Investment Highlights

• We maintain our HOLD recommendation on V.S. Industry (VSI) with a higher fair value of RM1.16/share, pegged to an FY20F PE of 14x (previously RM1.04/share), representing a 12% upside. We raise our FY19F–FY21F revenue 5–17% to account for Bissell’s contribution to VSI and raise profit forecasts by 1–2% after also adjusting margin assumptions for its other key customers downwards.

• We attended a briefing with VSI and came away with the following key highlights:

o Latest key customer Bissell’s potential:

• Anticipation of sturdy box-build order growth: We have factored in Bissell’s earnings contribution for FY20F onwards based on VSI’s sales estimates, where revenue from Bissell Is anticipated to reach RM1.2bil by CY2022. Its first model of a carpet cleaner is expected to start mass production in August 2019. VSI will be Bissell’s first supplier in Southeast Asia, with other manufacturing facilities in Mexico and China.

• Better margins expected: Higher margins are expected for Bissell relative to VSI’s existing key customers, given that VSI will be able to choose and negotiate with its own suppliers (versus having fixed material costs) which could lead to margin savings. Furthermore, the impact of USD currency fluctuations would also be potentially passed on to customers on a quarterly basis.

• Dedicated plant with minimal capex: VSI has allocated its “new” 120K sq ft facility which has since been renovated to 160K sq ft to Bissell. The plant will be equipped with injection moulding facilities, assembly lines, a warehouse and a test lab. VSI has allocated not more than RM5mil capex mainly for Bissell’s assembly lines, as these utilize its readily-available facilities and machinery at the plant.

o Addressing order flow concerns for a key customer: The group dismissed a rumour that a key customer would terminate its orders given that there would be a mandated 6- month notice due to the significant scale of production. After the six-month notice period, if both parties agree to the terms, it would take another 1-2 years to gradually scale down before a full termination comes into effect. A check with the customer directly revealed that it was also unaware of the basis for this rumour. As for concerns on producing competing products among its customers, the group shared that VSI had sent a letter to the aforementioned key customer prior to signing its contract with Bissell, in which the customer did not respond, and hence was taken as no objection.

o To seize opportunities from the US-China trade war: As VSI has received enquiries from various MNCs wishing to shift or diversify their manufacturing bases from China to Southeast Asia, the group has set up a business development department equipped with an operations and resourcing team of 6–7 people to specifically cater to securing business opportunities that arise from the US-China trade war. Besides this, VSI is prepared to take on new customers and/or orders given its ready capacity in its other 180K sq ft factory. The group is hopeful of its potential to secure prospective customers given its track record with key customers and availability of facilities and capabilities to take on new contracts (i.e. VSI currently has 550 plastic injection moulding machines and 20 PCBA lines).

• Despite improved earnings prospects from Bissell’s contribution, we are cautious on the unproven working relationship between Bissell and VSI and maintain our HOLD recommendation despite its otherwise positive prospects which we believe have been fairly priced in. VSI’s positive prospects stem from: (i) its ability to offer turnkey electronic manufacturing services (EMS) solutions being a vertically-integrated player; (ii) its handsome growth prospects with a 3-year CAGR of 4% from FY18–FY21F and dividend yield of 3–4% underpinned by sustainable capacity expansions and sturdy growth of box-build orders from its existing key customers, and (iii) its potential to secure more orders and/or prospective customers.

Source: AmInvest Research - 7 Mar 2019