2014  could  be  a  washout  year  with  2H14  earnings  likely  to  remain dismal,  dragged  by  a  gradual  recovery  in  Indo-China  and  margin compression from the cut-throat competition domestically. 2015 volume growth looks likely to be crimped in the absence of the Nissan Note that will  likely  not  be  launched  in  Malaysia.  After  slashing  our  earnings estimates again, we cut our FV to MYR3.90 and retain our SELL call.

Moving  towards  an  asset  light  business  model.  The  challenging operational  environment impacting the group in 2014 in the form of the customs dispute in Vietnam and the  heightened competition in Malaysia has spurred Tan Chong  to relook at their business process  and model.We understand that management intends to relieve the pressure on  its balance sheet by reducing the  demands on working capital and scaling back  on  capex  plans.  This  could  involve  a  structural  shift  towards  an asset light business model involving  the elimination of some significant capital assets off the balance sheet. A rethink of its dealership strategy could also be under consideration.  Peers like Honda and Mazda mainly employ  an  independent  dealer  network  to  distribute  their  vehicles.  In addition to reduced administrative costs, this approach could also help to incentivize its sales force. The guidance is for the restructuring proposals 
may be ready by end-2014.

Indo-China  business  set  back.  The  customs  dispute  in  Vietnam  has meant that Tan Chong  has not been able to import any components or vehicles  into  the  market  for  the  past  twelve  months.  The  negative production variance  resulted in a  loss before interest and tax  (LBIT)  of MYR12.3m during 1H14 as plant utilisation rates dropped off. While the dispute has since been resolved as of  August, it may  take some time for production to resume and for channel inventories to be restocked.

Limited new model pipeline.  Tan Chong’s  new model pipeline for the next year  is now limited to the X-Trail SUV, Serena S-Hybrid  MPV and Navara truck. The B-Segment Note hatchback is unlikely to be launched in Malaysia for pricing and competitive reasons.

Another  tough  year  ahead.  We  see  another  challenging  year  for  the company in 2015 in the absence of a volume selling  B-Segment product.We  slash  2014-15  estimates  by  41.3%  and  10.2%  respectively  after lowering  margin  assumptions.  Forward  P/Es  still  look  stretched.  We maintain  our  SELL  call  and  lower  FV  to  MYR3.90  (from  MYR4.30),derived from applying an unchanged 11.5x target P/E to 2015 earnings.

Source: RHB