1H18 CNL of RM21.5m missed expectations on operational deleveraging, which led us to forecast FY18E CNL of RM42.6m before a recovery in FY19. The group has provided for a write-off totalling c.RM49m, while putting forward a partial material loss claims of >RM170m. Thus far, RM60m claims have been received. Maintain UP with an unchanged TP of RM0.440 (0.4x FY18E PBV) in view of the near-term uncertainties.

Missed expectations. The group recorded 2Q18 core net losses (NL) of RM11.3m (-10% QoQ and <-100% YoY), bringing 1H18 core NL of RM21.5m vs. our FY18E CNL of RM22.5m with the culprits being the operational deleveraging post fire-incident (high overhead costs on 40% lower production capacity). Note that the 1H18 CNL has been adjusted for: (i) the plant and equipment as well as inventories write-off amounting to RM49.5m as well as (ii) insurance interim payments of RM60m (three tranches). Meanwhile, absence of dividend was expected as management has decided to defer dividend payment for now until operations are normalised.

YoY, 1H18 revenue dropped by 13% on lower sales orders following the fire incident on 20th October 2017 at its main Klang factory. It could have been worse if not for the buffer of two months ready stocks before the incident. Portfolio-wise, Camera products led the drop (-37%) followed by Automotive (-16%) as these products were mainly manufactured in the affected Klang factory. As production capacity was down by 40% with the overhead cost unable to be charged out effectively, CNL of RM21.5m was recorded, all on top of the weaker USD/MYR as well as the higher aluminium prices during the period.

QoQ, though revenue improved by 4% led by Automotive sales (+23%) followed by HDD (23%), core NL of RM11.3m was recorded (vs. 1Q18 CNL of RM10.2m) due to operational deleveraging.

Steering through uncertainties. For the post fire incidents update, the group has provided for a write-off totalling to c.RM50m, while putting forward a partial material loss claim of >RM170m (with fire policy based on replacement of equipment and CNC machines). To date, NOTION has claimed back RM60m in total, with another RM20m to be paid at a subsequent date (1st tranche of RM15m on 5th Jan 2018, 2nd tranche of RM15m on 30th Jan 2018 and 3rd tranche of RM30m on 4th May 2018 with a balance of RM20m to be paid on a subsequent date). Business-wise, the group had lost one account in the Camera segment due to the fire incident with much reduced orders from Nikon. However, better volume should be seen in the subsequent quarters on major sporting events. Meanwhile, its lifestyle consumer electronics project should only commence earliest by 2QCY18. On the positive side, the new orders stream with the emergence of two new customers in the semiconductor industry for the manufacturing of precision machine parts fabricated for wire bond is partly offsetting losses from other segments. We believe the gestation period could be longer than the previous incident (which was 6 months) considering the more severe impact this round. All in for our base case, we only assume full recovery earliest by 1Q19.

Maintain to UP with an unchanged TP of RM0.440. All in, we forecast FY18E CNL of RM42.6m before a recovery in FY19. While we are confident with the management, especially on the swift business continuity and contingency plans post fire-incidents, we believe the meaningful operational recovery could only come in by FY19. With uncertainty in the near term, we prefer to stick on the conservative side for now given the major disruption on its production capacity. We will switch the valuation method back to PER methodology to better reflect its earnings recovery once clearer visibility returns. Maintain UP with an unchanged TP of RM0.440 (which implies 10.5x FY19E PER).

Source: Kenanga Research - 25 May 2018