FY20 briefing reaffirms our positive view on Pecca’s FY21 outlook. Pecca’s leather car seats segment will leverage onto the strong TIV during SST exemption period. Pecca is ramping up PPE manufacturing extensively due to the current strong demand from both domestic and export markets. We adjusted FY21 & FY22 earnings by +32.3% and +33.4%, mainly to account for the new PPE contribution. Reiterate BUY recommendation with higher TP of RM1.75 (from RM1.28), based on PE 12x on CY21 adjusted higher profit.

FY20 earnings recap. FY20 earnings of RM10.7m, dropped by 39.5% YoY; this was mainly affected by Perodua’s production disruption and subsequent outbreak of Covid - 19 (especially in Malaysia), resulting temporary stop of production and lower demand for domestic and export markets in 2HFY20. Nevertheless, management had implemented tight cost controls and cutting measures (until end of 2020) to partially offset the negative impact of Covid-19 during the period.

Leather car seats. Management guided production rate has normalised back to 10- 11k sets/mth in Sep (from 9-10k sets/mth in Jul-Aug period) and expects the volume to sustain until year end. We view there is potential upside in the volume guidance, given the strong demand of new cars during SST exemption period (delivery period up to end Jan 2021) and upcoming attractive new launches of Proton X50, Mitsubishi expander, and Perodua D55L SUV. We note that Perodua has announced production rate increase to average 25k/mth for Aug-Dec period (vs. usual 20k/mth), while Toyota confirmed to increase its production rate for the same period. At the same time, Pecca’s export of leather cut pieces to China NJTC (Subaru) has also recovered strongly in Sep.

New PPE. Pecca has started the production of 3-ply mask at 5-6m/mth and guided to ramp up production to 25m/mth (300m/yr) by end-1QFY21 and 50m/mth (600m/yr) by end-2QFY21 (significantly higher than initial guidance of 18m/yr) due to indicative strong demand orders from both domestic and export markets. Pecca has obtained the ISO13485:2016 Quality Management System Certificate for the design, development and manufacturing of PPE and is now awaiting for export permit from government and certifications from the U.S. FDA and CE Marking from the EU. The commercial production N95 mask is expected to commence in Oct while other PPE items will commence at a later stage. Management guided the gross margins for the segment to be double digit and is able to recoup its investment within the first year.

M&A plan still on. M&A proposals have also been delayed by Covid-19. We now expect Pecca to only conclude the M&A exercise in 2HFY21. To recap, the targeted M&A is related to the automotive sector. Management is likely to fund the acquisition via combination of internal fund (net cash RM78.4m as at end FY20) and debt.

Aviation. The certification for EASA (European Aviation Safety Agency) license has been temporary put on hold due to Malaysia border closing policy as EASA auditors are unable to fly into Malaysia and carry out the necessary auditing. Eventually, the license will allow Pecca to penetrate into the lucrative market of aviation leather seats.

Forecast. Increased earnings for FY21 and FY22 by +32.3% and +33.4% respectively, mainly to account for the new contribution of PPE segment. Note that, we have only assumed a conservative 300m production for 3-ply mask for the year.

Maintain BUY, TP: RM1.75. Reiterate BUY recommendation on Pecca with higher TP of RM1.75 (from RM1.28) based on PE 12x on CY21 higher adjusted profit. We are positive on Pecca’s leverage on the strong rebound in TIV during SST exemption period as well as the new PPE venture, promising strong earnings rebound and good dividend of 8 sen/share (6.6% yield) in FY21.

Source: Hong Leong Investment Bank Research - 4 Sept 2020