We are initiating coverage on JCY with a MARKET PERFORM
rating and a Target Price of RM0.85 based on 1.15x P/BV. JCY is one of the largest
global precision engineering manufacturers of HDD mechanical components. Since
Aug 2012, JCY’s share price has corrected by 50.0% from its peak. Despite this,
we reckon that the share price could still continue to be overshadowed by a
number of concerns on the industry outlook at this juncture. We believe macro
uncertainties, challenging industry trends and possible company-specific issues
will be the headwinds limiting a strong rebound in the share price. The tide in
the industry has turned negative and JCY being a leader in the local HDD sector
is likely to feel the adverse impacts. In fact, its earning visibility is
likely to get worse before it gets better over the next 6 months. Hence, the
investment strategy on the stock, in our view, is to wait out the sector
weakness at the moment and re-look for opportunities later when the sector woes
clear up a little. Our current MARKET PERFORM rating is premised on the stock
offering an upside of 6% to our Target Price.
Prominent HDD
manufacturer. JCY is one of the largest global precision engineering
manufacturers of Hard Disk Drive (HDD) mechanical components based on revenue
and unit. The company primarily manufactures base plates, top cover assembly,
APFA and antidiscs, which are the key mechanical components of HDDs. The
company jointly develops these components for its customers, which then assemble
these components into completed HDDs, primarily 3.5 inch and 2.5 inch HDDs.
Weak outlook
globally. The tide in the industry
has likely turned negative as there has been a weakening of the industry
fundamentals brought about by the persistent uncertainties in the Eurozone, a
slowdown in the emerging markets (China and India) and the weak consumer
sentiment in the PC market. Our view is
supported by HP and Dell whose managements are now cautious about the growth of
PCs in 2HCY12 given the uncertain economic environment, competitive dynamics
and softer consumer sentiment worldwide.
Weak sentiment from
HDD makers. Meanwhile, the two big HDD players, Western Digital (WD) and
Seagate are also saying that they are wary about the soft macroeconomic
environment, and the growing use of tablets and smart phones to the detriment
of PC usage. Consequently, WD is only
expecting the unit growth in HDD demand to be just around 5%.
Compression of ASP.
In addition, in the case of HDD, there has been a compression of the ASP as
JCY’s Thai peers are resuming their production lines and its HDD vendors have
started to return to their usual suppliers. We believe this could be the start
of a fierce competition in the HDD market, which means the likelihood of lower
operating margin in the segment persisting or getting worse.
Structural
challenges. We think that the PC
industry growth deceleration is not just a temporary phenomenon. The PC
industry’s growth profile is facing many challenges and in our view, the market
here faces incremental risks beyond just a macroeconomic slowdown. Consumers
and enterprises remain distracted by alternative devices such as smartphones
and tablets, which continue to encroach on the PC's share of IT spending. These
factors suggest that at a minimum, the current consensus forecast for PC unit
growth of 0.9% in CY12 is likely to face more downside risks.
Challenges keep us
guarded on our valuation. Our TP is derived from 1.15x the P/BV ratio,
which being at the mid of JCY’s P/B band since it went listing in year-2012.
The stock had traded previously as much as 2.7x P/BV (+2 SD) when the market
became optimistic then on JCY’s earnings after the Thai flood. However, considering
the weaker demand outlook now over the next
6 months and its lower earning visibility, we believe the stock’s valuation
could remain pressured below its P/Bv mean, at the mid-point of mean and -1SD.
This supports our view that there is limited upside of our target price if
industry development turns further uncertain over next 6 months.
Source: Kenanga
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