Strong 9M14 results. SCGM reported a strong 9M14 net profit of RM9.0m (+47.5% YoY) which beat our full-year net profit target of RM8.3m. The strong results were mainly driven by: (i) stronger operational margin as a result of stable commodity prices and higher product sale price, (ii) consistent product efficiency, (iii) capital gains of RM0.545m from land disposals, and (iv) write-back of a provision of doubtful debt of RM0.33m. Stripping off these one-off items, the 9M14 core net profit still recorded a tremendous growth of +36.1% YoY to RM8.3m. Post 9M14 results, we have increased our FY14E earnings estimate by 37.3% to RM11.4m.

New product in the pipeline. The Group is eyeing to introduce a new product, the thermoplastic cup (PPC), this year. Although it is still in the early stages, the Group anticipates that this new product would increase their total production volume by c.10% with an estimated total capex of RM8.0m. The new product line is expected to be completed in 2HCY14 and will be sold both in the local and overseas market. SCGM revealed that production line for this product has zero waste technology, which would greatly reduce cost as well as maximizing production volume from economies of scale. This would definitely boost the firm’s earnings which is based on volume game.

Consistent margin track record. Going forward, we expect the impact to SCGM’s earnings to be even more pronounced as the group has been consistent on its margin for the past 5 years. The Group has consistently achieved an average gross margin of 20.8% as well as average net margin of 8.3% since FY09. The consistent margins indicate strong bargaining power even during challenging years. On these bullish factors, we believe SCGM would be able to meet its FY15 earnings target of RM12.3m based on 10.0% growth on its revenue and 20.5% gross margin estimate.

Potential M&A play. Last year, the uneventful plastic sector seen the first M&A in a long time, involving Scientex acquiring GWP Plastics, where the former valued GWP at 14.4x PER and 1.46x P/BV. The merger could ignite M&A interest in the industry with other players such as Daibochi Plastic, Thong Guan Industries and Tomypak Industries. We believe other small cap companies (including SCGM) could potentially go on the M&A path to achieve higher economies of scale as well as to better face market competition.

An attractive dividend payout. SCGM has been consistently rewarding its shareholders by declaring an annual DPS of 2.5-3.0 sen (or an average dividend yield of 2-3%) since FY09. While the group does not have an official dividend payout policy in place, we understand that the Group is aiming to declare c.30-40% of net profit as dividend moving forward.

Trading Buy with a TP of RM1.54, based on a targeted FY15 PER of 10.0x (or implied targeted P/BV of 1.49x, in line with GWP’s acquisition valuation). Meanwhile, we also estimate the Group to reward 30% of its net profit to shareholders, which will translate into a DPS of 4.6 sen or 4.1% yield.

Source: Kenanga