KCE Electronics

KCE Electronics Plc (KCE)

Q2 2012F: Back in business after the floods. As the last quarter reflecting recovery from the floods, we expect KCE to report a Bt20mn normalized loss (vs. Bt107mn core loss in the previous quarter) but Bt29 mn net profit (after Bt106mn FX loss and Bt155mn insurance claim) in Q2 2012F. Production at KCE-Tech plant, which flooded in Q2 2011, already recovered to ~60-70% of pre-flood levels.
Opportunity brought by floods already seen. Of all its three PCB plants, KCE-Tech was the one with serious problems in production efficiency and high defect rates. KCE-Tech had no earnings stability and many times generated sizable losses that pulled the company into the red. For example, KCE-Tech generated Bt174mn losses Q4 2012 while other plants generated ~Bt380mn profit in 2011A. The severe damage from the flooding gave KCE the opportunity do a major redesign, add automation and reduce manpower (by ~20-25%). Results of this streamlining showed up already in June when KCE-Tech came close to breakeven despite running at just 60-70% utilisation, says management. When it heads into 2H12F at a greater utilization rate, even more improvement should be seen. Without KCE-Tech’s losses, the bottom line will better reflect the Bt90-100mn earnings/quarter generated by its other plants.
Defect reduction progressing, finish by yearend. KCE is still in the process of putting into place a new handling process with more automation that will reduce human error. It expects to complete this by yearend and that this will slash KCE-Tech’s defect rate to 5% from 7.4% in June 2012 and 8-9% in 2011. This looks realistic against the 2-4.5% rate at its other plants. By our calculations, if KCE-Tech can reduce its defect rate by 240 basis points, it would add Bt70mn profit per annum to the company.
More than five new clients to support 2013F sales. KCE has been working with many potential new clients. At least five are on board and this should generate orders from 2013F. Some clients are moving orders to KCE from their Singaporean supplier who is exiting the automotive PCB business.
Upgrade 2013F by 18%: look for new high for earnings at Bt481mn. Heartened by the positive development in production efficiency at KCE-Tech, we are raising our 2013F gross margin assumption by 100 basis point to 20.1%. This raises our 2013F forecast by 18% to a new high for earnings at Bt481mn or Bt1.02/share. This looks achievable when taken against pre-flood core earnings of Bt117mn in Q3 2011 (which can be annualized to Bt468mn) and even looks conservative when compared with its Bt181mn earnings in Q1 2010 (which can be annualized to Bt724mn) when KCE-Tech did not have its big defect problem.
Upgrade to Buy and Bt8.5 TP. With our earnings upgrade, we revise up our mid-2013 TP to Bt8.5 from Bt6.8 based on 09x PE which is the sector’s -0.5SD ten-year average. Since we expect its rehab process to end Q2 2012F, with strong earnings from Q3 2012F onwards, we are upgrading to Buy from Neutral. Unlike other flood-hit plants, KCE-Tech was the loss maker with low production efficiency, and thus the necessity of building new production lines opened the door wide for KCE to improve efficiency.