We maintain our NEUTRAL rating on the AUTOMOTIVE sector with an unchanged 2015 total industry volume (TIV) forecast of 667,000 units (flat growth assumption). According to the latest data from the Malaysian Automotive Association (MAA), October 2015 TIV rebounded with a decent sequential growth of 9% (and 3% YoY), with YTD10M15 TIV maintaining a marginal drop of 1%, in contrast to our (flat at 667,000 units) and MAA’s 2015 TIV growth assumptions (of +0.5% to register at 670,000 units). Pre-emptive purchases and aggressive A&P activities are the positive factors that helped to lift the TIV sales. Looking at the upcoming Nov-Dec15 sales volume, our flat TIV forecast of 667,000 units implies 125,900 units sales for the remaining Nov-Dec15 period, which we believe is achievable, especially with the car price hikes in January 2016. Recall that the last three years’ Nov-Dec TIV sales were hovering at 113,000-120,000 units, whereas our 125,900 units target is only 5% higher of the top range of historical Nov-Dec TIVs. All that being said, we believe the stronger sales in 4Q would also be achieved by sacrificing margins. On the companies that have released 3QCY15 results (MBMR and TCHONG), we saw margins compression as the key trend that disappointed earnings expectations. Adverse currency translation that caused higher input costs and aggressive A&P activities were the culprits. For the upcoming auto companies' results (namely UMW and DRBHCOM), we believe earnings risk remains intact. We remain selective in our picks and prefer players that are less vulnerable to the weakening MYR with targeted customer base in the middle-income to high-income brackets that are less sensitive to the rising cost of living. Our Top Pick remains BJAUTO (OP, RM2.63) with investment merits backed by: (i) better growth prospect from a low-base on the back of strong pipeline of exciting models, (ii) relatively stable margins, benefiting from the lower import duties from FTA with Japan, and (iii) potential dividend payout of 56%, which translate into c.5.5% dividend yield. Moreover, we also see value emerging (trading at a forward 10.1x PER, a steep 17% discount from the industry average forward PER of 12x) on current price weakness.

Sales mainly lifted by pre-emptive purchases ahead of 2016. As expected, October 2015 TIV rebounded with a decent sequential growth of 9% (and 3% YoY), with YTD10M15 TIV maintaining a marginal drop of 1%, as opposed to our (flat at 667,000 units) and MAA’s 2015 TIV growth assumptions (of +0.5% to register at 670,000 units). MAA attributed the rebound to the pre-emptive purchases and aggressive A&P activities that helped to lift the TIV sales; a view that is also shared by us. Recall that we had in our last report (Title: Still running on empty dated on 23 October 2015) preempted the abovementioned to happen during the 4Q15 period. Taking a closer look at the national passenger vehicles on YoY basis, while Perodua sales dropped by a marginal 2%, we do not view this as a sales weakness as Perodua sales in Oct14 back then was from a high base (during the first launching of Perodua Axia). On the other hand, Proton sales remained lacklustre, with YTD sales still lagging far behind from last year’s performance. Among the major non-national passenger marques, Honda and Mazda topped the sales YoY, which we believe they were mainly helped by their respective new flagship models (Honda: Honda HRV; Mazda: Mazda 2). Notably, Toyota sales also increased by 16%, which we believe was mainly helped by its aggressive year-end promotional campaigns.

Expecting sales momentum to continue till end-2015. Our flat TIV forecast of 667,000 units for 2015 implies 125,900 units sales for the remaining Nov-Dec15 period, which we believe is achievable, especially with the impending car price hikes in January 2016. Recall that the last three years’ Nov-Dec TIV sales were hovering at 113,000-120,000 units, whereas our 125,900 units target is only at 5% higher of the top range of historical Nov-Dec TIVs. Meanwhile, we believe that the sales will also be complimented by the more aggressive A&P activities for the remaining months of 2015; that is to make up for the lagging sales caused by weaker consumer sentiment (due to GST implementation) in 1H. All that being said, we believe stronger sales in 4Q will be achieved by sacrificing margins.

Margins crimped- the key earnings risk to 3QCY15 results. Thus far on the companies that have released their 3QCY15 results (MBMR and TCHONG), we saw margins compression as the key trend that disappointed earnings expectations. Adverse currency translation which caused higher input costs and aggressive A&P activities were the culprits. Meanwhile, for UMW and DRBHCOM which are set to release their respective 3QCY15 results next week, we expect the abovementioned to be the earnings risks. On the other hand, we view that BJAUTO should be protected from the adverse currency fluctuation for now as the group has a favourable hedging position from September to December at RM3.15/100 JPY currently. Recall that MYR averaged at RM3.3189/100 JPY during 3QCY15 vis-à-vis 2QCY15’s RM3.0160/100 JPY, which weakened by 10.0% against 100 JPY. For BJAuto, our sensitivity analysis suggested that for every 1% fluctuation of MYR vs. 100 JPY from our base rate assumption of RM3.20/100 JPY, the fluctuations would affect BJAuto’s FY16E bottomline by 4%.

BJAuto still the preferred play. We remain selective in our picks and prefer players 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 this category with investment merits backed by: (i) better growth prospect from a low-base on the back of strong pipeline of exciting models, (ii) relatively stable margins, benefitting from the lower import duties from FTA with Japan, and (iii) potential dividend payout of 56%, which translate into c.5.5% dividend yield. Moreover, we also see value emerging (trading at a forward 10.1x PER, a steep 17% discount from the industry average forward PER of 12x) on current price weakness. 

Source: Kenanga Research - 20 Nov 2015