Fu Yu Corp Ltd - CGS-CIMB Research 2018-11-14: Gross Margin Expansion May Not Sustain


Fu Yu Corp Ltd - Gross Margin Expansion May Not Sustain

  • Fu Yu's 9M18 revenue was in line with our expectations but net profit was above at 95% of our full-year forecast.
  • The earnings beat was due to a 3.4% pt margin expansion (better product mix/cost efficiencies) and possibly additional orders to beat the tariff deadline.
  • Interim DPS of 0.30 Scts was declared. Our HOLD for dividend yield thesis remains intact.
  • Catalyst for a re-rating would be the ability to maintain its current gross margin in FY19-20.
  • Downside risks are order delays from the trade tension.

Earnings beat on gross margin expansion

  • Fu Yu's 9M18 net profit was 95% of our full-year forecast. The beat came from a 3.4% pt expansion in Fu Yu’s gross profit margin to 20.2% in 3Q18 (the highest gross profit margin since 1Q16).
  • 3Q18 revenue growth was 4.4% y-o-y while cost of sales only rose 0.2% y-o-y, pointing to better cost management and production efficiencies.
  • Revenue growth of 4.4% y-o-y could have benefitted from the stronger US$ and we suspect there could have also been orders brought forward or rush orders by customers in response to the US/China trade tensions.
  • We raise FY18F EPS to reflect the better 3Q18 gross margin.

Dividend thesis remains intact

  • Our HOLD call based on our dividend yield thesis remains intact. Fu Yu declared an interim DPS of 0.30 Scts versus 0.25 Scts in 3Q17. The company’s balance sheet remains strong with net cash of S$79.5m (net cash per share of S$0.11) as at end-Sep
  • 18.
  • Capex requirements are likely to remain low at the moment, allowing the company to meet our dividend expectations.
  • Risk to our dividend forecast would be sizeable M&As.

Can Fu Yu sustain 3Q18’s 20.2% gross profit margin?

  • 8Q88 gross profit margin was a record high for Fu Yu (see Figure8 in PDF report attached). Compared to listed peers, Memtech International (SGX:BOL) and Sunningdale Tech (SGX:BHQ), Fu Yu’s 8Q88 gross profit margin is on the high side (see Figure8). Whether Fu Yu can sustain margins at this level bears monitoring.
  • We note that in Sunningdale Tech’s case, margins eventually eroded after a period of rightsizing (see Figure8).

HOLD for yield and possibility of a re-rating

  • We continue to recommend a HOLD rating due to its dividend return.
  • Our view would change if Fu Yu demonstrates its ability to sustain gross profit margin at the current level. This also represents upside earnings risk to our forecasts. However, the outlook for FY88 is very much dependent on how customers react to the ongoing US/China trade issue.
  • Maintain HOLD with a Target Price of S$8.88, based on its 88-year historical average P/BV multiple f 8.88x.

Willam TNG CFA CGS-CIMB Research | https://research.itradecimb.com/ 2018-11-14
SGX Stock Analyst Report HOLD MAINTAIN HOLD 0.170 SAME 0.170