We are initiating coverage on JCY with a MARKET PERFORM rating and a Target Price of RM0.85 based on 1.15x P/BV. JCY is one of the largest global precision engineering manufacturers of HDD mechanical components. Since Aug 2012, JCY's share price has corrected by 50.0% from its peak. Despite this, we reckon that the share price could still continue to be overshadowed by a number of concerns on the industry outlook at this juncture. We believe macro uncertainties, challenging industry trends and possible company-specific issues will be the headwinds limiting a strong rebound in the share price. The tide in the industry has turned negative and JCY being a leader in the local HDD sector is likely to feel the adverse impacts. In fact, its earning visibility is likely to get worse before it gets better over the next 6 months. Hence, the investment strategy on the stock, in our view, is to wait out the sector weakness at the moment and re-look for opportunities later when the sector woes clear up a little. Our current MARKET PERFORM rating is premised on the stock offering an upside of 6% to our Target Price.  

Prominent HDD manufacturer. JCY is one of the largest global precision engineering manufacturers of Hard Disk Drive (HDD) mechanical components based on revenue and unit. The company primarily manufactures base plates, top cover assembly, APFA and antidiscs, which are the key mechanical components of HDDs. The company jointly develops these components for its customers, which then assemble these components into completed HDDs, primarily 3.5 inch and 2.5 inch HDDs. 

Weak outlook globally.  The tide in the industry has likely turned negative as there has been a weakening of the industry fundamentals brought about by the persistent uncertainties in the Eurozone, a slowdown in the emerging markets (China and India) and the weak consumer sentiment in the PC market.  Our view is supported by HP and Dell whose managements are now cautious about the growth of PCs in 2HCY12 given the uncertain economic environment, competitive dynamics and softer consumer sentiment worldwide. 

Weak sentiment from HDD makers. Meanwhile, the two big HDD players, Western Digital (WD) and Seagate are also saying that they are wary about the soft macroeconomic environment, and the growing use of tablets and smart phones to the detriment of PC usage.  Consequently, WD is only expecting the unit growth in HDD demand to be just around 5%. 

Compression of ASP.In addition, in the case of HDD, there has been a compression of the ASP as JCY's Thai peers are resuming their production lines and its HDD vendors have started to return to their usual suppliers. We believe this could be the start of a fierce competition in the HDD market, which means the likelihood of lower operating margin in the segment persisting or getting worse.

Structural challenges.   We think that the PC industry growth deceleration is not just a temporary phenomenon. The PC industry's growth profile is facing many challenges and in our view, the market here faces incremental risks beyond just a macroeconomic slowdown. Consumers and enterprises remain distracted by alternative devices such as smartphones and tablets, which continue to encroach on the PC's share of IT spending. These factors suggest that at a minimum, the current consensus forecast for PC unit growth of 0.9% in CY12 is likely to face more downside risks. 

Challenges keep us guarded on our valuation. Our TP is derived from 1.15x the P/BV ratio, which being at the mid of JCY's P/B band since it went listing in year-2012. The stock had traded previously as much as 2.7x P/BV (+2 SD) when the market became optimistic then on JCY's earnings after the Thai flood. However, considering the weaker demand outlook now over the  next 6 months and its lower earning visibility, we believe the stock's valuation could remain pressured below its P/Bv mean, at the mid-point of mean and -1SD. This supports our view that there is limited upside of our target price if industry development turns further uncertain over next 6 months.