After successive quarters of strong earnings performance, KESM’s 3QFY18 results was marred by weaker revenue (-10% qoq) as a result of its prolonged material shortage issue (since late 2QFY18). With revenue falling behind and depreciation from its strong capex upcycle over the previous years kicking in, earnings declined 40% qoq. Nevertheless, we believe that there should be some improvement in the coming quarters as the temporary material shortage issue wears off. The stock price may weaken in which case we think that it would be a good opportunity to accumulate for a longer-term play on burn-in and testing in the automotive space. Maintain BUY with a higher 12- month target price of RM22.50.

9MFY18 Results Behind Expectations

KESM’s 9MFY18 core earnings accounted for only 57-58% of our and the consensus FY18 forecasts. The weaker-than-expected performance was due to lower-than-expected 3QFY18 revenue on the continued material shortage which affected utilisation levels. Depreciation charges were also ahead of our forecast.

EBITDA Margin Held Up Well in 3QFY18

Despite the 10% and 40% sequential contraction in revenue and earnings respectively, we note that the EBITDA margin held up rather well at 34.1% in 3QFY18 (-1.5ppts qoq), and that costs are being contained well at the operating level.

Maintain BUY With Higher Target Price of RM22.50

While we cut our 2018-2020E EPS by 16-21% to reflect lower utilization levels and higher depreciation charges, we continue to believe that KESM would benefit from the long-term structural growth in semiconductor content in automotives. We raise our 12-month TP to RM22.50, based on an unchanged PER of 17x on our CY19E EPS (rolled forward from CY18E), and reiterate our BUY rating. Key downside risks include a loss of customers and a reduction in the outsourcing opportunities as customers increase their in-house burn-in and test function.

Source: Affin Hwang Research - 1 Jun 2018