We maintain our NEUTRAL call as we see limited re-rating catalyst for the sector coupled with a less favourable risk and reward ratio given rich valuations in most of the stocks. Although global semiconductor sales in October inched up 1.9% sequentially, YoY sales decreased by 2.5%, marking the fourth consecutive month of YoY weakness since July (recall that July sales recorded the first YoY weakness after posting 26 consecutive months of YoY growth). This latest sales number further reaffirmed our view that the industry slowdown could have already been in the making; with growth tipping off from the high base alongside with softening demand from major economies. Recall that the last two rounds of industry downcycle [from October 2008 to October 2009] and [from July 2011 to October 2012] shared similar patterns where trends of YoY growth were seen tapering off at the initial phase, followed by the first YoY decline setting in before further developing into an industry downturn. Additionally, we are also cognisant that the industry experts, i.e. Semiconductor Industry Association (SIA), World Semiconductor Trade Statistics (WSTS) and Gartner, all have once again marginally trimmed down their growth forecasts for the worldwide semiconductor market (to almost flat growth) for 2015 and 2016. Nonetheless, the strong USD trend is still the silver living that will continue to support the profitability of the local semiconductor players (given their export-oriented earnings profile). Within our coverage universe, we have downgraded our previous Top Pick - MPI - to MARKET PERFORM rating, following a few rounds of strong share price run-up, which recently touched our TP of RM9.71. This is after a strong capital return of 396.7% since our first OUTPERFORM rating in August 2013 (when it was at RM2.44). SKPRES (TP: RM1.76) is our only OUTPERFORM stock for now, with investment merits being its: (i) resilient earnings prospect (at a 2-year NP CAGR of 93%) backed by its on-hand long-term contracts from the topnotch home appliance maker, Dyson as well as (ii) strong Balance Sheet and healthy Operating Cash Flow, which will support its generous Dividend Payout Policy of no less than 50% of PATAMI (translating into decent dividend yield of 2.9%-5.0%). Valuation-wise, it is also trading at an undemanding 10.8x FY17E PER, which is at an unjustified 10% discount from the industry average PER of 12x; all against its superb 2-year NP CAGR of 93% as well as the higher-than-industry (yet sustainable) margins backed by its cost pass through mechanism.

Turning more conservative. Global semiconductor sales in October 2015 came in weaker at -2.5% YoY which marked the fourth consecutive YoY decline. Meanwhile on MoM basis, total sales inched up by 1.5% with growth seen in all regions namely Americas, China, Europe, Japan and Asia Pacific/others. Outlook-wise, while WSTS and Gartner are still forecasting YoY growth for both 2015 and 2016, we observed that the growth quantum from these industry experts have been lowered down further to almost flat (from low single-digit forecasts previously). We understand that the downgrades were mainly due to the lower forecasts of the major applications (PCs, smartphones, and tablets) that drive the semiconductor markets as well as the currency devaluation of other major economies against USD. Meanwhile, at the front-end of the semiconductor value chain, our channel checks also revealed that the equipment manufacturers are already experiencing slower sales with some of their customers putting capital investment on hold.

Smartphones and Automotive segments still bright spots, albeit at a moderate momentum. Worldwide sales of smartphones to endusers were reported to record 352.8m units (7.0% QoQ; and 15.5% YoY), with smartphone sales in emerging markets rising to 259.7m (+18.4% YoY) while sales in mature markets saw smaller quantum of growth, at just 8.2% YoY. During 3Q15, the world’s two biggest vendors namely Samsung and Apple, both refreshed their flagship devices with new launching (Samsung: the Galaxy S6 edge + and Note 5; Apple: iPhone 6s) which contributed to the robust sales volume during the quarter. Huawei, the highest sales vendor after the DuOS, saw its growth momentum continued to be driven by smartphone sales in both its home market and global markets, particularly Europe, according to Gartner. Outlook-wise, worldwide combined shipments of devices (PCs, Tablets, Premium ultramobiles and Mobile Phones) are projected by Gartner to reach 2.40bn units in 2015, at a marginal 1.0% decrease (vs. previous growth forecast of 1.5% back then in July) with growth by Mobile Phones (+1.5%) to be negated by the weaker Computing Devices Market (-9.2%). Back home to the local players, although both MPI and Unisem have exposure in the PC segment (at 8% and 15%, respectively), we still expect marginal net growth at sales (USD) by both companies, to be superseded by robust Smartphone segments, which are still the lion’s share contributor to their respective revenue (at c.42% and c.32% respectively). Note that both MPI and UNISEM are still in expansionary mode (with some in max-ramp volume production) for their Smartphones customers. Meanwhile, the automotive semiconductor is also forecasted to register promising growth of high singledigit YoY by IHS and a 5-year CAGR of high-single digit by Technavio. The growth will be on the back of: (i) more sensor components being installed for safety measures, and (ii) higher electronics content with new models rollout. On the local players, we understand that both MPI and UNISEM’s Automotive segments (with exposure of c.22% and c.16%, respectively) are currently being driven by the continual strong orders for different pressure and impact sensors.

Moderate sales masked by favourable currency translation. While we see moderate sales growth going forward in USD terms for the export-oriented semiconductor companies under our coverage, favourable currency translations to MYR terms are boosting earnings. Note that USD/MYR exchange rate improved (+6% QoQ; +27% YoY) from average RM4.05/USD in 3Q15 and RM3.36/USD in 4Q14, to average RM4.28/USD in 4Q15. Based on our sensitivity analysis, every 1% fluctuations in the USD will impact our FY16E NPs for both UNISEM and MPI by 1%. Recall that nearly 100% of their revenue are denoted in USD, with natural hedge from its raw materials purchases (mainly in USD) which constitute about c.40% of total costs as well as the 50% hedging on the net receivables (in some companies). We have imputed an average of RM3.96/USD for 2015 and RM4.20/USD for 2016 for the Tech companies under our coverage in-line with our team of economists’ forecasts.

Within our coverage universe, we have downgraded our previous Top Pick- MPI to MARKET PERFORM rating, following a few rounds of strong share price run-up, which recently touched our TP of RM9.71 (last closing price of RM9.68 at of our time of writing). This is after a strong capital return of 396.7% since our first OUTPERFORM rating in August 2013 (when it was at RM2.44). We made no changes to UNISEM and NOTION be it with their ratings or TPs. Meanwhile, SKPRES (TP: RM1.76) is our only OUTPERFORM stock for now, premised on its resilient earnings prospect as well as decent dividend yield of 2.9%-5.0%. Valuation-wise, it is also trading at an undemanding 10x FY17E PER, which is at an unjustified 17% discount from the industry average PER of 12x; all against its superb 2-year’s NP CAGR of 93% as well as the higher-than-industry (yet sustainable) margins backed by its cost pass through mechanism. 

Source: Kenanga Research - 7 Jan 2016