We maintain our NEUTRAL view on the sector. We expect to see short term recovery for furniture players especially firms with operations in Vietnam, as US adjust offshore sourcing of furniture from China to SEA. However, with less favourable growth outlook, weak sentiment is likely to persist for global construction and property sector, and hence demand for furniture. We do not expect to see significant volume growth, however earnings growth is likely to be supported by the weaker ringgit against USD (-4.6% YoY for 1H19 average) to RM4.12/USD. Engineered wood players will continue be affected by price war as a result of oversupply of boards.

1Q19 wasn’t pleasant. Out of the 4 wood-based companies under our coverage, only Lii Hen reported earnings above our expectations, while the other 3 came in below in the first quarter. This was mainly due to weaker global demand for furniture and the intense price competition among the engineered wood players. Malaysia furniture and wood sector saw a muted showing in 1Q19, with average industry revenue improving only marginally by 2.0% YoY (Figure #1) supported by companies with heavy US market exposure (Lii Hen and Poh Huat).

Recovery year for furniture. It is of our knowledge that many US firms have adjusted their offshore sourcing of furniture to other South East Asia countries, particularly Vietnam. Malaysian furniture manufacturers that have operations in Vietnam include, Poh Huat and Latitude Tree (both not-rated) which are likely to benefit in the near term. According to timber industry news, Vietnam’s wood product export increased by 18.3% YoY in the first four months of 2019.

Engineered wood players remains overhang. Despite the overcapacity of particleboard in the region, we were told that local board producers managed to hike selling prices riding on the recovery of furniture players. With that, we might see a short term recovery among the local engineered wood players but we opine that it will not take long for them to readjust ASP downwards back to industry’s average given the oversupply condition.

Production capacity at brim, this year will ride on weak ringgit. For the rest of the year, it will be unlikely for us to see any major increase in production volume as weak sentiment is likely to persist for construction and property. However, we continue to see earnings growth for Lii Hen (+28% YoY) mainly on the back of weaker ringgit against USD. Average ringgit (vs USD) in 1H19 has weakened by 4.6% YoY (1H19: 4.12, 1H18: 3.94).

Forecast. Unchanged

Maintain NEUTRAL. Despite stronger USD outlook and lower material cost, we take a cautious stance on the sector due to uncertainties in market competition. Our top pick is Lii Hen (BUY, TP: RM4.22) for its position as the market leader in the wood based furniture space in Malaysia, strong balance sheet (net cash per share of 45 sen as at end of 1Q19), generous dividend payout (dividend yield of 5.7%) and ongoing efforts to adopt effective cost management.

Source: Hong Leong Investment Bank Research - 11 Jul 2019