Investment Highlights

• We maintain HOLD on UMW Holdings (UMW) with an unchanged SOP-based fair value of RM5.20. UMW reported a core net loss of RM4.5mil in 1Q17 after factoring out EIs namely gains on derivatives and disposal of assets.

• 1Q17 saw a significant top-line gain (+27% YoY; on much better auto sales: Toyota sold 62% more units YoY, coming off the low base of 1Q16) but PBT fell 32% YoY. We identified three main factors for the decline in group PBT:

1. higher losses from O&G-related segments, the total pre-tax losses here was up +12% YoY. Recall that UMW is on track to demerge from its listed O&G business by July and exit from its unlisted O&G assets by end-2018.
2. much higher interest costs (in 1Q17 UMW still carried the total borrowings of UMWOG amounting to RM3.7bil in its books, which comprised 60% of the group's total debts);
3.  declining profitability for auto on high USD-related costs and competition. While the auto segment saw revenue improved by 41% YoY, net profit only rose 1% YoY. It sold more cars but the net profit was impacted by lower margin. Auto PBT margin slid to 4% in 1Q vs. 5-6% in 2016 and 8-14% in the years prior.

• First quarter is usually the weakest for auto. The segment's achievement of a net profit equal to 1Q16 was disappointing as it had recorded much higher sales (spurred by the addition of 5 models alone in the 2H of last year) in 1Q17.

• On the group level, higher interest costs (+56% YoY) and lower investment income (-12% YoY) negated the benefit of higher associates/JV earnings (+82% YoY), owing to a stronger showing by Perodua.

• We reiterate that we are positive on the immediate impact of the demerger from UMWOG on the group's earnings and balance sheet. However, the outlook for its remaining core segments is still not convincing.

• Toyota has averaged 5.6K units/month in the 4 months to April (4M17: 16.5K units), a slight improvement from the monthly average of 5.3K units seen in 2016 but still below the 7.6K-8.5K units/month seen in its better years.

• With regards to the other two key segments after auto: equipment division recorded a stable revenue and sturdy margins of 8-10%, while manufacturing & engineering is expected to stay in the red as it needs to incur set-up costs for the aerospace business which will see the first production at the end of 2017. The manufacturing & engineering segment is only expected to breakeven in 2019.

Source: AmInvest Research - 24 May 2017