V.S. Industry Bhd (VS, 6963) - A Slower FY19 Is In-Store
Results Highlights
V.S. Industry Bhd’s (VSI) 1QFY19 net profit narrowed 7.1% Y.o.Y to RM39.8 mln, from RM42.9 mln in the previous corresponding year, dragged down by a loss on disposal of a subsidiary (RM5.4 mln) and forex losses amounting to RM6.4 mln. Revenue, meanwhile, flatlined at RM1.08 bln (+0.4% Y.o.Y), compared to RM1.07 bln previously. VSI also declared a first interim dividend of 1.0 sen per share (1QFY18: 1.5 sen), payable on 12th March 2018.
The 1QFY19 earnings were disappointing, accounting to only 17.8% of our previous full-year estimated net profit of RM224.0 mln, while revenue accounted for 21.9% of our forecast. The variance was mainly due to weaker-than-expected performance in both its China and Malaysia operations, the former dragged down by a sizable restructuring cost (retrenchment costs).
Moving forward, we expect to see only marginal margins growth due to higher operational cost and lower production utilisation rate, following the loss of orders from an existing key customer. Meanwhile, FY19 revenue is also expected to be weaker than last year, in-tandem with lower box-built orders.
The group is also in the process of downsizing its operations in China, in a bid to reduce high operating costs amid falling sales. We think that FY19 is likely to be a painful year for its Chinese-unit, VSIG following the nation’s economic slowdown due to escalating trade tensions with the U.S.
Prospects
VSI is expected to lose some box-built orders from a key customer in 2HFY19, which we think could be due to the weaker global demand for consumer electronic products. Consequently, foresee lower revenue contribution from Malaysia due to decreased turnover and higher overhead costs, although local sales will remain a key revenue contributor, accounting from more than half of the group’s sales in the foreseeable future.
Concurrently, the group is also winding down its operations in China amid a tough operating environment and deteriorating sales, which was further affected by the trade war uncertainties. Even so, we were surprised by the larger-than-expected bottomline loss reported by VSIG in its recent results, following sizable retrenchment packages. Consequently, we expect VSIG to record a second-straight year of net loss, driven by more cost-cutting measures, underutilisation and loss on disposal of a subsidiary.
In the long-run, however, we view VSIG’s restructuring exercises as essential in order to ensure its survival and improve its profitability amid potentially slower global growth outlook.
All-in-all, we expect prospects to be subdued in the near-to-mid term, weighed down by higher operational costs, weaker box-built orders and lower operational efficiency. Key upside catalysts include new customer and sizable contract wins. We believe that VSI is well-positioned to take up new contracts due to its stellar track record and available manufacturing capacity, as well as manpower.
Valuation and Recommendation
We trimmed our FY19-FY20 net profit estimates by about 38.0% to RM138.7 mln and RM162.3 mln respectively, while revenue was reduced to RM3.66 bln (-25.5%) and RM3.95 bln (-28.2%) after taking into account softer 2HFY19 outlook and beyond, following softer turnover and higher operational expenses.
We downgrade our call on VSI to HOLD (from Buy) with a lower target price of RM1.25 (from RM2.00 previously) as we continue to see earnings risk due to high operating costs and low manufacturing utilisation. The target price is arrived by ascribing an unchanged target PER of 17.0x to its revised FY19 diluted EPS of 7.2 sen. The ascribed target PER remains at a premium to its closest competitor, SKP Resources, which we believe is justified in view of the group’s leading position in Malaysia’s EMS industry. The premium is also accorded for its wide array of supply chain services and solid earnings track-record.
Risks to our recommendations include: i) slower economic growth in the local and global environment that could dampen demand for consumer electronics, which wouldin turn lead to lower orders, ii) labour shortages which could significantly disrupt the group’s operations due to its labour intensive structure, and iii) higher raw materials prices as well as fluctuations in foreign exchange rate affecting its margins.
Source: Mplus Research - 17 Dec 2018
https://klse.i3investor.com/blogs/MplusOnline/186790.jsp
