Following MPI’s analyst  briefing  last  Friday,  we  reiterate  our  BUY  call on the stock,  with an unchanged  FV of MYR3.67, based on 1.0x  CY14 P/NTA.  Operationally,  everything is intact. We believe  MPI’s  successful transition  to  high-margin  businesses,  stringent  cost  controls,  and  its exit from its  loss-making stamped lead frame business  at  DCI,  should keep the company in the black going forward.

• Operating highlights. MPI’s 1QFY14 utilisation rate was broadly similar to  the  preceding  quarter’s  82-83%.  Based  on  sales  by  end-product, revenue  at  the  smartphone  and  tablet  (S&T)  segment grew  13%  y-o-y (+11% q-o-q). Much to our surprise,  the personal computer (PC) division expanded by 23% y-o-y (+32% q-o-q).
• Closes  chapter  on  stamped  lead  frame  business.  Dynacraft Industries  SB  (DCI),  a  wholly-owned  subsidiary,  decided  to  exit  its stamped  lead  frame  business  by  3Q.  This  segment  has  been  loss making for the past three years. We think this bodes well for MPI given that its profit margin, excluding the stamped lead frame business, should improve going forward.
• Management guidance. MPI is guiding for  2QFY14 sales to  decline by a  single digit q-o-q. That said, we believe its successful transition  to the high-margin  businesses  and  stringent  cost  controls  should  keep  the company  in  the  black.  Management  believes  that  sales  volume  of  its newly  developed,  ultra-thin  quad-flat  no-leads  (QFN)  packages  should gain traction over the next few quarters.
• Forecasts  and  risks.  No  changes  to  our  assumptions  and  forecasts. The key risks are: i) strengthening of MYR, ii) higher raw material costs, and iii) a slowdown in the semiconductor market.
• Valuation  and  recommendation.  Maintain BUY on MPI,  with MYR3.67 FV, based on 1.0x  CY14 P/NTA (at a 30% discount to the historical  5-year sector average of 1.4x). This implies a P/E of 12x on CY14 EPS, which we deem  fair. We  opine  that MPI’s earnings  have  turned  around as the group has chalked up two consecutive quarters of strong results.

Key Takeaways From Analyst Briefing

• Utilisation rate stood at 82-83%. MPI continues to focus on the S&T and automotive segments
• Key operations intact. Positive developments all around.
• We think this move bodes well for MPI as its stamped lead frame business has been loss making for the past three years.
• 2QFY14 sales to decline single digit q-o-q; in line with historical trend.

Operating highlights.  MPI’s utilisation rate for 1QFY14 was broadly similar to  the preceding  quarter’s  82-83%.  Based  on  end-product,  sales  in  the  smartphone  and tablet (S&T) segment  –  now accounting  for 36% of total revenue  –  grew 13% y-o-y (+11% q-o-q). Much to our surprise,  revenue at  the personal computer (PC)  division expanded 23% y-o-y (+32% q-o-q). Management reckons that desktops and laptops are regaining consumer interest as they seek to upgrade their seasoned big screen devices. However, data from Gartner suggest otherwise; during the July-Sept period, PC shipments contracted by 9% y-o-y (+6% q-o-q). That said, MPI’s primary focus is to  grow  the  S&T  (good  margins)  and  automotive  (stable  &  secure,  provide  sound basis of organic growth) segments of its business.

Update on facilities. MPI has two facilities- one in Ipoh in Malaysia known as M-site, and S-site along with its China operation at Suzhou.

• On  M-site, management said half of its sales are from the automotive segment. It  intends  to increase  this  contribution to 75% within two years. We understand that starting from 2Q-3Q,  the company will ramp up  production as  it has been qualified  by  a  top  European  auto  customer  to  fabricate  a  custom  automotive pressure sensor.
• As for  S-site, MPI became a major test hub for one its US customers  for new copper-clip  (cu-clip)  and  high  efficiency  DC-DC  (direct  current)  converter modules.  We gather that contribution should kick  in from late 2Q onwards. This facility is equipped with 40 test systems.
• Lastly,  Carsem  Suzhou  has  been  qualified  by  a  top-tier  integrated  device manufacturer (IDM) and management saw volume rise for its chips  used  in  the new  Xbox 720. Furthermore, we understand there  was higher  demand from its new customers supplying handheld Wifi FEM (front-end module) devices. Going forward, MPI is looking to venture into the LGA (land grid array) and VBGA (very thin-profile ball grid array) markets related to low cost smartphones.Exiting stamped lead frame business.  Management  said  Dynacraft Industries SB (DCI),  a  wholly-owned  subsidiary  of  MPI,  will  be  exiting  its  stamped  lead  frame business by 3Q. This segment has been making losses for the past three years. That said,  DCI  will  maintain  its  etching  and  cerdip  (ceramic  dual-in-line  package) operations as both are still profitable. Management said that the contribution from the stamped lead frame division  makes up  less than 5% of MPI’s total revenue .  Overall, we  think  the  move  bodes  well  for  MPI  given  that  its  profit  margin,  excluding  its stamped lead frame business, should improve going forward.

Management guidance. MPI is guiding for 2QFY14 sales to decline by single digit qo-q  on  the  back  of  lower  guidance  from  its  customers.  That  said,  we  believe  its transition  into  the  high-margin businesses  as well as  stringent cost controls  should keep  the  company  in  the  black  going  forward.  Over  the  next  few  quarters,management believes that the sales  of its newly developed, ultra-thin quad-flat  noleads (QFN) package should gain traction given that it  can substitute wafer level chip scale packages (WLCSP), which are thicker in nature.

Forecasts & risks. No changes to our assumptions and forecasts. The key risks are: i)  strengthening  of  MYR,  ii)  higher  raw  material  costs,  and  iii)  a  slowdown  in  the semiconductor market.

Valuation and recommendation. We continue to advocate a BUY recommendation on MPI, with a FV of MYR3.67, based on 1.0x CY14 P/NTA (at a 30% discount to the historical five-year sector average of 1.4x). This implies a P/E of 12x on CY14 EPS, which we deem fair as this  is comparable to its peers’ valuation. We are of the view that  MPI’s  earnings  turnaround  by  venturing  into  the  high-margin  business  has crystalized given its two consecutive quarters of strong EBITDA margin.

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Company Profile
Malaysian Pacific Industries (MPI) manufactures, assembles, tests and markets integrated circuits, semiconductor devices, electronic components and leadframes to customers worldwide

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Source: RHB