Investment Merits

• Ramping up of capacity under its automotive segment would propel earnings growth over the next 1-2 years

• Eyeing for new jobs under its newly set-up division on the manufacturing of industrial products

• NOT RATED. The MYR1.27 fair value is based on 11x FY18F P/E

Company Profile

Notion VTec (Notion) is a leading precision engineering specialist and manufacturer of high precision components for the HDD, digital camera, automotive, consumer electronics, and air-conditioning industries.

Highlights

Light at the end of the tunnel. Notion was hit by a series of unfortunate events over the last five years, namely: i. A major flood at its Thailand facility in 2012; ii. A fire accident in its Klang production plant in 2013; iii. Losses from non-core investments in 2014; iv. Losses suffered from its currency-related derivatives exposure in 2015 and 2016. All these officially came to an end in end-2016. This is because Notion has finalised its insurance claims and cleaned up its books by writing-off non-core investments, as well as settling all its derivatives exposure.

Ramp-up for automotive components. For the firm’s automotive segment, Notion currently manufactures an electronic braking system (EBS) component known as a plunger. In FY16 (Sep), it delivered approximately 13m units of plungers to two major customers. This is set to scale up further going forward, as management is looking to expand its capacity by 30% pa over the next two years. If this materialises, this would increase Notion’s automotive exposure to close to 40% of total revenue by FY18 (FY16: 33%).

Industrial products to gather pace. The company recently set up a new division that is focused on the manufacturing of industrial products at a core facility in Johor, Malaysia. Management is currently in talks with one of its existing customers to explore potential job opportunities. We understand that negotiations may be finalised in due course, with target production set to commence by 2HFY17. We expect revenue of MYR3m per month come FY18.

Going spot on forex. Notion derives all of its revenue in foreign currency terms, ie USD/EUR/THB at 60%/30%/10% respectively in FY16. Only about 5-10% of its costs are denominated in non-MYR currencies, mainly on raw material procurement. This coupled, with its zero hedging policy going forward, makes Notion a prime beneficiary should the current weakness in the MYR persist. We are currently forecasting an average USD/MYR of 4.43 for 2017 and 4.25 thereafter, and EUR/MYR of 4.60 in the foreseeable future. Based on our calculations, every 10 cents change in the USD/EUR against the MYR could potentially lift its bottomline by 8-10%/5-6% respectively, assuming all else remains constant.

Company Report Card

1QFY17 results review. Notion’s 1QFY17 core earnings closed at a commendable MYR2.5m. This was after stripping off gain on disposal of MYR1.1m and unrealised forex gain of MYR3.2m. We are forecasting for FY17-18 core earnings of MYR25.6/MYR31.3m respectively (FY16: MYR5.4m). This is driven predominantly by the capacity expansion of its automotive segment and potential new job wins under its industrial products division. With its books now on a clean slate (non-core investments have been written off and all forex hedging contracts have been settled as at Sep 2016), we do not expect any further significant non-operational items to drag down the firm’s operational performance.

30% dividend policy. Notion closed Dec 2016 with net cash position of MYR24.6m (9.1 sen per share). Management recently committed to a dividend policy of 30% going forward. We believe the move is to reward shareholders in the form of dividends upon its projected earnings recovery. The payout could be in the form of cash distribution or shares, as Notion now holds 2.2m treasury shares. It paid an interim DPS of 1 sen in early January. We are imputing for DPS of 3-4 sen for FY17F- 18F, based on a payout ratio of 30%.

Management. Notion’s management team is led by executive chairman Mr Thoo Chow Fah, one of its founders. Together with MD Mr Choo Wing Hong and ED Mr Choo Wing Onn, the trio of founding members collectively own approximately 36% of the firm. Its second-largest shareholder, Nikon Corp (7731 JP, NR), came on board in early 2010 after taking up placement of new shares worth MYR34m back then. Based on our compilation, its institutional shareholdings currently stand at approximately 8-10%. Notion was first listed on Bursa Malaysia in Jun 2005, with an initial market cap of MYR47m.

Other highlights. Management assured us that all future investments would be channelled into its core business to achieve economies of scale and enhance production efficiency. We do not foresee any noncore investments over the next 1-2 years, as Notion’s focus would be entirely on growing its automotive and industrial products divisions.

Recommendation

Based on its FY15 annual report, the firm has outstanding warrants of 38.6m as at 29 Jan 2016. They are convertible into ordinary shares at a 1:1 ratio and an exercise price of MYR1. Given that it is currently out-ofmoney, we do not expect any conversions to take place upon their expiry on 2 May 2017. Pegging 11x FY18F P/E, we estimate that Notion could be worth as much as MYR1.27 per share. Our target P/E is in line with the range of 10-15x P/Es that we peg to export-oriented technology counters under our coverage. With its NTA per share closing at MYR1.10, we believe Notion is deeply undervalued at this juncture. Our projected earnings CAGR of 123.7% for FY16-18 is subject to forex volatility and are highly reliant on capacity expansion under its plungers production division as well as the commencement of its industrial products by 2HFY17.

Source: RHB Securities Research - 5 May 2017