We maintain our NEUTRAL rating on the Automotive sector. According to the latest data from the Malaysian Automotive Association (MAA), June total industry volume (TIV) came in stronger sequentially at 57,437 units (+12%) driven by aggressive sales campaign amidst pre-Hari Raya festive season. However, YoY sales were still soft (-2%), capping YTD6M15 TIV in the negative territory (-3%) as opposed to our (flat at 667,000 units) and MAA’s 2015 TIV growth assumptions (of +0.5% to register 670,000 units). Note that MAA has revised down their 2015 TIV forecast from 680,000 units (a number which is closer to our forecast), taking into account of ongoing inflationary pressures and fluctuations in forex and commodities. We believe auto sales will pick up in the 2H to make up for our flat TIV growth assumption, underpinned by aggressive A&P activities (at the expense of margins), festivities and stronger seasonal patterns. On stock selection, as the trend of weak MYR vs USD still persists amid the cloudy local economy outlook, we prefer to stick with auto player that : (i) is less vulnerable to the unfavourable currency translation, and (ii) have targeted customer base in the middle-income to highincome bracket which are less sensitive to the rising cost of living. Our Top Pick remains as BJAUTO (OP, TP: RM3.14) 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 56% which could translate into decent 5.6% dividend yield.

YTD TIV still in the doldrums. While June 2015 TIV came in stronger sequentially (+12% MoM at 57,437 units) mainly on the back of aggressive sales campaign for the pre-Hari Raya festive season, YoY total sales are still soft (-2%). As a result, YTD6M15 TIV still capped in the negative territory of - 3% as opposed to our (flat at 667,000 units) and MAA’s 2015 TIV growth assumptions (of +2% to register 670,000 units). Note that MAA has revised down their 2015 TIV forecast from 680,000 units (a number which is closer to our forecast), taking into account of ongoing inflationary pressures and fluctuations in forex and commodities. While all major passenger marques registered better MoM TIV sales, Perodua underperformed by 5% which we believe was overshadowed by its competitors’ more aggressive rebates. Looking at a more meaningful YoY comparison, Honda and Nissan sales outperformed which we believe were helped by its respective new models (Honda: HRV; Nissan: facelifted Almera and new Nissan X-Trail). Meanwhile on YTD basis, sales of Proton and Toyota still lagged against industry growth owing to the lack of attractive models launching.

Better 2H15 TIV to make up for the shortfall in 1H. We believe auto sales will pick up in the 2H to make up for our flat TIV growth assumption, underpinned by aggressive A&P activities, festivities and stronger seasonal patterns. Recall that the 2H auto sales for the past three years accounted for 51-52% to the full year TIV numbers. Meanwhile, to make up for the lagging sales caused by weaker consumer sentiment in 1H, we believe auto companies will be more aggressive on A&P activities for the remaining months of 2015. Thus, we view that stronger sales in the 2H could very likely to be at the expense of margins erosion.

Same old issue of unfavourable exchange rates, particularly to the auto players (in our portfolio universe: UMW and TCHONG) with high denominated USD costs due to the import of CBU vehicles, CKD packs and other components, which will continue to corrode their profitability. This is evident from the subpar 1Q15 results of UMW and TCHONG where the higher CKD kits and CBU costs were the main culprits. Zooming further into these two stocks, while c.1/3 of both group’s costs are dominated in USD, the net fluctuation impact to UMW is relatively immaterial compared to TCHONG as the revenue of its listed subsidiary UMW Oil & Gas (90% derived from USD), acts as a natural hedge. Our sensitivity analysis suggests that for every 1% fluctuation in the USD from our base case, UMW’s bottomline could be affected by 3%. Meanwhile for TCHONG, our sensitivity suggests that for every 1% fluctuation in USD from our base case, its bottomline could be affected by 6%. We have imputed an average RM3.50/USD exchange rate for CY15 for the abovementioned companies. On the other hand, BJAUTO is the exception as c.50% of its total costs is exposed to JPY, which is still weakening vs. MYR. With the on-going monetary stimulus programme implemented by Bank of Japan, we expect JPY to stay soft. We have imputed an average RM3.05/100JPY in the BJAUTO’s FY16E numbers. Based on our sensitivity analysis, every 1% drop in the JPY will have a positive impact to the group’s FY16E NPs by 5%.

BJAuto still the best exposure. We remain selective in our picks and prefer companies that are less vulnerable to the weakening MYR with targeted customer base in the middle-income to high-income bracket that are less sensitive to the rising cost of living. In our coverage universe, BJAuto best fits into this category 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 56%, which could translate into c.5.6% dividend yield. 

Source: Kenanga Research - 29 Jul 2015