successful development of next-gen equipment sets AEM on a new growth path.
  • Firm equipment order pipeline and recurring sale of high-margin consumables from key client’s migration exercise lends visibility beyond next three years.
  • Project earnings growth at 75.6% CAGR over FY16- FY19F.
  • Fair value of S$3.35, based on 10x FY18F PE.



The Business 


Leading global provider of high-end test handlers. 

  • Years of engineering investments for AEM Holdings – a customised automation solutions provider for highly complex industrial applications - are starting to bear fruit. The commercial ramp-up of AEM’s newly developed, next-gen high density modular test platform for a key client, alone, represents a multi-year opportunity for the group.
  • Earnings projected to grow at 75.6% CAGR from FY16-FY19F but earnings visibility extends well beyond the next three years.
  • Benefitting from the start of a key client’s multi-year migration programme to its next-gen test handler platform, AEM’s FY17F order book surged to S$152m (as at 15 April 2017), and is set to remain firm in the coming years. 
  • Beyond one-off equipment sales, known upgrade opportunities and recurring sale of higher-margin consumables over the life of these equipment are also indicative of future earnings potential.
  • Apart from replacement demand, order wins in new sectors (i.e. from the chip-intensive 5G space) could provide further upside.

The Stock Fair value of S$3.35 based on 10x FY18F PE. 

  • With reference to close peers Cohu and UMS Holdings, which are also engaged in semiconductor equipment manufacturing, we opine that AEM should at least trade at -1SD of their average 3-year forward PE given its smaller scale and key client risk. We thus value the company at S$3.35 based on 10x FY18F PE (vs peers’ 13x).

Key client risk. 

  • AEM’s key client is projected to contribute 80- 90% of the group’s earnings. Delays to their migration plans could significantly weigh on AEM’s future performance.


REVENUE DRIVERS 


Customised automation solutions provider. 

  • Established in 2000, AEM Holdings (“AEM”) is a customised automation solutions provider for highly complex industrial applications, such as the semiconductor, solar and smart card sectors.
  • Having developed a deep knowledge base for integrating complex solutions, the group is able to support its customers throughout the lifecycle of a programme – from design and tool development to mass volume production and field service engineering support.
  • Following the disposal of its plating operations in FY16, AEM will mainly derive sales from two existing business verticals: 
    1. Equipment Systems Solutions (ESS): Sale of customised tools/machinery, consumables (kits and spares for customised equipment) and provision of engineering services 
    2. Precision Component Solutions (PCS): Development and manufacturing of precision engineering products for the semiconductor, solar, life sciences and aerospace industries. 
  • In FY16, the ESS and PCS segments contributed 91.9% and 8.1% of sales from continuing operations respectively.

Order book of S$152m to be delivered in FY17F. 

  • Demand for customised equipment and consumables – which grew sales by nearly 50% y-o-y to S$70.1m in FY16, remains strong. 
  • Outstanding sales orders have nearly quadrupled over the last few months to S$152m as at 15 April 2017 (from S$38.3m in October 2016) and is expected to be delivered in FY17F. 
  • The company expects to fulfil at least S$142m of its current order book and deliver operating profit of S$17.5m in 9M17.


COST STRUCTURE 


Better matching of costs from 2H17. 

  • AEM’s costs are largely variable in nature, with raw materials and other consumables generally representing the bulk of its operating expenses. 
  • From 2H17, to reduce its currency exposures, the group endeavours to further source supplies in USD, which should provide better matching of costs against sales (mainly denominated in USD).


KEY OPERATING ASSETS 


Global engineering services network. 

  • Through its extensive engineering service support network comprising three manufacturing plants located in Singapore, Malaysia and China, coupled with various sales offices, associates and distributors situated across Asia, Europe and United States, AEM is well able to provide direct engineering support to customers on a global scale.


GROWTH PROSPECTS 


Core test handler platform business to benefit from key client’s migration programme. 

  • AEM’s investments into R&D and engineering programmes bore fruit as the group secured firm orders for its high density modular test handlers from its key client (one of the largest semiconductor companies).
  • Capable of being deployed across multiple platforms, AEM’s all-in-one test handlers are time- and cost-efficient alternatives to existing single-purpose equipment, and offer better yields. We believe that AEM’s key client owns c.1,400 such tools, which will be gradually replaced over the next 8- 10 years as it migrates to AEM’s next-gen platform.

Strong relationship and early customer engagement provide high barrier to entry. 

  • AEM has over 15-year partnership, which spans four generations of test handler platforms, with its key client. Coupled with early customer engagement at R&D level, this provides a high barrier to entry. 
  • AEM is likely to remain the sole supplier in this migration exercise. After accounting for efficiency gains, our back-of-envelope estimate for replacement demand alone would be closer to 175 machines. 
  • Order wins in new sectors, particularly from the chip-intensive 5G space, could provide further upside.

Effective capacity to double by end-FY17F. 

  • The group is currently in the midst of expanding its capacity. Through the expansion of floor space and reduction in cycle time, we believe that AEM’s annual effective capacity should almost double to at least 30 machines p.a. by end-FY17F.

Recurring sale of higher-margin consumables. 

  • Over the life of these customised equipment – which is estimated to be c.15 years, AEM should continue to generate a substantial proportion of revenue from the recurring sale of consumables (such as pans, kits and spares), upgrades and services, which carry higher margins.


MANAGEMENT & STRATEGY 


Restructured for growth. 

  • AEM entered into a series of initiatives from 2012 which were aimed at the transformation of its loss-making semiconductor substrates subsidiary and invested in the development of next generation equipment for its key customer.
  • Led by industry veteran, Mr Charles Cher and Chairman, Mr Loke, AEM completed its restructuring in FY14 and began to see the first fruits of its engineering investments in FY15.

Adopts formal dividend policy. 

  • The company resumed paying dividends in FY15, after moving back into the black and instituted a formal dividend policy in FY16, committing to a minimum payout (barring non-recurring, one-off or exceptional items) of 25%. 
  • At current prices, AEM offers a prospective 2.5% yield.



NOT RATED
Return *: 1
Risk: Moderate to high
Potential Target 12-mth* : 12-Month S$ 3.35 (29% upside)

*This Equity Explorer report represents a preliminary assessment of the subject company, and does not represent initiation into DBSV’s coverage universe. As such DBSV does not commit to regular updates on an ongoing basis. The rating system is distinct from stocks in our regular coverage universe and is explained further on the back page of this report.


Singapore Research Team DBS Vickers | Lee Keng LING DBS Vickers | http://www.dbsvickers.com/ 2017-05-23
DBS Vickers SGX Stock Analyst Report NOT RATED Maintain NOT RATED 3.35 Same 3.35



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