We maintain our NEUTRAL rating on the Automotive sector. According to the latest data from the Malaysian Automotive Association (MAA), total industry volume (TIV) in April came in weaker by 33% MoM. The softer TIV numbers came as no surprise to us as we had in our last report (dated on 23th April 2015) noted that the strong momentum in March TIV was only a watershed event (helped by the attractive offers and incentives given by car companies to clear stock prior to the implementation of GST) and softness expected in April on consumers’ knee-jerk reaction to the implementation of GST as well as the normalisation from a high base. On the upcoming auto companies’ 1QCY15 results that will be released next week (namely UMW, MBMR, DRBHCOM), we see potential earnings risks owing to margins erosions (arising from the heavy discounts and unfavourable currency fluctuation). On stock selection, as the trend of weak MYR vs USD still persist amid the cloudy local economy outlook, we prefer to stick with auto players which are: (i) less vulnerable to the unfavourable currency translation, and (ii) have targeted customer base in the middle-income to high-income bracket that are less sensitive to the rising cost of living. Our Top Pick remained with BJAUTO (OP, TP: RM4.29) with investment merits backed by its: (i) superior growth prospect from low base on the back of strong pipeline of exciting models, (ii) margin expansion on the back of favourable exchange rate (with huge exposure in Yen) as well as lower import duties, and (iii) potential dividend payout of 40% which could translate into decent 3.2% dividend yield.

April 15 TIV came in weaker at 45,187 units (-23% YoY and -33% MoM), bringing YTD 4M15 TIV to 213,493 units (-2% YoY) which made up 32% and 31% of our and MAA’s 2015 forecasts of 667,000 units (flat growth assumption) and 680,000 units (+2% YoY), respectively. While all major passenger marques registered weaker MoM sales, national marques recorded weaker TIV sales of -32% (mainly dragged down by Proton) compared to non-national major marques (-29%) which indicates that the low-to-mid income level group’s consumers are more sensitive on the big ticket items spending post GST implementation. Recall that Proton and Perodua are both dominating the more affordable A-segment vehicles which are largely favored by the low-to-mid income level consumers. Meanwhile within the major non-national passenger marques, Honda once again defended its turf as the highest market share contributor across monthly, yearly and YTD basis which we believe was mainly driven by its B-segment Honda City, new facelifted Honda CRV and new SUV Honda HRV.

Keeping our 2015 TIV forecast at 667,000 units (flat growth). We maintain our cautious view in light of the weaker consumer sentiment amid the GST implementation and lower disposable income from the rising costs of living. While the silver lining appears to be cheaper prices in some of the marques (by 1-5% w.e.f. 1st April 2015) as a result of SST being replaced by GST, we do not see this as a strong re-rating catalyst for the sector as the small price reductions of 1-5% are insignificant compared to the total cost of ownership.

Heavy discounts and unfavourable exchange rates to corrode the auto players’ margins. On the upcoming auto companies’ 1QCY15 results that will be released next week (namely UMW, MBMR, DRBHCOM), we see potential earnings risks owing to margins erosion. We see earnings risks arising from the heavy discounts by companies (to clear stock prior to the implementation of GST back then in 1Q2015) and unfavourable currency fluctuations (particularly to auto players with high denominated USD costs with the import of CBU vehicles, CKD packs and other components). This was evidenced in TCHONG’s 1Q15 results (within our but below consensus’ expectation) which saw its bottomline suppressed by the higher CKD kits cost despite better revenue mix. For UMW and MBM, while the earnings risks could also be arising from the weakerthan- expected sales (for UMW- Toyota; for MBM- lower sales from the motor trading division), the saving grace could be from the contribution of the Perodua’s associate earnings. On the other hand, we believe BJAUTO is the apparent winner in the weakening of JPY vs. MYR as c.50% of its total costs is exposed to JPY coupled with its targeted customer base in the middle-income to high-income bracket that are less sensitive to the rising cost of living

Sector remains NEUTRAL with Berjaya Auto being our Top Pick. There are no changes to our MARKET PERFORM call on UMW (TP: RM11.00), DRBHCOM (RM2.15) and MBM (TP: RM3.52). TCHONG (TP: RM2.87), meanwhile, is the only UNDERPERFORM in the sector due to its rich valuation of 18x FY15E PER with no immediate re-rating catalyst in sight.

Source: Kenanga Research - 21 May 2015