Investment Highlights

• We maintain HOLD on UMW Holdings but raise our SOP-based FV to RM5.50 (from RM5.00) as margins for its auto segment have recovered from rock-bottom while the rationalisation of its remaining O&G assets is expected to be completed by year end, which would eventually remove losses from this segment.

• The group held a visit to the UMW Aerospace plant in Serendah on Tuesday. UMW Aerospace will manufacture fan cases for the Rolls-Royce Trent 1000 and Trent 7000 engines, which are used in the Boeing 787 Dreamliner and Airbus A330neo respectively.

• UMW Aerospace is the first tier-1 supplier for Rolls-Royce in Southeast Asia. It had invested RM750mil to build the plant and most of its own supply chain comprised parties picked by Rolls-Royce that met the strict quality controls and regulations applied to the aviation sector.

• Key points from the visit:

1) We still do not have sufficient information to project earnings from its contract with Rolls-Royce. The operation is envisioned to breakeven by 2019 when it produces 160 fan cases a year (from 80 in 2018). Changes in the number of orders from Rolls-Royce could affect the production numbers and targeted breakeven date.

2) The aerospace operation is expected to raise the revenue contribution from the group's M&E segment to at least 10% by 2019. We would require better visibility on the cash flows and output from the aerospace operation to gauge the role that the M&E segment could play in the longer term. This segment accounted for 6% of group's revenue in 9M17.

3) Success with aerospace would equip UMW with the tools and expertise to expand its high-value manufacturing portfolio. We believe its position as a tier-1 supplier to Rolls Royce is a precursor to more collaborations with global companies looking to ground their supply chains to Asia.

• With the M&E segment in the backseat for the immediate term, we believe the key priorities for UMW to be:

1) To regain market share for Toyota. The C-HR and facelift Vios will be the first of several new Toyota models for this year. A stronger ringgit will provide some support as the group’s auto segment accounted for a fifth of its costs in USD which saw the segment's margins hit rock-bottom last year.

2) To complete its exit from O&G by year-end. It has 13 assets to dispose of by this self-imposed deadline. Losses from this segment will continue although the quantum should reduce over time.

Source: AmInvest Research - 10 Jan 2018