Investment Highlights

• We maintain our UNDERWEIGHT recommendation on V.S. Industry (VSI) with an unchanged fair value of RM0.80/share, pegged to a rolled-forward CY21F PE of 10x.

• We lower our FY20F–FY22F earnings forecasts by 7–10% after accounting for updates on customer order flows.

• Key takeaways from VSI’s 3QFY20 conference call:

• Results summary: 9MFY20 core profit of RM63mil declined 38% YoY as 3QFY20 was impacted by factory closures of its Malaysian operations following the movement control order (MCO) while its Indonesia operation losses widened. Meanwhile, losses in China narrowed significantly due to lower opex as a result of its cost-optimization initiatives.

• Back to full capacity for Malaysian operations: Production resumed at a limited capacity in late April 2020 and is now operating at full capacity, which contributed 83% of 9MYF20 revenue.

• Update on Malaysian operations:

• New automotive customer: VSI has signed a master supply agreement with a new customer to produce a complete set of a car part with revenue contribution expected to be less than RM50mil beginning FY21F. Despite the initial lower contribution, the group is positive on the longer-term potential for this customer.

• Key UK customer orders: Expect lower order flow YoY in FY20 due to some of its products reaching end of product life cycle. Order visibility has also shortened from receiving a 12-month rolling forecast to now having a 6- month visibility up till December 2020.

• US-based customer newer models resumed production: Recall that said customer saw a delay in the production of its newer models due to MCO. Since then, the production of its 2nd and 3rd models has started in May 2020, with two more models to begin production by end- 2020 and in Feb-2021 – a total of 5 models confirmed.

• Coffee maker and pool cleaner maker orders less impacted: We have readjusted our order assumptions for both customers upwards as the negative impact on orders is less than we anticipated. Note that the upcoming 4Q and 1Q are seasonally stronger quarters for its coffee maker customer which could help offset declines in the group’s other orders.

• Discussion with future prospects halted due to travel restrictions, as the progress on conducting audits and site visits were disrupted despite continuing online communications. Around two to three of the prospects are at the later stages of discussion.

• Indonesian operations expected to incur losses for FY20, in light of a key customer filing for bankruptcy. As such, RM3mil was written off in 3QFY20 with a remainder of RM2mil expected to be written off in 4QFY20.

• Continue loss-minimizing efforts for China: VSI’s operations resumed on 17 February 2020 but its operating environment is still challenging and underutilization of its facilities is expected to continue. However, the group will continue to streamline its operations for China in order to minimize its losses.

• Based on its current order flow, VSI expects to return to the black in 4QFY20 and maintain its 40% dividend payout policy.

• Despite its positive longer-term prospects still being intact, end-product demand for VSI’s key customers are expected to be weakened by poor sentiments globally post-Covid-19 in the nearer term. VSI’s positive longer-term prospects arise from: (i) sturdy box-build order growth supported by its key customers’ product launches; (ii) its ability to offer turnkey EMS solutions as a vertically-integrated player; and (iii) its efforts to diversify its customer base with potential opportunities to be secured from the US-China trade war.

Source: AmInvest Research - 26 Jun 2020