Hi-P International - Maybank Kim Eng 2018-05-04: An About-face

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HI-P INTERNATIONAL LIMITED SGX: H17

Hi-P International - An About-face

Negative swing on guidance; Downgrade to HOLD, Target Price -40%.

• We downgrade Hi-P to HOLD with Target Price lowered to SGD1.45 after slashing EPS by 35-45% for FY18-20E. 
• Hi-P has negatively revised guidance, and now expects to end FY18 with similar revenue and lower profit compared to FY17 amid customer cautiousness. Our EPS cuts reflect lower revenue and margin assumptions to factor in volume and pricing pressure. 
• Our ROE-g/COE-g Target Price is based on 2x P/B (prev: 3.2x), based on FY18-20E avg. ROE of 16% and COE of 9%.

1Q18 growth on stronger volumes

• Hi-P's 1Q18 earnings grew 20% y-o-y on the back of a 15.1% y-o-y increase in revenue. This was driven by healthy volumes from Amazon Echo and the ultra-flagship phones of Hi-P’s key wireless customer. 
• Hi-P suffered a net FX loss of SGD13m (1Q17: -SGD5.2m) amid the weakening of the USD relative to the CNY and SGD.

Multiple headwinds emerging

• Hi-P now expects to finish FY18 with similar revenue and lower profit compared to FY17. This is a negative revision from Feb-18, when it guided for revenue and profit growth in FY18 compared to FY17. 
• A few of Hi-P’s customers have turned cautious amid the threat of a trade war. As customers reduce their volume forecasts, price competition has intensified as well. 
• Hi-P has hedged 70-80% of its FX exposure, and it might not enjoy margin improvement in the event of a USD recovery, unless these hedges are unwound. 
• At the key wireless customer, the 9% q-o-q drop in ASP of its smartphones, as well as its record inventory levels may be signalling a demand slowdown – which may negatively affect Hi-P.

Paradigm-shift needed to reverse fortunes

• A catalyst for us to potentially turn positive on Hi-P would be a strong recovery in sentiment and volume forecasts by customers. In our view, such an event could tilt the demand-supply dynamics back in Hi-P’s favour.

Investment thesis 

• We slashed FY18-20E EPS by 35-45% after the negative guidance by management. These cuts factor in a 13-24% reduction in revenue estimates amid customer cautiousness, and lower margins due to pricing pressure and possible FX headwinds.
• Hi-P now expects FY18 revenue to be flattish and net profit to be lower compared to FY17. In Feb, Hi-P had guided for revenue and net profit to be higher than FY17.

Four takeaways from 1Q18 results

• Hi-P's 1Q18 net profit of SGD10.1m (+20% y-o-y) made up 7% of our full year estimate. This was driven by growth from the key wireless customer’s ultra-flagship phone, and Amazon Echo products. 
• Hi-P also suffered a net FX loss of SGD13m in 1Q18 (1Q17: - SGD5.2m). 1Q is typically a seasonally weak quarter, and may not be representative of the full year performance. For context, 1Q17 also made up 7% of FY17 earnings.

Four takeaways from earnings and implications for the outlook:

• Cautious outlook: Hi-P cites that amid the threat of a trade war between the US and China, its customers have been more cautious in their forecasts. Price competition has also increased as various players fight for volumes in a shrinking market. Barring a further deterioration of economic conditions, Hi-P believes its pipeline of new product launches could propel a return of revenue growth in FY19E. We forecast revenue to grow by 8% in FY19E.
• FX may still be a dampener: We understood that management has hedged 70- 80% of the company’s FX exposure following the 3% fall in the USD/CNY in Jan-18. This is a double-edged sword, in our view. The hedge might mitigate further FX losses if the USD continues to weaken against the CNY and SGD. On the flipside, if Hi-P maintains this hedge as the USD strengthens, it is unlikely to be able to enjoy a recovery in margins.
• Key wireless customer read-across: Hi-P’s key wireless customer saw its smartphone ASP fall 9% q-o-q in 1Q18. Inventory levels at this customer are also at a record high. Taken together, this may be an indication of a demand slowdown for the ultra-flagship smartphone that Hi-P makes small metal components for. If this negative pricing and volume trend persist into newer models, we are concerned this would offset the allocation gains in the form of a longer list of components Hi-P is involved in.
• Signs to watch out for: A persistence of the “wait-and-see” attitude by Hi-P’s customers would be negative for the supply chain. We would need to see a strong recovery in sentiment and volumes on the supply chains that Hi-P participates in before potentially turning positive on the stock.

Swing Factors 

Upside 

• Better-than-expected orders and execution from existing projects. 
• New customer wins and new projects. 
• Improved communication regarding strategy, as well as cost control efforts. 

Downside 

• Micro-and macro-driven risks that negatively affect end-demand of products Hi-P participates in. 
• Market share losses and/or payment defaults from customers. 
• Sudden and steep declines in the USD (revenue exposure), against the CNY (operating exposure) and SGD (reported currency). 

Lai Gene Lih Maybank Kim Eng | https://www.maybank-ke.com.sg/ 2018-05-04

SGX Stock Analyst Report HOLD Downgrade BUY 1.45 Down 2.430