INARI has made good progress at its new ventures, which may be able to garner a slice of action in the booming AI market. It is also riding on the recovering smartphone market in China via its YSIC-JV expansion in Yiwu, while its bread-and-butter RF business will see higher demand ahead of the launch of the new model of the US-brand smartphone with AI functionality. We maintain our forecasts, keep TP of RM4.00 and OUTPERFORM call.

We came away from INARI’s 3QFY24 briefing reassured of its outlook with the following key takeaways:

1. New businesses are progressing on track. INARI has fully installed all four production lines for its memory customer (vs. one line in the previous quarter) in P34, and is set for high-volume production starting in June, initially operating at approximately 20% capacity and gradually ramping up to full capacity by August 2024. While the product is a basic memory storage device, this learning process will eventually enable the group to tap into the AI market, as memory is a key component that complements core graphical processing power. Additionally, INARI's optical transceivers business has commenced high-volume production of 800G modules ahead of schedule due to high demand from data centres for faster data transfer in anticipation of increased AI adoption. Furthermore, INARI has begun high-volume production of Edge AI- related packages for a US customer and is preparing sample builds for a Japanese customer in June 2024.

2. Improvements in 4QFY24 are expected following a seasonally weaker 3QFY24. Despite reported softness in US-brand smartphone sales, INARI has managed to maintain a favourable production run rate by producing more legacy models to offset any shortfall in the new models. Looking further ahead, the group is preparing for the upcoming 2024 launch of the new model of the US-brand smartphone featuring AI- embedded functions. This new model will have increased component density, further miniaturisation of packages, and c.15% longer test times, all of which are expected to contribute positively to INARI’s revenue.

3. Rising demand for Chinese smartphones. INARI’s 54.5% owned YSIC-JV, featuring a 500k sq ft plant in Yiwu, positions the group to tap into the China smartphone market. Having passed qualification for four products (no specific model disclosed), it is on schedule to begin low volume production in June-July 2024. We are positive on this strategy given that the Chinese smartphone market has witnessed a resurgence of buying interest amongst consumers as a result of Huawei’s 7nm breakthrough and premiumisation efforts from brands like Xiaomi which saw 1QCY24 shipment rose 34% while the general Chinese smartphone market grew 6.5% in the same period, as reported by IDC. Inari is targeting an ambitious goal of RMB1b in revenue for its China unit and achieving listing status within three years.

Forecasts. Maintained

Valuations. We keep our TP of RM4.00 based on an unchanged FY25F PER of 32x. Our valuation reflects a 10% premium on peer’s forward mean, justified by the company's superior net margins of >20%, (vs. peers of single digit). Our TP imputes a 5% premium to reflect its 4-star ESG rating as appraised by us (see Page 4).

Investment case. We like INARI for: (i) being the closest proxy to 5G adoption, (ii) being highly responsive to the market demand with the roll-out of new technologies such as double-sided moulding (DSM) and system-on-module (SOM), and (iii) its significant expansion in China, capitalising on the superpower’s aggressive push for semiconductor self-sufficiency. Maintain OUTPERFORM.

Risks to our call include: (i) a soft global smartphone market; (ii) new offerings not well-received by key customers, (iii) supply-chain disruptions, and (iv) delays in its expansion in China.

Source: Kenanga Research - 27 May 2024