Investment Highlights

• We maintain BUY call on Lee Swee Kiat Group (LSK) with a higher fair value (FV) of RM1.27/share (from RM1.02/share previously), based on a rolled-forward FY24F target PE of 11x, at parity to its latest 5-year median. There is no ESG-related adjustment based on our 3-star rating.

• After our recent follow-up with the management, we marginally trimmed FY23F core earnings by 1% to RM13.9mil from RM14.1mil previously to account for a more gradual export demand recovery in 2H2023. For now, we maintain FY24F-25F core earnings.

• LSK’s export segment has been sluggish since FY22 amid weakening global economic growth due to high inflation and tightening monetary climate. Consequently, FY22-1QFY23 utilisation rate of the 2 latex foam plants was at 45%-50%, substantively lower than 78%-79% in FY19-21.

• We continue to believe that 2QFY23 utilisation rate could remain unexciting at the current 45%-50% level given that management has not observed a material demand recovery during that period.

• On a positive note, LSK updated that the export demand is recovering from early 3QFY23 onwards, supported by orders from new customers.

• To recap, management stated in its Mar 2023 briefing that the group has entered into negotiations with 3 large potential customers from USA, South Korea and Australia, drawn by LSK’s competitive pricing and established brands, such as Napure.

• The USA-based customer placed a small maiden order in Jun. Surprisingly, the Australian-based customer, while initially showing scant interest after LSK delivered samples in April 2023, placed orders in July 2023, albeit modest ones.

• Meanwhile, LSK sent latex foam samples to a South-Korean-based customer in April 2023, and the evaluation process is expected to conclude in 2HFY23, potentially slower than previous guidance by Aug/Sep 2023.

• Separately, in our earlier report dated 10 Jul 2023, we suggested that LSK is poised to benefit from the regional relocation of supply chain to Asian regions following energy shocks in European regions and supply chain disruptions during China’s lockdowns. LSK guided that the company received various new, albeit small orders from new customers in recent trade exhibitions.

• All in, we expect that export demand will recover incrementally as opposed to earlier assumptions of a more immediate growth, given that most of the new customers are placing small-scale orders before increasing orders further MoM in 2HFY23.

• Hence, we trimmed our FY23F utilisation rate to 59% from 64% previously, based on 50% in 2QFY23F, 60% in 3Q and 80% in 4Q.

• On the domestic front, demand remains strong in Apr-Jun 2023. We believe domestic demand continues to grow in 2H2023, supported by labour market still having room for further improvement, given (a) recent unemployment rate of 3.5% in May 2023 is still higher than 3.3% in 2019, and (b) total employment vacancy of 119K in Apr translates to 1.5x the pre-pandemic average of 81K. Furthermore, the increase in entitlement threshold for overtime work from ≤RM2K/month to ≤RM4K/month effective Jan 2023 could support consumers’ purchasing power.

• We continue to favour LSK for (a) being the largest natural latex mattress manufacturer in Malaysia, (b) its expanding market share of natural latex mattress vs. domestic peers (Exhibit 1), and (c) its collaboration in marketing the A-series mattress through rental-based business model under Cuckoo’s platform.

• The stock currently trades at a compelling FY23F PE of 9.6x – 13% discount to its 5-year median of 11x while offering a decent dividend yield of 4.2%. Also, LSK has a healthy net cash position of RM4mil (3% of market cap).

Source: AmInvest Research - 9 Aug 2023