We maintain OVERWEIGHT on the technology sector. The overall 2QCY22 results for companies under our universe were largely stable sequentially. Most of the companies held up fairly well with the likes of KGB looking towards a stronger 2H thanks to its unique exposure to the aggressive expansions among wafer fabs. OSAT companies (such as UNISEM and MPI) which have China operations may see occasional challenges with the prolonged lockdowns in China, but plants are still able to operate with workers living on site. We also see SKP emerging as a winner in the premium household product space after the labour issue saga that plagued the EMS sector in the past quarters. Overall, while unfavourable macro factors still persist, we remain sanguine for the local technology sector over the longer term given Malaysia’s: (i) neutral stance in the China-US chip battle, and (ii) expertise in the back-end semiconductor process which will still be highly sought after with aggressive front-end expansions. As such we like SKP (OP; TP: RM2.10) for being the last standing proxy to the fast-growing premium household product brand, and INARI (OP; TP: RM3.45) for its direct exposure to 5G with heavy customer’s dependency on the group.

2QCY22 results were largely in line. Out of all the companies under our coverage, the overall results remained mostly stable sequentially; with 0%, 78%, and 22% coming in above, within and below our forecasts vs. 11%, 78%, and 11% for the preceding quarter, respectively (see Exhibit 1).

Earnings held up fairly well for most of the companies under our coverage with the likes of KGB and SKP indicating the strong growth momentum to continue throughout the year. KGB remains a prime beneficiary to the on-going wafer fab expansions, as reflected by its massive orderbook while SKP has received very encouraging forecasts from key customer to ramp up production in anticipation for the year-end festive season. UNISEM and MPI are expected to see moderating growth in the immediate term due to the prolonged lockdown in China. However, we learnt that workers are still able to operate in the plants by living on site during the movement restriction period. D&O and INARI’s earnings results met expectations but we tweaked our earnings forecasts slightly lower (4% and 5%, respectively) post-briefing on the back of minor delays in their respective ramp-up of new capacity.

Labour challenges still persist which PIE’s 2QFY22 results clearly illustrated as net margin fell to 2.8% (vs. 7.1% in 1QFY22) owing to the gestation period of transitioning and training newly hired foreign workers as well as the implementation of higher minimum wage that took effect since May 2022. On the bright side, customers are receptive to the group’ request to share the higher production cost which will be reflected progressively.

Meaningful benefit from the reopening of international travel has yet to be seen as GHL’s disappointing 2QFY22 was mainly due to the absence of cross borders payment, causing gross profit margin from transactions processed to contract. To address the issue, the group is working on new product offerings with higher margins (eg. micro lending, buy now pay later or BNPL, and direct merchant acquiring beyond Malaysia) to be gradually rolled out in 2023.

OVERWEIGHT. While the current macro climate poses some temporary jitters, we believe the longer terms prospects for the technology sector remains bright given Malaysia’s: (i) neutral stance in the China-US chip battle, and (ii) expertise in the back-end semiconductor process which will still be highly sought after with the aggressively front-end expansions. As such we like SKP (OP; TP: RM2.10) for: (i) being the main proxy to the brand with fast-growing premium household products, (ii) its ability to keep margins stable despite higher wages and raw material cost, and (iii) its customer’s high dependency on the group. We continue to favour INARI (OP; TP: RM3.45) for: (i) having one of the best profitability in the OSAT space, (ii) direct involvement in the 5G supply chain, and (iii) constant improvement and innovation to ensure customer’s stickiness.

Source: Kenanga Research - 5 Sept 2022