Investment Highlights

• 2H18 earnings to be driven by sensors, radio frequency chips and operational efficiencies. We are upgrading our stance on the technology sector from NEUTRAL to OVERWEIGHT. The sector’s outlook over the next 6 months is positive in 2H18.

• Key theme. The key theme of the sector in 2H18 should revolve around connected cars, smart homes and automation. This paints a positive outlook for sensor and radio frequency (RF) chip manufacturers, automated equipment manufacturers and companies looking to improve operational efficiencies through automation. In the smartphone segment, while sales volume is plateauing in developed markets, sensor and RF content continues to increase. Overall, earnings prospects are looking positive for local semiconductor companies.

• Key beneficiaries. In 2H18, companies in the limelight are Inari Amertron (BUY, FV: RM2.50), Malaysian Pacific Industries (MPI) (BUY, FV: RM11.42), Unisem (HOLD, FV: RM2.56) and Globetronics (UNRATED) given sensors and RF are imperatives in a connected world, while prospects of ViTrox Corporation (UNRATED) and Pentamaster Corporation (UNRATED) are also exciting amid the rising adoption of automation.

• Investing in automation to boost efficiencies. In Budget 2018, the government has announced that it will provide matching grants and capital allowances to support automation initiatives. Among the beneficiaries are Inari and MPI, which have expressed intentions to adopt automation next year. Inari has indicated that it intends to invest in automated optical inspection machines, which would cost circa US$1mil per unit. Meanwhile, MPI has said the group is exploring areas within its manufacturing processes to replace with automation and robotic equipment. While the impact is unquantifiable at this juncture, we are confident that the initiatives would underpin margin expansion on the back of improved operational efficiencies and lower effective tax rates.

• Upside to our call. Our OVERWEIGHT stance on the technology sector may be further strengthened if: 1) there is a change in the USD outlook for the better; 2) the semiconductor companies under our coverage (Inari, MPI and Unisem) secure new jobs of significance; and/or 3) share prices correct by 15-20%.

• Key risks. 1) Lukewarm demand for end-products owing to weak economic conditions; 2) monotonous content growth in underlying products in the absence of innovation; and 3) margin erosion in the face of a weakening USD. If such risks materialise, we may downgrade our stance on the sector from OVERWEIGHT to NEUTRAL.

• Our top picks for the sector are:
  Inari Amertron (BUY, FV: RM2.50) is expected to register a robust earnings CAGR of 31% from FY17 to FY20F, riding on 3 core pillars – 1) RF, which benefits from the transition to 5G and rising content per device; 2) laser devices, which are boosted by increasing biometric and augmented reality (AR) applications in smartphones; and 3) LED, which rides on rising demand for high-resolution billboards in shopping malls.
  Malaysian Pacific Industries (BUY, FV: RM11.42) is a leader in ultra-thin MLP and the MEMS space in Malaysia, which allows it to ride the wave of Internet of Things (IoT). In addition, the company is revamping its product portfolio to focus on higher-margin and higher-growth specialised markets. Its strong net cash position allows it to look into meaningful M&A.

Source: AmInvest Research - 9 Jul 2018