INVESTMENT MERIT

We came away from a recent company visit, with our POSITIVE conviction reaffirmed stemming from the group’s brighter prospect in FY17. This will be anchored by new ATE orders from Solar Cell players on top of the resilient lion’s share order from Automotive and Smart Devices segments. The group’s state-of-art engineering capability is the success factor of consistently drawing more orders further supported by the industry up-cycle. Maintain Trading Buy with a higher TP of RM1.90.

Stronger-than-expected FY16 performance with positive spill-over into FY17. The group recently announced its 4Q16 results with CNP of RM8.5m (-5% QoQ; 0% YoY), bringing FY17 CNP to RM30.9m (+44%) which topped our previous full-year earnings estimates by 10%. Positive deviations were due to better-than-expected margins on the back of better product mixes as well as favourable currency translations. To our positive surprise, a third interim DPS of 2.0 sen (ex-bonus) coupled with a special tax exempt dividend of 2.0 sen (exbonus) were declared, bringing FY16 DPS (ex-bonus) of 8.0 sen (or 12.0 sen cum-bonus) which yields 4.6% (with a DPR of 71%). Previously, we had only forecasted 10.0 sen (cum-bonus) to be declared in FY16.

Positives spill-over into FY17. From our recent meeting with management, we were delighted to gather that the 1Q17 order backlog stands strong at RM27m, which has already bucked the seasonality weaker quarter. The strong momentum will be underpinned by the delivery of new burn-in systems for the automotive sector and smart devices. On top of that, we also gather that the group is getting new orders of Automatic Test Equipment (ATE) for Solar Cell players which should see contributions from 2Q17 onwards. Although no quantum was mentioned and we believe that the contribution will be minimal at the starting phase. We see this as a positive sign of the group venturing into other segments, hence providing greater diversification.

Strong momentum from LEDs test and burn-in equipment demand from Automotive and Smart Devices. For the lion’s share revenue contributor - Automotive segment, (contributed 49% in FY16), we believe that the proliferation of DRL beyond higher class car models as well as the mandatory requirement of having DRL by the European Union in all new cars, alongside higher requirement for the efficiency for test equipment should continue to propel the demand of ELSOFT’s test equipment and burn-in systems going forward. In fact, the group is already working on a higher speed testing machine which carries higher value. Barring unforeseen circumstances, this machine will be one of the key contributors for the group’s earnings for the Automotive segment. Meanwhile for its Smart Devices segment, we believe that the orders for its new customised LED test and burn-in systems should remain strong this year in conjunction with the brand-new smartphone launching by one of the world’s leading smartphone vendors. Recall that for FY16, the group’s Smart Devices segment has grown 92% YoY to 37% in terms of revenue share in FY16, just with the introduction of new flashing features into the same generation smartphone.

Trading Buy with a higher TP of RM1.90 from RM1.64. Post meeting, we revise our FY17E CNP upwards by 15% to account for higher orders from Automotive segments and better product mixes. Our TP of RM1.90 is based on a 14.0x FY17E PER which is broadly in line with the industry average forward PER of its global peers. Coupled with our forecast net DPS of 10.0sen in FY17E (implying yield of 5.7%), our TP of RM1.90 suggests a total upside of 15% from here

Source: Kenanga Research - 14 Mar 2017