Aztech Global - DBS Research 2021-08-02: Speed Bump From Component Shortage

AZTECH GLOBAL LTD. (SGX:8AZ)

Aztech Global - Speed Bump From Component Shortage

Aztech reported strong 1H21 results, driven by IoT and datacom products; overall still slightly below expectations.
Gross margin affected by component shortages; commendable net margin on operational efficiencies.
Strong orderbook momentum but component shortages could affect order fulfilment.
Cut earnings by 5% to 6%; maintain BUY with lower target price of S$1.74.

Aztech (SGX:8AZ)'s 2Q21 net profit of S$16.2m gained 22.7% q-o-q and 29.6% y-o-y, on the back of the +15.4% q-o-q and +15.4% y-o-y increases in revenue to S$133.7m. 1H21 revenue increased by 93.4% y-o-y to $249.7m driven by higher production volume and shipment of IoT devices and data communication products to customers. IoT and datacom products accounts for 93.2% of total revenue (vs 88.4% in FY20) and the balance of 6.8% is from the LED lighting division.
Aztech has deliberately phased out some of the LED business to allocate more resources for the growing IoT business. Major customer A contributes about 65% of the total revenue, while new customers account for 10-15%. More new products are expected to be launched in 2H21.
Besides strong demand, the shorter shutdown period for its facilities in China during the CNY holiday period in February this year as compared to last year and the additional manufacturing contribution from its Malaysia plant also contributed to the higher revenue.

Net profit of S$29.4m was up 126% y-o-y, accounting for 38% of our full-year numbers, slightly below expectations. No interim dividend was declared, as Aztech prefers to conserve cash and pay an annual dividend instead.

The gross margin of 27% for 1H21 was lower than the 30.1% in 1H20 and 28.5% for FY20. This was mainly due to the component shortages, which has affected the whole industry. Though Aztech is still able to secure most of the components, leveraging on its strong customer-supplier relationship, there is a small amount of critical components that Aztech has to pay a higher price of about 2% to 5% more, in order to secure. And not 100% of the cost increase can be passed to customers.
However, the group expects to be able to pass on more costs to customers going forward. Aztech is also exploring with its customers to look for new suppliers but this path could be more costly.

As the component shortage is an industry-wide issue, Aztech’s suppliers and customers were also affected.
Without the component shortage issues, net revenue could have increased by another 10%. Given the high utilization rate for foundries and a seasonally stronger 2H, we expect the component shortage situation to improve only in 1H22 and normalise in 2023.

Despite the lower gross margin, the group is still able to record a net margin of 11.8% for 1H21, which is higher than the 10.1% in 1H20 and 11.5% for FY20. This was achieved via the various initiatives that the group has put in place to improve productivity and operational efficiencies.

Inventory level as at end-June 2021 surged to S$92.4m, which is about 3x higher than the pre-pandemic level. Aztech has purchased raw materials and components in view of the overall tight supply globally and to meet the production requirements for 2H21. The strategy now is to order more just in case there is not enough supply, instead of ordering just in time for production. Aztech’s customers are supportive of this strategy and are even willing to pay for the materials in advance to ensure smooth delivery of goods.

Some of the production orders were transferred from Aztech's facility in Malaysia to its China facilities to ensure smooth production and order delivery. Currently, the Malaysia plant accounts for 20% of the total production and the bulk of the 80% is still from its China facilities.
74% of the employees in Dongguan, China have received two doses of vaccination, and 26% received one dose. But for the Johor plant, only 0.4% received two doses of vaccination, 7.51% one dose, and the bulk of 92.09% are not vaccinated.
The plan to construct a 500,000 sq ft new manufacturing facility has been deferred to end-2022 or the beginning of 2023, pending location evaluation and improvement in the COVID-19 situation. The current capacity utilisation rate is about 60%.
Strong orderbook momentum but component shortages could affect order fulfillment. Aztech's outstanding orderbook is now S$604.4m (vs S$489m as at 1Q21). Out of this, about S$150m is scheduled for completion in FY22. However, in view of the supply chain constraints and the recent worsening of the COVID-19 infection, we believe that a higher proportion of the outstanding orderbook (instead of only about S$150m) can be fulfilled only in FY22.

On the back of the worsening component shortage issues and the still-fluid pandemic situation, we have trimmed our earnings forecast for Aztech down by 6% for FY21F and 5% for FY22F, on the back of the 7%/6% cut in revenue for FY21F/FY22F.
Despite the lower earnings estimates, Aztech is still expected to register a strong earnings growth of 35% in FY21F and another 32% in FY22F. At the current FY21F P/E of 13.6x vs earnings growth of 35%, Aztech is trading at an attractive PEG of only 0.39x, ~61% discount to the peers’ average of 1.0x.
See
On the back of the lower earnings, our target price for Aztech is reduced to S$1.74 (prev S$1.85), still pegged to the peers’ average of 17.9x P/E on FY21F earnings. Maintain BUY.

Lee Keng LING DBS Group Research | https://www.dbsvickers.com/ 2021-08-02

SGX Stock Analyst Report BUY MAINTAIN BUY 1.74 DOWN 1.850