This article first appeared in The Edge Malaysia Weekly on October 23, 2017 - October 29, 2017
THIS has been a good year for electronics manufacturing services (EMS) companies — most have rallied on the prospect of higher demand for their goods and services. A question investors are asking is whether there are undiscovered EMS players worth considering.
While EMS counters have seen their share prices rally and trade at price-earnings ratios (PERs) of 16 to 24 times, Ge-Shen Corp Bhd is trading at a multiple of only 9.8 times its financial year ended Dec 31, 2016 (FY2016), earnings per share (EPS).
“If you want to look at the potential of EMS players, you have to look at the expansion plans of their customers. For example, the expansion of Dyson Ltd’s product line-up has benefited a number of EMS companies in Malaysia,” says an analyst who covers SKP Resources Bhd.
“As demand for their clients’ products increases ... and if the EMS player manages to secure a decent order, revenue should increase in tandem with the demand for its clients’ products.”
EMS counters have rallied significantly this year, with SKP trading at RM1.82 last Thursday, which was 45.07% higher than at the start of the year. V.S. Industry Bhd has rallied 128.77% to RM3.13.
While companies in the EMS sector differ in the products and services they provide, all manufacture components and parts, whether plastic or metal, as well as fabricate moulds and dies for the electrical and electronics industry.
Based on its FY2017 ended March 31 EPS of 8.93 sen, SKP was trading at 20.4 times as at last Thursday. If one were to take Kenanga Research’s forecast EPS of 10.5 sen for FY2018, the stock was trading at a forward PER of 17.3 times.
V.S. Industry’s share price of RM3.13 last Thursday implies a valuation of 23.7 times its FY2017 ended July 31 EPS of 13.23 sen. However, assigning AmResearch’s forecast EPS of 25 sen for FY2018, the stock was trading at 12.5 times.
Ge-Shen, too, has had its share of upside this year, trading at RM2.41 as at last Thursday, 57.8% higher than at the beginning of the year. It was valued at 12.2 times its FY2016 EPS of 19.7 sen.
As Ge-Shen is currently not covered by any analysts, no estimates of its future earnings are available. Nevertheless, there could be more upside potential for its shares going by the valuations of other EMS companies, which are trading at historical PERs of 16 to 24 times.
Ge-Shen registered a net profit of RM7.2 million (EPS of 8.7 sen) for the first half of FY2017 ending Dec 31, which is more than double the corresponding period’s earnings of RM2.9 million and EPS of 3.78 sen last year.
The second half of the year is usually a busier period for EMS players, as their customers ramp up production to meet consumer demand. In the second half of FY2016, Ge-Shen’s EPS was 15.93 sen, compared with 3.78 sen in the first half.
For FY2016, Ge-Shen’s net profit increased 19.4% to RM15.2 million. It had a growth spurt in FY2015 with its earnings jumping from RM2.54 million in FY2014 to RM12.7 million, following the acquisition of a 75% stake in plastic parts manufacturer Polyplas Sdn Bhd.
As at June 30, Ge-Shen’s cash position stood at RM11.7 million and it had fixed deposits of RM2.6 million, for total liquid assets of RM14.3 million. Short-term borrowings stood at RM15.3 million and a bank overdraft of RM3.4 million, for a total current debt of RM18.7 million. The group declined The Edge’s interview request.
Expansion through acquisitions
The acquisition of Polyplas for RM33.76 million in April 2015 had a positive impact on Ge-Shen. In May last year, the group acquired the remaining 25% stake in Polyplas for RM18.33 million, making the company a wholly-owned subsidiary of the group.
On June 28 last year, Ge-Shen announced a proposal to acquire 70% equity interest in Demand Options Sdn Bhd for a total cash consideration of RM13 million, with a put/call option agreement for the remaining 30%.
Demand Options is a metal stamping, tool and die fabrication company based in Johor. It counts Mitsubishi Electric, Flextronics, Mitsumi Electric, Venture Corp, Rapidconn Inc, and Technocom as its clients in Malaysia and abroad.
Ge-Shen may purchase the remaining 30% stake in Demand Options after the expiry of the third anniversary of the completion of the initial acquisition. Ge-Shen completed the acquisition of the 70% stake in Demand Options in September last year.
According to its announcement on the proposed acquisition of Demand Options, the company made RM2.34 million in profit after tax in FY2015 on the back of RM36.06 million in revenue.
Ge-Shen is also expanding its capacity with the purchase of new factory buildings in Johor and Hai Duong Province in Vietnam.
On July 19 last year, Ge-Shen Plastic (M) Sdn Bhd entered into a sales and purchase agreement with Tiong Nam Logistics Solutions Sdn Bhd to purchase a double-storey detached warehouse and other ancillary buildings on a parcel of land in Tebrau for RM9.5 million.
According to Ge-Shen, the property is located directly behind its existing manufacturing facility, thus, allowing for immediate expansion in the vicinity.
“This further allows the company to scale up its revenue, while maintaining efficient or optimal production planning and processes without replicating many overhead costs. Current bottlenecks can also be reduced in the company’s existing manufacturing facilities,” it says in the announcement.
On Nov 14 last year, Ge-Shen announced that it had entered into a long-term sublease of a single-storey workshop in Dai An Industrial Zone, Vietnam, for RM5.9 million. The lease of the 16,000 sq ft industrial land will expire on Jan 1, 2052.
Ge-Shen will expand its factory floor capacity on the new site to ensure that the company has sufficient manufacturing and warehousing facilities for its current and future operations, the group says in the announcement.
“The site is approximately 1km from the current site and is in the same industrial zone as the current factory. By entering a location [that] is close to [the] current site, it can ensure business continuity, staff retention and a smoother moving process,” says Ge-Shen.
The risks to EMS are mostly raw material prices. Higher raw material prices, such as plastic resin and metal sheet, will eat into their margins. It all depends on the company’s ability to negotiate better prices for their products with their customers, says an analyst.
After the recent rally in EMS share prices, some analysts say they are already quite expensive. Whether Ge-Shen will continue to run, given its lower valuation and steady expansion plans, bears monitoring.
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