• Value emerging after ~40% fall in the past 24 months
• Earnings recovery underway backed by strong Ringgit, normalisation of inventories & resumption of new launches

• FY18F revised from loss to profits, FY19F introduced

• Upgrade to contrarian BUY at higher TP of RM2.05; conservatively pegged to trough valuation of 0.5x FY18F BV.

Upgrade to contrarian BUY. We raise Tan Chong to BUY from HOLD and raise our TP to RM2.05 from RM1.85 previously, conservatively pegging Tan Chong to trough PBV of 0.5x. Tan Chong’s earnings were previously hit by: (1) Loss in market share from a freeze in new launches (2) Weak Ringgit in the past 2 years (3) Heavy discounting to clear off old inventories. However, having seen share price fall some ~40% in the past 24 months, we see value emerging in the stock. Tan Chong now trades at just 0.4x FY18F PBV amid a potential turnaround in earnings over the next few years. This is premised on: (1) A much stronger Ringgit now (2) Successful inventory pare down in the past 12 months (3) Resumption of new model launch this year (not factored into projections yet). Our FY18F is revised up to a core net profit of RM21m from a net loss of RM81m previously and we introduce our FY19F earnings of RM61m.

Headed towards breakeven. Tan Chong has large exposure to USD imports (for CKD kits) estimated to account for 18%-20% of total cost. We forecast losses to narrow and gradually hit breakeven in FY18F followed by more meaningful earnings thereafter on the back of a stronger Ringgit now. Resumption of new model introductions from 2018 will drive a recovery in volumes and lower kit cost in USD terms as costing will be benchmarked against current forex levels (relative to ~RM3.10:USD levels when the Almera was introduced back in 2012). Furthermore, with the Almera having been in the market >5 years, the bulk of capex would have been fully depreciated now.

Inventory pare down progressing well. The significance of Tan Chong’s successful inventory pare down is that it: (1) Reduces the magnitude of discounting given less need to do so (2) Reduces finance cost from lower working capital requirement (3) Increases Tan Chong’s exposure to current forex levels (vs. mostly RM4.20:USD exposure currently due to old inventories). Tan Chong has been paring down these expensive inventories in the past 2 years (See Exhibit 3) which will see it gradually increasing exposure to the current, much lower forex levels (of ~RM4.00:USD) i.e. some 5% appreciation vs. the RM4.20:USD levels. Inventory levels (comprising mainly the Almera, X-Trail and Navara) have reduced by 30% as of 3Q17 (RM1.3b) against the peak of ~RM2b in 1Q16. Management targets to reduce this to

Source: MIDF Research - 9 Jan 2018