KESM Industries expected to remain well-managed

TheEdge Mon, Sep 23, 2019 09:17am - 4 years View Original


KESM Industries Bhd
(Sept 20, RM7.23)
Maintain hold with a higher target price of RM7:
KESM Industries Bhd’s financial year ended July 31, 2019 (FY19) core earnings collapsed 76% year-on-year (y-o-y) largely due to the ongoing inventory correction.

 
However, there was a strong earnings improvement in the fourth quarter ended July 31, 2019 (4QFY19), albeit off a low base, and this could signal that its weak earnings momentum has bottomed.

We have modelled for a further earnings recovery in FY20, projecting a growth of 127%, although profits are not expected to reach its previous peak in FY17, at least over the next three financial years.

KESM reported a strong set of 4QFY19 results that was above expectations. The surprise was largely driven by better-than-expected margins during the quarter.

Core net profit for the quarter jumped 738% quarter-on-quarter (q-o-q), albeit from a low base, largely due to margin improvement.

The 4QFY19 earnings before interest, taxes, depreciation and amortisation (Ebitda) margin jumped 2.1 percentage points (ppts) q-o-q as product mix improved, a likely result from lower electronic manufacturing services (EMS) work while the proportion of revenue generated from its burn-in and test increased.

Management has guided for a progressive recovery barring any escalation of trade tensions and the global macro slowdown, in line with our current FY20 forecast.

We made some slight adjustments to our FY20 to FY22 earnings per share post the results.

FY19 core earnings declined 76% y-o-y, but dividend per share (DPS) pleasantly surprises FY19 core earnings contracted by a sharp 76% y-o-y to RM9 million although revenue only fell 12% y-o-y.

This was largely due to the loss of operational leverage and hence a collapse in Ebitda margins (-6.9ppts y-o-y).

The unfavourable shift in revenue mix towards the lower-margin EMS work had also partially buffered the revenue decline, while negatively impacting margins.

Despite the weaker set of results, management announced a FY19 DPS of nine sen, or a payout of 62%, above its historical range of 10% to 31%.

Amid the inventory correction that KESM is facing, we believe the company remains well managed, as reflected by its healthy quarterly performance and net cash position.

We remain positive about the company’s long-term prospects as the company is well positioned as a captive burn-in and test provider for the automotive industry.

Key downside/upside risks include a loss/gain of customers and a reduction/gain in outsourcing opportunities. — Affin Hwang Capital, Sept 20

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