Investment Highlights

• We maintain our BUY recommendation on Pentamaster Corporation (Pentamaster) with a lower fair value of RM4.95/share (previously RM5.39/share), pegged to an unchanged FY21F PE of 23x, in line with its sector weighted average forward PE. We cut our FY20F–FY22F forecasts by 8–10% on expectations of a weaker 2QFY20 and a deferment in orders due to the Covid-19 impact.
• Key updates from Pentamaster’s 1QFY20 conference call are as follows:

• Results summary: 1QFY20 core profit came in at RM16mil, declining 23% YoY in tandem with a 16% fall in revenue mainly due to weaker automated test equipment (ATE) sales as travel restrictions related to Covid-19 affected Pentamaster’s revenue recognition for the quarter. Gross profit (GP) margin is maintained at ~34%, cushioned by the change in product mix as factory automated solutions (FAS) sales had increased due to TP Concept’s contribution and higher demand for i-Arms solutions in the automotive and consumer & industrials segments.

• Revenue recognition impact: The group has a threestep process: i) receive purchase order from customer; ii) deliver equipment; and iii) site acceptance test where the revenue will only be recognized in the final payment phase as Pentamaster does not practise progressive revenue recognition. Pentamaster said that phases 2 and 3 of this process were the ones that had been impacted due to the travel restrictions.

• Diversifying revenue streams: The group has managed to diversify its revenue by customer segment which has helped to protect its overall GP margins. Despite seeing a decline in contribution in telecommunications, growth was seen in the automotive, consumer & industrials, and medical segments in 1QFY20 (Exhibit 1).

• Less customer concentration risk: Contribution from Pentamaster’s top 5 customers has declined to less than 60%, from around 80% previously. The group said that there is a broader customer base and wider geographical mix now, which bodes well to the group’s exposure.

• Orders delayed, not cancelled: Its latest order book is at RM230mil, with a composition that is similar to that seen in 1QFY20 and higher contribution from the automotive and consumer & industrial segments.
   
• Anticipate weak 2Q, hopeful of 2H recovery: 2QFY20 is expected to be weak due to the impact of Covid-19 containment measures in the form of travel restrictions and lockdowns imposed globally such as the movement control order (MCO) in Malaysia that has disrupted the group’s project delivery timeline. Pentamaster is more optimistic of a recovery in 2H due to: i) a gradual relaxation of Covid-19 containment measures globally which will result in production normalization; ii) some telecommunication solutions were in the prototyping phase in 1QFY20, with mass production being delayed due to Covid-19 but management anticipates mass production to ensue in 2H; and iii) anticipation that demand for smart sensors would be supported in subsequent quarters.
   
• We continue to like Pentamaster due to its positive growth prospects despite expectations of a weak 1H, impacted by Covid-19 as we anticipate a recovery in earnings in subsequent quarters. The group’s positive prospects are driven by: (i) growth in its ATE segment due to sustained growth for smart sensors and the upcoming 3D sensing technology wave (tied to the telecommunications and automotive sectors); (ii) growth in FAS to be supported by the adoption of Industry 4.0 and synergies from the acquisition of TP Concept; and (iii) margin expansion from portfolio expansion and diversification in the longer-term.

Source: AmInvest Research - 19 May 2020