We upgrade D&O Green Technologies (D&O) to OUTPERFORM from MARKET PERFORM while maintaining our earnings forecast with a TP of RM0.91. Our valuation is based on an unchanged FY20E PER of 22.6x, representing +1SD above its German competitor’s 2-year mean. We believe that value has emerged following a knee-jerk sell-off due to the new coronavirus threat.

Strong 4Q. We came away from a management meeting excited about D&O’s outlook. Stronger 4Q on a QoQ and YoY basis can be expected owing to more business wins for both interior and exterior automotive lightings. Seasonally, 4Q is also the strongest quarter for the company as customer ramp up orders to prepare for stronger festive and year-end promotional season. In addition, the group has been gaining market share from its competitors in the automotive LED space, notably for rear combination lamps (RCL).

Confident for FY20. Optimism is anticipated to continue into FY20 as the company has received very encouraging orders for January 2020. So far, the new coronavirus threat in China has not caused any delay or cancellation of orders. Note that circa 45% of D&O’s revenue is derived from China. Macro outlook have also been showing very positive signs as Europe car sales jumped 21% YoY in December 2019 to mark the fourth consecutive month of growth, turning full-year sales growth to a positive 1.2%. Meanwhile, car sales in China are seeing the decline narrowing. More importantly, D&O’s growth does not solely depend on the growth of car unit sales, but the LED content per vehicle which will continue to increase as car manufacturers move towards electric vehicles (EV) and autonomous cars.

Smart RGB. Having the first-mover advantage in smart RGB, D&O is well positioned to reap the benefits as car makers are moving towards such technology. Smart RGB yield 10x higher ASP and allows for local dimming which results in better contrast and lower power consumption. With battery as the main power source for EVs, even marginal power saving from LED makes a difference in terms of driving range. Such savings become even more pronounced with the increase in LEDs per vehicle, in tandem with market trend to improve both safety and aesthetics.

Moving to new plant. Starting next month, the company will be moving to its new plant which offers 50% increase in floor space compared to the existing plant of 183K sq ft. Offices and administrative staff will be moved over to the new plant to free up more space for production in the old plant. The conversion will happen gradually and by fully utilising the old plant alone could potentially double its capacity output from its current state.

Maintain FY19-20E core PATAMI at RM32.9-45.1m. Upgrade to OUTPERFORM from MARKET PERFORM with an unchanged Target Price of RM0.91 based on an unchanged FY20E PER of 22.6x, representing +1SD above its German competitor’s 2-year mean. We believe D&O deserve to trade at a higher PER multiple as it is gaining market share while its German competitor is still in the red. Being one of the only two in the world to supply full range automotive LED, D&O is a prime proxy for the potential recovery in the automotive market, amplified by rising LED content in passenger vehicles and its augmenting market share.

Risks to our call include: (i) disruption of components supply, (ii) replacement/obsolescence of LED technology, (iii) adverse currency fluctuations, and (iv) adverse foreign labour policy

Source: Kenanga Research - 4 Feb 2020