Frencken Group - DBS Research 2019-11-07: Semiconductor Turnaround Beneficiary


Frencken Group - Semiconductor Turnaround Beneficiary

  • Frencken Group's 3Q19 results above expectations; growth driven by Industrial Automation and Semiconductor.
  • Expect Semiconductor and Medical segments to grow y-o-y in 4Q19.
  • Raised FY19F and FY20F earnings forecasts by 11-12%.
  • Maintain BUY with higher Target Price of S$0.95.

Benefitting from Semiconductor turnaround; Industrial Automation remains key.

  • We expect FRENCKEN GROUP (SGX:E28) to benefit from the turnaround in the Semiconductor segment given its c.20% revenue exposure. Industrial Automation remains a key division, riding on the optimistic outlook of its key customer.
  • Frencken Group’s strong presence in a wide variety of industries and business segments - Automotive, Analytical & Life Science, Medical, Semiconductor and Industrial & Industrial Automation provides greater resilience and stability.
  • At 7.4x FY19F and 6.8x FY20F earnings, Frencken Group is trading at about 30% discount to its peers’ average of c.11x price-to-earnings (PE). In our view, this discount is too steep.
  • The stock is supported by a dividend yield of about 4%, based on a 30% payout ratio. See Frencken Group Dividend History.

3Q19 results above expectations.

  • Frencken Group's 3Q19 revenue increased 3.8% y-o-y to S$170.2m. Higher sales of the Mechatronics Division, in particular, the Industrial Automation and Semiconductor segment, more than offset a decrease in sales from the IMS Division. The strong Industrial Automation segment was mainly driven by higher sales of storage drive production equipment to a key multinational customer. See Frencken Group Announcements.
  • Sales for the Semiconductor segment improved 10.2% y-o-y (+38.4% q-o-q), due to higher orders for both front-end and back-end semiconductor equipment from customers in Europe and Asia. 3Q19 earnings surged 117.4% y-o-y to S$11.4m. Excluding the exceptional items of S$4m in 3Q18, earnings would have shown a y-o-y increase of 22.8%.
  • For the 9-month period, Frencken Group’s revenue increased 9.7% y-o-y to S$493.6m, mainly due to sales growth at the Mechatronics Division, while net earnings surged 63.8% to S$31.1m. Excluding the exceptional items, the group would have posted a y-o-y increase of 35.0% in earnings.
  • Overall, revenue and earnings account for 77% and 84% of our forecasts respectively, above expectations.

Margin improvement.

  • Gross profit margin improved to 15.9% in 3Q19 from 15.3% in 3Q18, mainly due to higher gross profit margin of the filter business within the IMS Division.

Outlook for 4Q19:

  • The Semiconductor segment is expected to post y-o-y revenue growth in 4Q19. Revenue of the Medical segment is also expected to grow y-o-y in 4Q19 due to increased sales to customers in Europe and Asia. However, the Analytical segment is expected to show a y-o-y decrease in revenue in 4Q19, as this segment’s key customer envisages softer demand from its end-customers in the semiconductor industry during 4Q19. Revenue of the Industrial Automation segment, which is typically lumpy in nature, is anticipated to decline in 4Q19, as compared to both 4Q18 and 3Q19.
  • However, its key customer in this segment remains well positioned to ride on mass-capacity storage demand. The Automotive segment in 4Q19 is expected to post softer revenue as compared to 4Q18.

Raised FY19F and FY20F earnings forecasts by 11-12%; maintain BUY with higher Target Price of S$0.95.

  • Earnings for FY19F and FY20F were revised up by 11-12%, mainly to account for the turnaround in the Semiconductor segment, still strong performance for the Industrial Automation division, and slight margin improvement.
  • Our target price is raised accordingly to S$0.95 on Frencken Group’s higher earnings, pegged to 9x FY20F PE, (up from 8.5x in line with the recent re-rating of technology stocks). We retain the 20% discount peg to peers’ average given Frencken Group’s smaller scale. See Frencken Group Share Price; Frencken Group Target Price.
  • Maintain BUY.

Where we differ:

  • We use a lower PE multiple of 9x, which is at a 20% discount to its peers’ average given Frencken Group’s smaller scale.

Potential Catalysts:

  • Positive outcome from US-China trade negotiations;
  • Better operational efficiency to improve margins.

Lee Keng LING DBS Group Research | 2019-11-07
SGX Stock Analyst Report BUY MAINTAIN BUY 0.95 UP 0.800