Investment Highlights

• We maintain our BUY recommendation on Salutica with a lower fair value of RM0.77/share (previously RM0.82/share), after lowering our FY19F-FY20F net profit forecast by 6%- 7% to account for higher operating cost. Our FV is pegged to a CY19F PE of 15x.

• Salutica’s FY18 core net profit of RM11.4mil missed our full-year forecast and consensus by 21%, representing a 41% drop YoY. The decline was due to higher research and development (R&D) expenses and overtime charges incurred to rectify the shortcomings of the cableless earbuds.

• Recall that Salutica’s key customer launched a new set of cableless earbuds in September last year. The earbuds, plagued by connectivity issues, received subpar ratings from several online reviews. This has resulted in a lukewarm response for the product, which has taken a toll on the group’s performance this year. The group’s NPM has narrowed from 7.8% in FY17 to 4.3% in FY18.

• On a brighter note, Slautica has secured two new customers in the wearable and headset segments. The wearable item will be a device embedded in the shoe insole for analysing running speed and patterns, while the headset product is a hearing aid. The insole device will likely be geared towards athletes who consistently track their running activities, providing a more comprehensive analysis than a typical health bracelet. Currently, the group is in the product development and prototyping stage, and expects the commercial launch in 2QFY19.

• In addition, its existing key customer is expected to launch two new earbuds models in 2HCY18. We believe the new models will likely be the successor to the current generation as the present ones are still running on an older version of bluetooth technology, therefore an upgrade is much needed to stay in the competition. This should warrant an earnings recovery in FY19F as their customer would increase orders to cater for the festive season sale.

• Over the longer term, we believe the company would benefit from: i) an accelerated uptake of wireless Bluetooth earphones sparked by the removal of headphone jacks in smartphones and the availability of near-field communication (NFC) technology; and ii) the rising adoption of Salutica's in-house tyre pressure monitoring system (FOBO) to ensure safety of drivers.

Source: AmInvest Research - 29 Aug 2018