UMS Holdings - UOB Kay Hian 2021-03-15: High Precision Semiconductor Play


UMS Holdings - High Precision Semiconductor Play

  • UMS is a pure semiconductor play with exposure to the leading Endura platform by Applied Materials (AMAT). The swift rebound post COVID-19 lockdowns in 2Q20 has shown strong underlying demand, and rational competition is expected due to elevated capacity utilisation rates across the semiconductor industry.
  • Current valuations are attractive given UMS’s sticky positioning within the sector.
  • Initiate coverage on UMS with BUY and target price of S$1.65.

UMS - Company Background

  • UMS (SGX:558) is a precision engineering group which:
    1. specialises in manufacturing high precision front-end semiconductor components; and
    2. performs complex electromechanical assembly and final testing services.
  • UMS produces modular and integrated systems for OEMs. Aside from the semiconductor industry, UMS also caters to other industries, including electronics, machine tools, aerospace and oil & gas.
  • UMS has been in the industry for more than 20 years. It is established as one of the leaders in the semiconductor industry providing front-end high precision components to OEMs. The company continually invests in R&D to respond rapidly and effectively to customer needs.
  • UMS is qualified for more than 70 special processes in the production of components for semiconductor equipment manufacturers. Some of the special processes are anodising, plating and chemical cleaning.
  • Channel checks suggest Applied Materials (AMAT) is a key client of UMS, and the sticky relationship has spanned over two decades since 1999. In 2020, AMAT contributed 93% of UMS's revenue.
  • UMS's revenue comprises two segments, mainly semiconductor (93%) and others (7%) − which includes:
    • design and fabrication of electro-chlorination systems by 51%-owned Kalf Engineering, and
    • the supply of aluminium alloy products (through 70%-owned Starke Singapore).
  • For the main semiconductor segment, two sub-segments comprise systems integration and component sales. In the former, UMS derives a significant proportion of sales from the production of wafer transfer modules, one of the key components for AMAT’s Endura deposition machines. The component sales segment constitutes sales of tools and components (or consumables). They are typically required upon maintenance and repair works for AMAT’s other semiconductor front-end platforms.
  • UMS’s production facility spans 640,000sf of space across Singapore and Penang in Malaysia.

UMS - Investment Highlights

Riding on strong uptrend.

  • The semiconductor industry is riding on a strong uptrend, with significant demand for semiconductor chips arising from 5G-related spending and the growth of data.
  • With the mass adoption of 5G, there will be a need for more semiconductor chips:
    1. embedded within the massive Internet of things (IoT) ecosystem; and
    2. to support emerging end-market drivers that include artificial intelligence, augmented and virtual reality, and smart or autonomous vehicles.
  • Demand in 2020 showed resilience, despite being impacted by supply chain disruption from global lockdowns related to the COVID-19 pandemic. Specifically for UMS, it provides modules and precision components for machines used to manufacture semiconductor chips.

Positive outlook from key client Applied Materials.

  • About 93% of UMS’s 2020 revenue (2019: 92%) was derived from Applied Materials (AMAT US), the semiconductor industry’s largest maker of machinery used to manufacture chips. In its latest outlook, AMAT is seeing strong order demand for its semiconductor segment, up 50% y-o-y at the midpoint of its 2QFY21 as at 18 Feb 21, due to the acceleration of the economy’s digital transformation.
  • The positive view meshes with the ones provided by peers KLA Corporation (KLAC US) and Lam Research (LRCX US), which lead different portions of the upstream semiconductor market. This further augments our view that the semiconductor industry is on track on its uptrend.

Proven track record as critical supplier.

  • UMS’s close working relationship with AMAT spans over 20 years, since 1999. The relationship has only become stickier after UMS manoeuvred itself into the position of a key module supplier to the semiconductor giant.
  • UMS manufactures wafer transfer modules, one of the key components used across AMAT’s Endura deposition machines.
  • In addition to the current high factory utilisation rates ( > 70%) and a healthy pricing environment lifting its top-line, we believe there is scope for margin improvement at UMS.

Positive operating leverage to kick in.

  • The cyclical upturn is expected to provide further uplift to the current high factory utilisation rates ( > 70%). We believe competition would be rational among suppliers, given the elevated capacity utilisation rates across the semiconductor industry.
  • On the back of an anticipated 25%/11% growth in 2021/22 revenue to S$205.0m/S$227.5m respectively, core net profit is estimated to jump 36%/17% to S$59.0m/S$69.0m, mainly due to positive operating leverage at UMS. This translates to a core net margin expansion from 26.5% in 2020 to 28.8% and 30.3% for UMS in 2021 and 2022 respectively.

Large cash pile and exceptional record of positive free cash flow.

  • As at end-20, UMS amassed a net cash pile of S$32.8m.
  • Additionally, UMS has an exceptionally strong track record of generating positive free cash flow over the past decade, averaging S$31.5m between 2009 and 2020, which ranged from S$12.3m in 2009 to S$51.4m in 2019. This provides a reflection of management’s astute ability in positioning the company as a critical supplier in the semiconductor value chain.

Consistently paying out dividends.

  • See UMS dividend history. While dividend per share is anticipated to stay low in 2021/22 due to capital investments, we believe UMS would still be able to dish out S$0.04 across the next two years, which translates to a payout ratio of 32-37%. Nevertheless, investors still receive a respectable 3.5% based on the current UMS share price.
  • Further out following the capital spending phase, we are of the view that dividend per share could be readjusted upwards by 50% to S$0.06 from 2023 onwards, which would translate to a 46.6% payout ratio.

UMS - Valuation

  • Initiate coverage on with BUY and target price of S$1.65, pegged to 14.9x 2021F P/E, or +1.5 standard deviation of its historical 5-year average.
  • We think current valuations of 10.9x forward P/E for UMS is attractive, given that the cyclical upturn for the semiconductor industry is underway. Additionally, the 16.4% discount to peer average is unwarranted, given the superior net margins UMS has achieved consistently. See comparison with peers including AEM (SGX:AWX), Frencken (SGX:E28) and Venture Corp (SGX:V03) in report attached below.
  • Furthermore, while UMS's dividend per share is anticipated to stay low at S$0.04 in 2021/22 due to capital investments, it still offers investors a respectable 3.3% at current UMS share price. We are of the view that there could be a 50% upward revision in dividends from 2023 onwards to S$0.06 per share, which translates to a 45.3% payout ratio.

See the 16-page report attached below for complete analysis on UMS (SGX558).

Clement Ho UOB Kay Hian Research | 2021-03-15
SGX Stock Analyst Report BUY INITIATE BUY 1.65 SAME 1.65