Investment Highlights

• We downgrade our recommendation on V.S. Industry (VSI) to HOLD from BUY with unchanged forecasts albeit with a lower fair value of RM0.83/share (previously RM1.13/share), pegged to a lowered FY21F target PE of 10x, which is -1 SD below the group’s 5-year historical average PE.

• Our PE derating is premised upon expectations of slower recovery in demand for electronics manufacturing services (EMS) players’ end products (in VSI’s case, the demand for household appliances) during and post-Covid-19 as weak consumer sentiments are expected to sweep across the globe. Furthermore, its key customers’ geographical markets such as Europe, China and North America have seen more severe outbreaks of Covid-19.

• Key highlights from VSI’s 2QFY20 conference call are as follows:

• 1HFY20 results: Core profit declined 6% YoY mainly due to 12% lower revenue in domestic and China operations and after excluding exceptional gain of RM3mil (vs. one-off forex loss of RM5mil in 1HFY19). This was offset by lower net finance costs and lower effective tax rate. PBT margins improved by 1.3ppt mainly due to lower losses incurred in China where LBT narrowed to RM7mil from RM24mil in 1HFY19 due to the group’s streamlining exercises which led to lower opex.

• MCO halts VSI’s Malaysia operations: Production has been halted since the 14-day movement control order (MCO) was announced on 18 March 2020 to contain the Covid-19 outbreak in Malaysia. Despite being in the list of approved critical manufacturing sectors i.e. the E&E sector, the group is still waiting for a reply from the Ministry of Trade of Industry (MITI) to know whether they would be able to resume operations under certain conditions for the remainder of the MCO which has since been extended by another 14 days to 14 April 2020.

• Lesser Covid-19 impact on overseas operations at this juncture:

o Indonesia: Minimal disruptions have been seen but the group expects the segment to break even for FY20 provided the outbreak does not worsen drastically.

o China: Production has resumed since 17 February 2020, with more than 70% of production workers having returned. Its challenging operating environment is anticipated to still cause underutilization of its facility (seen even prior to the Covid-19) but is expected to be mitigated by lower opex from cost optimization efforts. The group maintains its earlier guidance on projected losses for China.

• Minor supply chain delays manageable: Since suppliers in China have resumed production in mid-February 2020, VSI anticipates only some minor delays in shipments and deems the situation to be manageable. To recap, its Malaysia operation imports 30% of its raw materials from China and the group had inventory up till early March 2020.

• Bissell production pushed back for newer models: VSI’s second Bissell model began production in early March 2020 while the third model was scheduled for production later in the month. However, the production of all Bissell’s models had been halted and delayed due to the MCO. The group said that the production of its fourth Bissell model earlier slated for May 2020 would also be delayed. To recap, the group had secured a total of five models for Bissell.

• Order flow slowdown expected in 2HFY20: VSI has yet to receive revision in orders from its customers but anticipates weaker order flows as the Covid-19 impact globally is expected to lead to muted sentiments for customers’ end products. We have already accounted for the impact of the MCO on its production and weaker order flows overall in our latest forecasts.

• Covid-19 measures disrupted discussion with prospects: The group’s discussions with prospective customers have been suspended due to travel precautions and restrictions imposed.

• Despite its positive longer-term prospects, VSI’s outlook for the remainder of FY20 has been weighed down by the impact of the Covid-19 pandemic. Nevertheless, long-term prospects remain bright amid: (i) sturdy box-build order growth supported by its key customer and Bissell’s product launches which are slated over the next few years; (ii) its ability to offer turnkey EMS solutions as a vertically-integrated player, and (iii) narrower loses from China due to cost-saving measures, but we believe the stock is fairly valued at its current price.

Source: AmInvest Research - 2 Apr 2020