We  recently  met  with management  and  came  away  feeling  positive  on its  robust  earnings  outlook,  driven  by  higher  volume  growth  from  its key customers, particularly Keurig. Reiterate BUY with a revised TP of MYR4.50 (from MYR2.95),  45.2% upside. The company will produce  the third model  of coffee machine in 4QFY15.  It expects  double-digit sales volume growth for the new model vs the outgoing model.  
 
Strong orders from Keurig. VS Industry expects stronger sales volume growth for its coffee brewers, on the back of growing orders from Keurig Green  Mountain  (Keurig)  (GMCR  US,  NR).  Orders  for  the  Keurig  2.0 coffee  brewers  (production  began  May  2014)  came  in  stronger  than expected.  In  addition,  the  group  expects  to  lock  in  orders  for  the upcoming  model,  which  will  start  production  in  4QFY15  (Jul). Management has targeted double-digit sales volume growth for the new model  vs  Keurig  2.0.  Thus,  moving  forward, we believe VS Industry’s hare of Keurig’s production sales volume should grow to 20% by FY16 (current: 10%). We also note that the recent strengthening of the USD vs the MYR bodes well for VS Industry as sales to Keurig are denominated in USD, while only a proportion of its raw material purchases are in USD.  

Non-Keurig orders may rise as well. Rising orders from customers like Dyson  and  Zodiac  will  also  contribute  to  VS  Industry’s strong volume growth moving forward. We  understand  that  Dyson  is  launching  a  new vacuum cleaner model this year and, consequently, orders for its plastic and electronic parts will likely see double-digit growth vs FY14 levels. VS Industry  has  also  been  ramping  up  production  of  the  Zodiac  pool cleaners early this year after the latter shut down its France plant.  

Key  risks  to  our  recommendation.  These  include:  i)  a  weaker-than-expected global macroeconomic environment, ii) dependence on orders from key customers, and ii) unfavourable forex trends.  

Maintain  BUY  with  a  revised  MYR4.50  TP.  In  view  of  higher  sales volume  growth  from  its  key  customers,  as  well  as  the  recent strengthening  of  the  USD  against  the  MYR,  we  raise  our  recurring earnings forecasts for FY15-17 by 55.6%-61.9%. Accordingly, our TP is lifted  to  MYR4.50  (from  MYR2.95),  based  on  an  unchanged  recurring FY16 P/E of 10x. With a minimum payout policy of 40%, it also offers  a respectable dividend yield of 5.2-6.5% for FY15-17F.

Keurig  a  significant  contributor  to  VS  Industry.  Keurig  is  involved  in  the  selling and  distribution  of  the  Keurig  machines  and  systems,  and  roasts  and  distributes coffee  in  single  serve  K-Cups.  Its  strategy  is  to  drive  its  brewer  sales  to  generate 
ongoing demand for its K-Cup packs. As of FY14, KGM had the top four best-selling at-home  coffeemakers  by  USD  volume  in  the  US,  according  to  the  NPD  Group for consumer market research data. As of FY14, its biggest market is still the US, which comprised  86.5% of the group’s sales,  followed  by  Canada  with  a  contribution  of 13.2%.  In  2014,  the  group  launched  its  products  in  the  United  Kingdom  and  is targeting expansion into Sweden, Australia and South Korea.

Strong caffeine boost from Keurig. VS Industry’s partnership with Keurig began in 2011,  when  it  entered  into  an  agreement  with  Keurig  to  produce  the  single-cup Keurig  K10  MINI  Plus  coffee  brewers.  In  May  2014,  the  group  commenced  the production  of  the  Keurig  2.0  K500  coffee  brewers,  which  saw  a  huge  boost  to  its 4QFY14 earnings. The group is on track to manufacture the third model in 4QFY15. The  third model  is  a completely  new model  with multiple-cup  brewing  capacity  and VS Industry targets double-digit sales volume growth vs its predecessor, the  Keurig 2.0 K500. VS Industry’s contribution to KGM’s production sales volume is only 10%, with the remainder coming from original equipment manufacturers (OEMs) in China. With  the  third  brewer  model,  we believe VS Industry’s share of KGM’s production sales volume should grow to 20% by FY16 from 10% currently.

Sole  OEM  for  Zodiac  pool  cleaners.  Management  revealed  that  Zodiac  has recently  shut  down  its  manufacturing  plant  in  France  due  to  high  production  costs and  consequently,  VS Industry is appointed to  be  the  sole  OEM  for  its  Zodiac  pool cleaners.  Production  of  two  models  of  the  Zodiac  pool  cleaners  has  started  in Malaysia  since  early  2015  and  we  gather  from  management  that  sales  volume  is ramping  up  as  the  relocation  takes  place.  While  Zodiac  contribution to the group’s revenue  is  estimated  at  ~MYR100m  (4.6% of group’s revenue  for  FY15F),  its contribution to PBT is estimated to be larger at  7.8% of the group’s PBT, as Zodiac pool cleaners are high-margin products.     
 
Dyson  orders  may  record  double-digit  growth  for  the  next  few  years.  Dyson used to be VS Industry’s key customer before the group’s recent initiative to diversify away from Dyson products. However, the group still manufactures the printed circuit board  (PCB)  as  well  other  plastic  and  electronic  parts  for  Dyson  vacuum  cleaners. We understand that Dyson is set to launch a new model of vacuum cleaner this year and hence, we expect Dyson orders to increase in tandem with rising demand for the soon-to-be-launched vacuum cleaner.  
 
Strengthening  of  USD  against  MYR  bodes  well  for  Keurig  orders.  We understand from management that Keurig’s sales are on a cost-plus basis for its raw material cost. Hence, lower resin prices on the back of declining crude oil prices will have  no  impact  on  earnings.  Since  the  cost-plus  basis  sales  are  not  inclusive  of fluctuations  in  currency  prices  and  sales  to  Keurig  are  denominated  in  USD,  the recent strengthening of the greenback against the MYR will benefit VS Industry.

Maintain  BUY  with  a  revised  TP  of  MYR4.50  (from  MYR2.95).  In  view  of  the increasing  orders  from  VS  Industry’s  key  customers,  as  well  as  the  recent strengthening of the USD against the MYR, we raise our recurring earnings forecasts for  FY15F-17  by  55.6-61.9%  respectively  to  MYR82m/MYR94m/MYR103m  after updating our sales and margin assumptions. Accordingly, our TP is lifted to MYR4.50 (from  MYR2.95),  based  on  a  recurring  FY16  P/E  of  10x,  broadly  in  line  with  its closest peer, SKP Resources’ (SKP MK, BUY, TP: MYR0.85) 11x valuation. 

Decent yield. VS Industry has an official dividend policy of paying a minimum of 40% of its earnings to its shareholders. Moving forward, we are forecasting for DPS of 16-20.2  sen  per  share  for  FY15-17,  based  on  a  projected  payout  ratio  of  41%  of  its recurring earnings. This translates into decent yields of 5.2-6.5% for FY15-17 based on the current price. 

Financial Exhibits

Financial Exhibits

SWOT Analysis

Company Profile

VS  Industry  is  an  integrated  electronics  manufacturing  services  (EMS)  provider  for  world-renowned  manufacturers  of  office  and household appliances.

Recommendation Chart

Source: RHB