Investment Highlights

• We downgrade our recommendation to HOLD from BUY on ATA IMS (ATA) with a lower fair value of RM1.59/share (previously RM2.02/share), pegged to a CY21F PE of 14x.

• We slash FY20F earnings by 18% as we anticipate 4QFY20 to be affected by setup costs and initial lower volume relating to the group’s personal care product which began production in December 2019. We also reduce FY21F–FY22F earnings by 19–21% after adjusting our margin assumptions downwards to account for higher material content in its key customer’s product assembly lines moving forward due to an increasing complexity of product features.

• ATA’s 3QFY20 core profit came in below expectations at RM20mil, bringing 9MFY20 core profit to RM76mil. The results accounted for only 61% of our full-year forecasts and 62% of consensus’ estimates.

• YoY: 9MFY20 core profit dove 18% despite higher revenue amid: (i) higher material contents of newer models produced for its key customer’s assembly lines, likely relating to its household product line that commenced production in March 2019; (ii) higher marketing expenses for the overall group; and (iii) manpower recruitment costs relating to its five new customers’ projects slated to begin production in 2020. Note that the five new customers will start contributing to group revenue in FY21.

• Meanwhile, 9MFY20 revenue rose 25% amid higher box-build orders from its key customer as ATA produced a broader range of products YoY.

• QoQ: 3QFY20 profit plunged 35% in tandem with revenue declining by 7% due to lower sales orders from its key customer which resulted in higher overhead expenses.

• Update on 2020 assembly lines: ATA had secured two new projects for its key customer for CY2020, one for a floorcare product to commence production in April 2020 and a light product which already commenced production. The group said it has secured one more project for its key customer for the 2H of 2020.

• Updates on ATA’s vertical integration efforts:

(i) Wire harness capability: Pending certification and approval from its main customer which it targets to achieve in 4QFY20, production is likely to begin in 1QFY21

(ii) Brush bar assembly: Started production in 3QFY20 but the group said that its key customer has decided for ATA to not be fully self-sufficient for brush bar and that the group would still be ordering from external suppliers to reduce supply risk. The group has one machine running optimally and plans to order two more machines.

(iii) Printed circuit board assembly (PCBA) and battery pack assembly: Currently, it still has 16 lines in January 2020 and targets to be fully self-sufficient by 4QFY20, catering for ~75% of ATA’s internal requirements. The PCBA and battery pack assembly is expected to be injected into ATA by 2021.

• Coronavirus disease 2019 (Covid-19) outbreak impact: The group has shared that 30% of its raw materials are imported from China and that it has enough raw material inventory to last up till mid-March 2020. The group has not seen any decline in order flow from its key customer nor production disruptions, and said its key customer is focusing its attention on minimizing the impact on its operations and supply chain.

• We continue to like ATA due to its positive earnings prospects arising from: i) it being the purest proxy to the robust growth prospects of its key customer; (ii) its move to become a vertically-integrated player will put it in a better position to secure order and/or customers; and (iii) its 3-year profit CAGR of 16% for FY19–FY22F underpinned by its modular expansion strategy. However, we believe that the company is fairly valued at the current price.

Source: AmInvest Research - 27 Feb 2020