Valuetronics - Maybank Kim Eng 2018-08-14: Smart-Lighting Has Bottomed

Valuetronics - Maybank Kim Eng Research 2018-08-14: Smart-lighting Has Bottomed VALUETRONICS HOLDINGS LIMITED SGX:BN2

Valuetronics - Smart-lighting Has Bottomed

    1QFY19 in line; Target Price cut 9% on tempered expectations

    • Valuetronics’ 1QFY19 PATMI of HKD49.7m (+2% y-o-y) was in line with our and consensus forecasts. Sales stayed flat, as growth from automotive and consumer lifestyle businesses were offset by the smart lighting drag.
    • We cut FY19-21E EPS by 7-11%, factoring in tempered expectations of the IOT lighting recovery, as well as other growth sources amid unfolding trade and demand uncertainties. ROE-g/COE-g Target Price is reduced 9% to SGD1.05, now based on 2.3x P/B (prev: 2.5x).
    • Attractive FY19E yield of 6% should provide share-price support. Maintain BUY.

    Smart lighting: Bottomed, but ST recovery tempered

    • Following the inventory adjustment, Valuetronics’ customer indicates inventory dynamics across the supply chain are now healthy. That said, the customer has tempered expectations on the pace of recovery in 2HCY18, and we believe this is a negative development vis-à-vis our original expectations.
    • Longer-term prospects appear firm, judging by pricing trends, end-market demand recovery and feedback from Valuetronics.

    ~ SGinvestors.io ~ Where SG investors share

    Bright spots in auto and consumer lifestyle

    • Valuetronics attributed the strong automotive performance to growth from the existing end-customer, as well as nascent contributions from the new customer. 
    • We were encouraged that the consumer lifestyle printed circuit board assembly business was not affected by the customer’s inventory correction in 2QCY18, and delivered robust growth. Management remains positive on these two businesses.

    Trade war and components shortages

    • We agree with management’s concern that key risks would be from the indirect effects / escalation of the trade war. The direct impact of the tariff lists affected only a minuscule portion of Valuetronics’ revenue.
    • Valuetronics is working with some customers to buy components based on the spot market to ensure shortages do not hinder production. Higher spot prices are passed through to the customer and are not borne by Valuetronics.

    Revisions To Estimates

    • We cut FY19-21E EPS by 7-11% after factoring in:
      1. our expectation that the recovery in smart-lighting projects could be slower than expected;
      2. tempered growth expectations for the remaining businesses amid current uncertainties; and
      3. higher SG&A as a % of sales to factor in some effects of negative operating leverage from our lowered revenue expectations.
    • Our ROE-g/COE-g Target Price is based on 2.3x P/B (prev: 2.5x), based on FY19-21E average adjusted ROE of 21% and LTG of 2%.

    1QFY19 results:

    • Valuetronics’ 1QFY19 PATMI of HKD49.7m (+1.9%) was in line with our and consensus’ estimates. Sales grew a mere 1.2% y-o-y, as a 15.2% growth in Industrial and Commercial Electronics (ICE) was broadly offset by a 15.6% reduction in Consumer Electronics (CE) revenue. ICE growth was powered by in-car connectivity modules for the automotive customer.
    • Meanwhile, CE weakness was attributable to a sharp reduction in smart lighting volumes, offset by growth of the consumer lifestyle PCBA business.
    • While headline gross margin fell 0.4ppt y-o-y to 14.6%, underlying pricing trends appear largely stable. Stripping out the effects of depreciation, gross material margin dipped 0.1ppt to 16.2%. PATMI was shored up by a jump in other operating income from net exchange gains and other miscellaneous items.

    Takeaways from this set of results:

    Tempered expectations for FY19E smart lighting recovery:

    • According to management, smart lighting contributed less than 10% of 1QFY19 sales. This is a drastic drop, as this business tended to have contributed around 20-25% of sales in quarters prior to the inventory correction episode. We suspect this may have been due to much lower demand pull from the customer to facilitate inventory correction that occurred in 1HCY18.
    • In its latest quarterly earnings, the customer has updated that channel inventory dynamics are now healthy. That said, the customer has tempered expectations of the extent of recovery, and now no longer expects to finish CY18 with positive comparable sales growth. Contrasting our initial expectations, we believe this development is negative. Valuetronics believes smart-lighting might have bottomed in 1QFY19.

    Smart-lighting longer term trends still healthy:

    • The customer said smart lighting sell outs (i.e. sales from retailers to end consumers) are recovering well. On Amazon, pricing remains stable and Valuetronics has not observed pricing pressure like it did with the previous mass LED project when the latter reached market saturation. 
    • Still, the smart-lighting market is competitive and we will continually monitor the indicators of long-term health for this project.

    Automotive customer trends:

    • Valuetronics expects the infotainment in-car connectivity modules it produces for the automotive customer is the primary driver of ICE growth. According to management, the growth witnessed in the quarter was attributable to a new series of cars from the existing end- automaker customer, as well as nascent contributions from a new end- automaker customer.
    • Valuetronics’ direct automotive customer is still optimistic towards its prospects in automotive infotainment and user experience, which is a positive signal for Valuetronics, in our view.

    Impact from trade war and components shortage:

    • According to management, the US-China trade war tariff lists affected only a minuscule portion of their sales. As such, management believes it was unlikely that customers pulled more orders to avoid tariffs. 
    • As for the industry-wide components shortage, management will work with customers to support their supply chains, in instances opting to purchasing from the spot market. Valuetronics states that the spot premium is not borne by them, but is passed through to the customer.

    Lai Gene Lih Maybank Kim Eng Research | https://www.maybank-ke.com.sg/ 2018-08-14
    SGX Stock Analyst Report BUY Maintain BUY 1.05 Down 1.150