MSIA expects a gain of 8-10% in 2022 followed by a weaker 2023 due to the weaknesses in PC and smartphone but automotive remains resilient with strong bill-to-book ratio. Despite the recent scaled-down capex plan, fabs will continue to get equipped but might put manpower on hold until orders are secured. In view of the impending Global Minimum Tax (15%) implementation, MSIA is working with the government to improve non-monetary incentives to attract FDI in this industry. We maintain OVERWEIGHT stance and tactically in favour of frontend players. Our top picks are Frontken (BUY; TP: RM3.20) and UWC (BUY, TP: RM4.38).

Recently, we hosted a virtual call with Dato’Seri Wong Siew Hai, President of Malaysia Semiconductor Industry Association (MSIA) to share and discuss on the sector outlook. Below are the key takeaways:

Global semiconductor market. Accelerated by Covid-19 pandemic, the increasing demand for digitalization drove up worldwide sales, at the same time also led to a global chip shortage that impacted supply chains across sectors. After an amazing 26% growth in 2021, MSIA is expecting a gain of 8-10% in 2022 followed by a weaker 2023. This is mainly due to the weaknesses in consumer-centric end market, namely PC and smartphone. However, automotive segment remains resilient with strong bill to-book ratio.

Global investments. Very robust with a total value of USD1.2tn planned (Figure #1), broken down into USD511bn country subsidies and USD695bn investment roadmaps by companies over the next 10-20 years. Despite the recent scaled-down capex plan by major players (Intel, Micron and TSMC), MSIA opines that this will not impact the industry significantly as the equipment lead time remains long. Fabs will continue to get equipped but might put manpower on hold until orders are secured.

Investments in Malaysia. In the past 12 months, a total of RM52bn semiconductor investments have been announced which targets to create 11k jobs. These include (i) Infineon RM9.1bn; (ii) Intel RM30bn; (iii) TF-AMD RM2bn; (iv) Nexperia RM1.6bn; (v) Sensata RM500m; (vi) Ferrotec RM500m; (vii) TTM Technologies RM550m; and (viii) AT&S RM8.5bn. Malaysia remains a key player in the global supply chain: (i) 7% of total global semiconductor trade flows through Malaysia; and (ii) commands 13% of global chip testing and packaging market share. E&E industry remains the largest contributor to Malaysia’s export (see Figure #2). In view of the impending implementation of Global Minimum Tax (15%), MSIA is working with the government to improve non-monetary incentives (such as automation, talent, supply chain, R&D, connectivity, etc.) to attract FDIs in this industry.

Challenges. (i) Economic headwinds (inflation, global recession risk and Taiwan-US China tensions); (ii) demand correction in consumer products; (iii) supply disruptions (fire incident at Japan fabs, weather disruption in US, power outage in Germany, power allocation in China, Ukraine war, major drought in Taiwan and China zero Covid policy); and (iv) shortage of workers and talents.

Reiterate OVERWEIGHT. We expect tech sector to experience multiyear earnings growth supported by fundamental exponential demand and further enticed by government incentives. We maintain our tactical position in favour of frontend players as many countries have rushed to develop their semiconductor capabilities, especially in leading edge (≤7nm) frontend fabrication (foundry) to be self-sufficient on the back of national strategic and security interests. Our top picks are Frontken and UWC who have exposures to frontend.

Frontken. Reiterate BUY with TP of RM3.20, pegged to 30x of FY23 EPS. We like Frontken for its multi-year growth ahead on the back of: (i) sustainable global semiconductor market outlook, (ii) robust fab investment, (iii) leading edge technology (7nm and below), and (iv) strong balance sheet (net cash of RM332m or 21 sen per share) to supports its Taiwan expansion.

UWC. Reiterate BUY with an unchanged TP of RM4.38, pegged to 34x of FY23 EPS. The ongoing trade intensity may eventually benefit UWC which provides a one -stop solution as more companies shift productions out of China to avoid import tariffs.

Source: Hong Leong Investment Bank Research - 27 Oct 2022