Micro-Mechanics Holdings Ltd - Phillip Securities 2020-09-07: A New Growth Driver Emerges

MICRO-MECHANICS (HOLDINGS) LTD (SGX:5DD)

Micro-Mechanics Holdings Ltd - A New Growth Driver Emerges

Micro Mechanics (SGX:5DD)'s 4Q20 (Apr 2020 to Jun 2020) earnings met our expectations. PATMI jumped 48% y-o-y in 4Q20 to S$3.9mn.
Gross margins have recovered to their highest levels in seven quarters. We believe higher prices was a reason for the improvement.
We are upgrading Micro Mechanics to BUY. We are expecting record earnings for Micro Mechanics.
- Firstly, the existing backend business is enjoying a recovery in sales and gross margins;
- Secondly, after several years of development, we believe the US operation has secured a significant breakthrough in new front-end projects and customers. It will be a new growth segment for Micro Mechanics.

Our target price is revised upward from S$1.60 to S$2.50, or 18x PE FY21e. FY21e earnings has been raised by 25%.

Micro Mechanics managed to grow revenues despite production disruptions during the quarter. In Malaysia, staff levels were down to 25% of capacity in April and May, it recovered fully only in June. Meanwhile, the U.S. operations operated at 60% to 80% of staffing levels throughout the quarter.

Micro Mechanics enjoyed gross margins of 55.5% in 4Q20, the highest in seven quarters. Margins were surprisingly high despite the weaker utilization rate of 56% compared to 58% a year ago. We believe there was better pricing power in 4Q20 as customers needed to create buffers in their inventory levels with worries over possible disruption to the supply chain. A move in inventory levels from just-in-time (JIT) to just-in-case (JIC).

The final Micro Mechanics for FY20 was unchanged but special dividends doubled to 2 cents. Worth noting that Micro Mechanics has been paying special dividends for the past five years. It seems to be normal rather than special. Therefore, the blended increase is 17% and total dividends for FY20 (including interim 5 cents) has increased by 20% to 12 cents. A dividend yield of 5.5%.

We are upbeat on the outlook for Micro Mechanics. The two major growth drivers are:
1. Recovery in the semiconductor cycle: Using Taiwan back end semiconductor volumes as a barometer of the cycle, we believe another volume growth cycle is underway. As per Figure1 in PDF report attached below, a typical cycle of volume growth in units can last for an average of 33 months. The current cycle that started in September 2019 is only 10 months. The steepness in volume growth is not clear. But additional applications for semiconductors in automobile, telecommunications, IOT and gaming will be key catalysts. The usage of Micro Mechanics consumables is dependent more on volumes than semiconductor prices.
2. U.S. operations penetrating the front-end semi chain: US operations has been in losses for the past five of six years. The loss in FY20 was a minor S$100k. With the announcement of the qualification of a new project with a family of ultra-critical parts in the wafer-fabrication (or front-end) process, we expect a major turnaround for the U.S. operations.

We are raising our recommendation from NEUTRAL to BUY. Micro Mechanics is entering a new upcycle in semiconductor volume and major penetration into a new business segment.
Micro Mechanics also pay an attractive dividend yield of 5.5% backed by a net cash balance sheet of S$20mn and unlevered ROE of 25%. We benchmark our valuations to 18x PE of the back-end semiconductor equipment sector. Our FY21e earnings has been raised by 25%.
See Micro Mechanics Share Price; Micro Mechanics Target Price; Micro Mechanics Analyst Reports; Micro Mechanics Dividend History; Micro Mechanics Announcements; Micro Mechanics Latest News.

Paul Chew Phillip Securities Research | https://www.stocksbnb.com/ 2020-09-07

SGX Stock Analyst Report BUY UPGRADE NEUTRAL 2.50 UP 1.600