The group is confident of weathering through the outbreak of Covid-19, as China segment recovers (contributes 40% of revenue) and Australia segment remains resilient (contributes 30% of revenue), to offset the slowdown in other countries. The group will utilize this opportunity to improve its cost structure and reserve cash while looking for potential M&A and talent acquisition as well as extending its customer base. Maintain BUY recommendation on Sime Darby with unchanged TP: RM2.00, based on 20% discount to SOP: RM2.50.

Covid-19 impact. Management is confident of weathering through the Covid-19 outbreak, as China segment recovers and Australia segment remains resilient. Management has devised defensive and offensive strategies to address Covid-19. Defensive strategy (optimizing inventory level; deferring capital spending; negotiating better terms with stakeholders) is to focus on cost cuttings and improve cash holdings. Offensive strategy (M&A play; customer acquisition; talent recruitment) is to allow the group takes opportunities in acquiring assets, business and talents at attractive pricing while enlarging its customer base at the expense of weaker competitors. Management also clarified its fixed costs are mainly staff and lease rental which are only circa 7% of the group’s total costs (in line with our estimation in Auto Sector Report on 24 Mar).

China. This contributes 40% of Sime’s revenue. Management guided that the group’s motor segment is normalising as the country gradually opens from strict measures against Covid-19 in Feb-Mar. Moreover, the group is expecting China to implement infrastructure stimulus to boost the weakened economy and shelter the country from the impact of global spread of Covid-19, in which the group’s dealership for Caterpillar industrial equipment will greatly benefit. Management is confident earnings recovery in China will support the group’s slowdown in other countries.

Australia. This accounts for 30% of Sime’s revenue. Demand for industrial equipment in Australia coal mining remained strong during the China’s lock-down period, and management is expecting demand to remain resilient as: 1) China is restarting its industrial productions; 2) metallurgical coal prices at USD1 30/mt remains good profits for miners; and 3) coal mining is categorised as essential industry in Australia, during the current lock-down.

Malaysia. This makes up 15% of Sime’s revenue. All of the group’s showroom and production line has stopped operation during the MCO period (18 Mar-14 Apr). We expect business to experience slowdown before any potential recovery by end CY2020. BMW Malaysia’s earnings are expected to be affected, potentially lowering the dividend payout to Sime Darby by end 4QFY20, while disposal of Tesco stake is still under negotiation and management does not discount the possibility of special dividend payout from the proceeds of disposal.

Forecast. Unchanged.

Maintain BUY, TP: RM2.00. Maintain BUY recommendation on Sime Darby with unchanged TP of RM2.00, based on 20% discount to SOP of RM2.50. Despite the low net cash coverage holdings, we believe Sime Darby will be able to weather through the difficulties in CY2020, as the group has a strong balance sheet to access credit market as well as strong support from major government linked shareholders. Sime Darby is also the best proxy for a global economy recovery in CY2021 with strong demand for industrial equipment from infrastructure stimulus plans (especially in China and South East Asia) and growth in Australia mining. We project sustainable dividend of 10 sen for FY20-22, translating into attractive dividend yield of 5.6%.

Source: Hong Leong Investment Bank Research - 3 Apr 2020