We maintain our UNDERWEIGHT rating on the AUTOMOTIVE sector given the outweighing of UNDERPERFORM ratings in the total market capitalisation of our stock coverage coupled with the lack of re-rating catalyst for 2016. The recent earthquake in Kumamoto, Japan has affected a handful of key car makers, i.e. Toyota, Honda, Nissan, causing them to halt production temporarily. That said, we gather from the respective management (UMW, TCHONG and BJAUTO with exposure to the abovementioned names) that the impact will only be minimal to the Malaysian operation as the facilities of their respective principals are either merely suspended for a week or located far away from the point of disaster. According to the latest data from the Malaysian Automotive Association (MAA), Mar 2016 TIV rebounded by 29% MoM while declining 28% YoY to 48,800 units. The MoM growth was attributed to the longer working month in March as compared to Feb 2016 (backed by seasonal holidays). Meanwhile on YoY basis, recall that a high base was seen in Mar 2015 with auto companies aggressively conducting campaigns and promotional activities to clear stock to avoid tax complications with the implementation of GST. With the latest YoY weaker TIV, YTD March sales caught in a wider negative territory of -22% as opposed to Feb 16 TIV of -18%. In terms of outlook, the sector is likely to continue showing weakness at least in the 1H as we believe that consumers will still be adjusting to the environment of rising cost of living and high car prices. We believe situation should improve in 2H16 as new model launches will stimulate the market. We maintain our 2016 TIV forecast of 650,000 (-2.5%), which YTD TIV represents 20% of, is unchanged for now in anticipation of a stronger 2H16 TIV to make up for 1H16’s poor results. In our automotive coverage, we continue to favour BJAUTO (OP, RM2.41) as our preferred stock which we view as a rose among the thorns given its target customer base in the middleincome to high-income bracket that are less sensitive to the rising cost of living. BJAUTO is also backed by the investment merits of: (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 translates into c.4.9% dividend yield. In terms of valuation, it is still trading at an undemanding valuation of 11.3x FY17E PER, against the industry average forward PER of 14.6x, a steep discount of 23%.

Minimal impact from the recent earthquake in Kumamoto- the southern part of Japan. Southern Japan was hit by two serious earthquakes in a matter of days, causing Japanese car maker giants - Toyota, Honda and Nissan to halt production temporarily. While concerns are lingering on whether the history in 2011 might repeat itself (with similar impact seen to the supply chain), we gather from the respective management (with exposure to the abovementioned names) that the impact will only be minimal to the Malaysian operation. As for UMW’s Toyota, their respective production facilities in Japan will only be suspended (in a few plants) in stages for about a week due to parts shortages (engines). Hence, UMW management does not see any material impact from the earthquake for now. Meanwhile for TCHONG’s Nissan, as the group sources its CKD-kits as well as CBU models, mostly from Thailand rather than Japan and is thus spared from the impact. As for BJAUTO’s Mazda, its manufacturing hubs are mainly based in Hiroshima and centered around Tokyo and Nagoya areas (away from the affected areas); hence sheltered from the disaster.

Some greens in monthly TIV, as March 2016 recorded 48,800 units (+29% MoM and -28% YoY). Mar 2016 outperformed Feb 2016 in units sales thanks to March being a longer working month in addition to the seasonal Chinese New Year holidays in February. While the state of the current consumer sentiment could be blamed for weaker sales on YoY basis, we should remember that in Mar 2015, auto companies were aggressively conducting campaigns and promotional activities to clear stock to avoid tax complications with the implementation of GST, boosting monthly TIV during that time. Analysing the passenger vehicle segment, Mazda was the best performer on a MoM basis (+83%), followed by Toyota (+70%) and Nissan (+44%). On a YoY basis which was generally in decline, the hardest hit appears to be Proton (-47%) and Toyota (-36%), attributed to the lack of new model launches to generate sales. With the latest YoY weaker TIV, YTD March sales caught in a wider negative territory of -22% as opposed to Feb 16 TIV of -18%.

Better 2H with attractive pipeline of models launching. We believe weak consumer demand will continue to underpin the coming months’ TIV (at least until June) with consumers taking time to adjust to the rising cost of living and higher car prices (particularly from Toyota, Honda and Nissan, starting from Jan 2016 to buffer higher import costs of components and CBUs). This will result to some degree, margin compression as automotive players have to ramp up their promotional efforts amidst the fierce competition in the now highly saturated automotive market. However, it may not be all gloom and doom as we can expect several new model launches during the second half of 2016 to excite the market, with the likes of Suzuki CKD kits by Proton, new Perodua Sedan, new Honda Civic, BRV, facelift City, Jazz and Accord, diesel engine models by Mazda and new Toyota Hilux, Fortuner, Innova and upgraded Vios. We keep our 2016 TIV forecast of 650,000 (-2.5%) unchanged for now. The YTD TIV of 131,267 currently represents 20% of the said forecast.

BJAUTO remains our preferred stock as we view it as a rose among the thorns given its targeted customer base in the middle-income to high-income bracket that are less sensitive to the rising cost of living. More positively, the recent management buyout could also remove an overhang on its shares where a positive knee-jerk reaction could be reflected in the share price in the foreseeable future. All in, we are still optimistic with its investment merits supported by: (i) better growth prospect from 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 fair dividend yield of c.4.9%. BJAUTO is currently trading at an undemanding valuation of 11.3x forward PER, which is below its industry average forward PER of 14.6x.

Source: Kenanga Research - 20 Apr 2016