Inari’s 1QFY20 core earnings were weaker by 11% yoy and accounted for 19% of full-year forecasts. We deem the results to be in line, expecting a stronger 2HFY20 when the 5G impact starts kicking in. As anticipated, earnings were stronger sequentially (+33% qoq). We believe that the relatively weak quarterly earnings trend is likely to have bottomed out in 4QFY19 and thus the earnings momentum should remain positive as 5G adoption accelerates. Maintain BUY with a higher 12-month target price of RM2.14.

1QFY20 Core Profit Declines 11% Yoy – Within Expectations

Inari’s 1QFY20 core profit of RM46m (-11% yoy) accounted for 19% of our and the consensus full-year estimates. Although lower yoy given softer sensor loadings from Osram, the earnings are within our expectations. Earnings should be stronger in 2HFY20 with increased sales of 5G-related filters. On the whole, the 1QFY20 EBITDA margin remained relatively stable at 23.9%. While lower contribution from the higher-margin sensor business might have negated margins, this was likely made up by the 1.7% yoy depreciation of the RM vs the US$.

As Expected, Sequentially Stronger

Inari’s 1QFY20 revenue and core profit jumped by 17% and 33% respectively in one of its stronger quarters, led by a production ramp for its end customers. Notably, we think that Inari’s relatively weak earnings over the past few quarters may have bottomed out in 4QFY19, and it should see successively stronger quarters ahead as the impact from higher demand for RF filters broadly cascades through. The gradual adoption of 5G will provide a strong structural growth catalyst.

Maintain BUY, Target Price Raised to RM2.14

We maintain our BUY rating with a higher target price of RM2.14 based on a higher target PE multiple of 24x or +1SD above its 5-year mean (previously 20x) on CY20E EPS as we take into account the improved investor sentiment and appetite for the sector. The higher PE multiple is justified by the likely stronger earnings growth profile ahead, fuelled by the 5G technology transition. Key downside risks: sharp appreciation of the RM, a slowdown in global demand for smart devices, rapid ASP erosion, loss of customers and the introduction of new technologies that may render Inari’s products obsolete.

Source: Affin Hwang Research - 27 Nov 2019