• The pace of China moving towards becoming a self-sufficient chip manufacturer will determine KGB’s long-term growth in the coming years. In recent months, we have witnessed SMIC benefiting from order diversion due to the US sanction on Huawei
• Near-term drag on earnings as project progress slows. Singapore is still suffering from low workforce efficiency with the number of new cases remaining high. Slashing FY20 earnings forecast by 54%.
• We raise our 12-month target price to RM1.22 based on higher 21x PER on FY21 EPS. Maintain HOLD.

Singapore and Malaysia Operations Will Drag Down 2Q Results

Singapore and Malaysia were the two most impacted regions in 2Q due to the lockdown measures. Despite China reopening its cities in 2Q, we believe this would not be sufficient to offset the negative impact. Besides, the liquid carbon dioxide (LCO2) plant utilisation would likely to have fallen drastically from an average 50% in 1Q20 due to lower cylinder refilling demand as activities come to a standstill. KGB’s 2Q20 could fall into the red, in our view.

More Diversion of Orders Could Benefit KGB in the Long Term

In May 2020, Taiwan Semiconductor Manufacturing Co (TSMC) announced that it will stop supplying chips to Huawei, following the sanction by US. Following this, Huawei reported that it will now take orders from SMIC and Shanghai Microelectronics. As SMIC is an existing client of KGB, there could be more potential UHP contracts to be awarded out.

Cutting Our FY20 Profit

We slash our FY20 earnings by 54% (from RM14.6m to RM6.6m) mainly to factor in the delays in Singapore work recognition on current labour constraint. In addition, we lower our segmental gross profit margins across by 0.5–1% on possible higher short term cost. Nevertheless, we maintain our FY21 due to the expected job spill overs. We have factored in 30%/50%/70% LCO2 plant utilisation across FY20-22E.

Maintain Hold, China Prospects Remain Promising

We raised our target price to RM1.22 based on higher 21x target PE to reflect the stronger expected earnings growth. China structural change in the next 5 years may help drive KGB’s earnings higher as the country aim to be more selfsustaining, also motivated by the ongoing dispute with US. Maintain Hold.

Source: Affin Hwang Research - 12 Aug 2020