• MYR1.63 FV implies 17x FY25F (Jun) P/E. Seng Fong is set to benefit from the tyre replacement market in the world’s largest automotive markets – China and India – as well as from the global adoption of EVs (EVs wear out tyres faster). With expanding processing capacity and improved automation efficiency, the company is set to capture larger market shares and expand margins, projecting a 3-year earnings CAGR of 31.8%. With an attractive FY25F dividend yield of >5% and sturdy ESG credentials, its FY25F P/E of 10x is undemanding.

• A proven leader in rubber processing. Seng Fong, a leader in Malaysia's rubber processing industry with over 38 years of experience, has remained profitable over the past three decades, and successfully weathered the 1998 Asian Financial Crisis and 2007-2008 Global Financial Crisis. Its production capacity has grown to 190,000 tonnes in 2024, from a modest 3,000 tonnes in 1986. It aims to boost this further to 200,000 tonnes by 2025. Known for high-quality products approved by the Malaysian Rubber Board (MRB), Seng Fong has built loyal customer ties, with its top five clients partnering with them for 7-17 years.

• Expanding market share in China and India's automotive markets. Seng Fong has a strong presence in China and India, the world's largest natural rubber consumers and major automotive markets. In 9MFY24, China accounted for 69% of Seng Fong's sales, while India contributed 30% through Singapore international rubber traders. The global shift to EVs – especially in China, the world's largest EV producer – has spiked up the demand for tyres since EVs wear out tyres 20% faster due to their heavier weight and higher torque. China and India also have substantial replacement tyre markets, with China’s market valued at USD10bn in 2022, and the latter’s market expanding rapidly (CAGR: 6.6% for 2024-2032) due to increased vehicle usage and urbanisation (according to IMARC & Expert Market Research).

• Driving cost efficiency with automation. Seng Fong operates on a cost-plus model, passing any increases in raw material prices to customers to keep processing fees stable. However, margins can be impacted by overhead costs like wages, diesel, and electricity. To mitigate this, management focuses on cost reduction and environmental sustainability, having implemented solar and biomass systems for MYR12.6m in annual savings and a reduced carbon footprint. Automation of processing lines is ongoing, aimed at reducing foreign labour dependency by 50%, saving MYR5.1m annually, which offsets the MYR3.7m depreciation cost. The three automation systems will commence in Sep 2024, Mar 2025, and Sept 2025, thereby improving overall group margins and efficiency.

• Undemanding valuation. Based on an ascribed P/E of 17x on FY25F earnings, we derive a FV of MYR1.63. Key risks: Dependence on five major customers, FX and raw material fluctuation risks, and suspension of its MRB license.

Source: RHB Research - 2 Jul 2024