Frencken GroupPrice target:
UOB Kay Hian “buy” $1.37
Poised for a earnings recovery in 2H2020
UOB Kay Hian’s Clement Ho has maintained his “buy” rating on Frencken Group with a target price of $1.37 on the expectation of a stronger 2H2020 earnings.
Ho notes that demand for semiconductor components remains strong. The semiconductor segment is estimated to contribute 32% and 35% of sales for Frencken in FY2020/2021F respectively.
This will be driven by the huge demand stemming from the accelerating development of 5G technology, reflected in the record capital expenditure (capex) spending by major foundries TSMC and Samsung in FY2020/2021.
Following some supply chain issues caused by the Covid-19 lockdown in 1H2020, the management has indicated that the majority of the issues has been resolved and factories are back in full operations and working to meet clients’ urgent deliveries.
Ho also said factory utilisation is understood to be high and demand from clients currently outstrips production capacity. This reflects a “healthy pricing environment” for the components manufactured by Frencken, which is managing the delicate balance between maintaining clients’ relationships and maximising revenue opportunity.
Furthermore, Frencken is deepening its core competency to provide niche components, modules and designing of the whole product. The group has been moving away from the built-to-print model like contract manufacturing, which does not provide any value add to clients, Ho adds.
For instance, Frencken is the sole global supplier of the reticle masking unit (REMA), a key module for the Extreme Ultraviolet (EUV) lithography system developed by ASML. Apart from the mechanical design, assembly and test, Frencken also manages the supply chain and provides lifecycle support for REMA.
He believes that the stock is “poised for recovery” in 2H2020 and that the management will make up for the shortfall of orders in 1H2020. As such, this should result in improved q-o-q earnings, with share price anticipated to move in tandem.
The group’s “improvement of operational efficiency has shown marked progress, and is expected to further bolster earnings before interest, taxes and amortisation (Ebitda) margin going forward,” Ho notes. Frencken’s FY2018/2019 revenue rose at a compounded annual growth rate of 13.1%, while Ebitda saw a marked improvement of 32.1%, mainly bolstered by the impressive 9.6% reduction in selling, general and administrative expenses (SG&A).
He expects FY2020-FY2022 Ebitda margins to normalise above 11%, compared to below 9% between 2014 and 2017. Additionally, management continues to make investments to upgrade equipment and facilities to elevate its competitive edge and enhance capabilities, which should help further lift efficiency. — Lim Hui Jie