KCE Electronics
Cheap copper, wider margins Outperform
KCE Electronics Plc (KCE)
Investment highlights
- 4Q15 earnings to set new high. We expect KCE will post 4Q15 earnings of
Bt613mn, up 6.8% QoQ and 5.6% YoY. We maintain our view that KCE’s earnings momentum will maintain its upward trend despite 4Q typically being a softer quarter. In 4Q15, we expect KCE’s bottom line to reach a new high on the back of improving profitability from cost savings and economies of scale after the termination of production at an old factory. We expect GPM will reach a new high at 35%, up from 32% last quarter and 31.7% in the same period last year.
- Wider margin from falling copper price. One of the key materials used in PCB production is copper, which is a component in the laminate, foil (to make multi-layered PCB circuits), anodes (used in the oxidation process to coat or increase the thickness of circuits) and gold salt. Copper accounted for 12% of KCE’s total costs (while other materials made up 20% and chemicals & supplies were 30%). As the copper price is in a downward trend, we see KCE’s margins increasing. Based on our analysis, we found that for every decline of USD100/ton in the copper price, KCE’s GPM would rise by 0.16%, while earnings would increase by 0.57%.
- Beneficiary from baht weakness. Roughly 95% of KCE’s sales are quoted in foreign currencies, while only 50% of costs are in USD. While this unequal natural hedge in terms of revenue/costs is a company risk, it is positive to earnings when the baht depreciates. KCE benefits the most among its peers from baht depreciation as it has the highest difference between foreign currency revenue and costs at 50%, compared to peers, where the mismatch is normally closer to 10-20%.
- Upgrade 2016-17 earnings by 3.4-5.7%; re-rating deserved. We have upgraded KCE’s earnings for 2016-17 by 3.4-5.7% due to the decline in the copper price, which has fallen from USD5,300/ton to USD4,400/ton since our last report. Due to the sustainable increase in margin (from the new production facilities, baht weakness and declining costs for key materials such as copper), we believe a rerating is deserved after the company showed that the margin expansion was the result of managerial skill and its GPM continued to widen.
Valuation
- Our new target price is Bt80, derived from 14.5x PER (+2SD), up from 13.0x PER
(+1.5SD) previously. The rerating of KCE’s PER multiple reflects 1) the widening GPM trend; 2) lower material prices; and 3) the benefits of baht weakness. We maintain our Outperform rating on KCE and expect its 4Q15 earnings to act as a short-term catalyst for the share price.
Cheap copper, wider margins
We believe KCE’s earnings are on an uptrend and that they will hit a new high in 4Q15 due to improved profitability from economies of scale and a drop in the copper price. We have upgraded KCE’s earnings by 3.4-5.7% for the years 2016-17 due to lower costs thanks to the declining copper price. Based on our analysis, for every decline of USD100/ton in the copper price, KCE’s GPM will rise 0.16% while its earnings will increase by 0.57%. We raise our target price to Bt80, derived from a 14.5x PER (+2SD), up from 13.0x PER (+1.5SD). We think the re-rating is deserved after the company showed that it can sustain profitability at a high level and that there is still room for earnings to grow following a plant expansion. KCE remains our top pick in the Electronics sector.
