Sunningdale Tech Ltd - CGS-CIMB Research 2018-08-08: Watching Gross Margin Trend

SUNNINGDALE TECH LTD SGX:BHQ

Sunningdale Tech Ltd - Watching Gross Margin Trend

At 39% of our full-year forecast, we deem Sunningdale’s 1H18 net profit in line assuming 2H seasonality and US dollar strength holds.
A higher interim DPS of 3.0 Scts was declared (1H17: 2.5 Scts).
Key one-off items in 2Q18 results were S$3.8m FX gain and S$1.0m start-up loss at its new Penang plant.
We are concerned over the gross margin trend and have cut our FY18-20F gross margin assumptions. We subsequently cut our FY18-20 EPS forecasts and Target Price.

Maintain ADD. Our target price of S$2.05 (previously S$2.50) is based on 1.02x FY18 P/BV (previously 1.23x FY18 P/BV), as ROEs decline.

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Given the seasonally stronger 2H and the current strength of the US dollar vs. the renminbi, ringgit and the Singapore dollar, Sunningdale’s 1H18 net profit at 39% of our full year forecast may still be deemed in line.
Our concern is the continued gross margin weakness. 2Q18 gross profit margin was 12.7%, similar to 1Q18 but still lower than the peak gross profit margin of 15.6% achieved in 2Q17.
Gross profit margin excluding the S$1.0m start-up loss at the new Penang plant was 13.1%.

Excluding the foreign exchange gain of S$3.4m and the start-up loss of S$1.0m at the Penang plant, Sunningdale’s 2Q18 recurring net profit fell 33% y-o-y to S$7.4m (2Q17:S$10.9m). The Consumer/IT segment continued to face end-of-life issues in the second quarter while new projects have yet to commence their production ramp up phase. This led to a 5.2% y-o-y revenue decline for this segment.
A higher interim DPS of 3.0 Scts was declared (2Q17: 2.5 Scts).

Keys risks include
1. volatile foreign exchange markets,
2. rising labour costs, and
3. the ongoing trade war.
Sunningdale has received business queries from both new and existing customers for projects on a global scale. The group will continue its strategy to further diversify its customer base and product mix.
Within the Consumer/IT segment, the group has made the strategic decision to shift from lower-margin projects to focus on high-margin, complex precision engineering parts.

When we initiated coverage on Sunningdale in 2016, we assumed gross profit margins of 13.5% which Sunningdale subsequently managed to beat. Gross margin peaked in 2Q17 at 15.6% and seems to have stabilised at 12.7% in 1H18.
Given the current business dynamics, we are assuming a lower gross profit margin of 13.5% (average of 1Q14- 2Q18) for FY18. FY19-20F gross margin assumptions are also reduced.

Our target FY18F P/BV multiple falls to 1.02x (1.23x previously). Based on FY18F BVPS of S$2.01, our new Target Price is S$2.05.
We maintain our ADD call, with better cost management as a potential catalyst. Slowdown in customer orders is a downside risk.
Sunningdale’s 2Q18/1H18 revenue rose 2.4%/0.4% y-o-y. We opine that Sunningdale would need an acquisition to grow its revenue faster. Its last acquisition was First Engineering in 2014.

William TNG CFA CGS-CIMB Research | https://research.itradecimb.com/ 2018-08-08

SGX Stock Analyst Report ADD Maintain ADD 2.05 Down 2.500