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Brokers' Digest: Silverlake Axis, DFI Retail Group, Q&M Dental Group, Megachem

The Edge Singapore
The Edge Singapore • 11 min read
Brokers' Digest: Silverlake Axis, DFI Retail Group, Q&M Dental Group, Megachem
See what the analysts have to say this week.
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Silverlake Axis
Price targets:
CGS-CIMB ‘add’ 37 cents
DBS Group Research ‘buy’ 35 cents

Target cut but deal pipeline stays strong

Analysts have trimmed their target prices for Silverlake Axis, following lower-than-expected earnings due to unfavourable forex and higher tax.

The company, which specialises in providing software and IT services for the regional financial industry, reported a core net profit of $36.3 million for FY2023 ended June, down 24% y-o-y but up 8% q-o-q.

In her Aug 28 note, CGS-CIMB’s Andrea Choong pointed out that although the company’s revenue and operating expenditure were in line, its core net profit was hurt by unfavourable forex as well as adjustments for its put and call options on its associates.

“Higher taxes amid the absence of government concessions worsened the miss,” writes Choong, who has maintained her “add” call but reduced her target price from 41 cents to 37 cents, to factor in a higher tax rate for FY2024 and FY2025.

See also: Broker's Digest: Centurion, Food Empire, Frencken, Netlink NBN Trust, Thai Beverage, Singapore Airlines

In 4QFY2023, the company won new contracts worth RM94 million ($27.47 million), which brings its total order book to RM635 million, up 27% y-o-y in FY2022.

It has built up a deal pipeline of RM1.5 billion, with RM220 million worth deemed to have a “high probability” of getting closed. The company is targeting revenue of some RM850 million for the current FY2024.

“While we see Silverlake Axis’ strong order win momentum, we bake in some conservatism in investments by banks given potential Fed rate cuts starting from January 2024,” notes Choong.

See also: PhillipCapital positive on LHN as co-living profits tripled, more growth expected

In her separate note on Aug 27, Ling Lee Keng of DBS Group Research has maintained her “buy” call and similar to CGS-CIMB’s Choong, reduced her target price to 35 cents from 42 cents.

Ling has cut her earnings estimate for the current FY2024 by 10% to account for lower margins and a higher tax rate assumption. The reduced target price of 35 cents is pegged to 15x FY2024 earnings.

Key risks flagged by Ling include a slowdown in IT spending because of a weaker economy, and also corporate governance concerns related to controlling shareholder Goh Peng Ooi.

Nonetheless, Ling is upbeat that Silverlake Axis is seeking out new growth such as trying to ride on the AI trend within the financial services industry.

“We like Silverlake for its higher recurring revenue, which is around 75% of total revenue, and attractive gross margin of close to 60%,” notes Ling. — The Edge Singapore

DFI Retail Group
Price target:
RHB ‘buy’ US$2.92

Trading at attractive valuations

For more stories about where money flows, click here for Capital Section

RHB Group Research analyst Alfie Yeo has upgraded his call on DFI Retail Group (DFI) to “buy” from “neutral”, in anticipation of an earnings recovery at a palatable valuation.

Yeo’s target price remains unchanged at US$2.92 ($3.96) but expects a pick-up in demand in the various markets DFI operates in following an improvement in domestic consumption.

The analyst notes that since Aug 1, DFI’s share price has dropped by about 11% to US$2.40 due to the less-than-impressive macroeconomic data from China and Hong Kong.

“Its valuation is now at more attractive levels,” Yeo says. “While we anticipate a recovery in FY2024 [ending Dec 31, 2024] — driven by an expected pick-up in demand in the various markets and improving domestic consumption.”

In July, China recorded “disappointing macroeconomic data” including that for retail sales, industrial production and fixed asset investment. Both visitor arrivals from Mainland China to Hong Kong and domestic supermarket sales also declined q-o-q in the latest June data, according to Yeo.

“We believe these factors have affected investor sentiment on DFI in recent months since close to 70% of DFI’s FY2022 revenue came from its North Asia operations,” Yeo adds.

However, Yeo highlights that China has implemented an 11-point plan to boost the domestic consumption of goods and services and stimulate the economy even while consumer confidence is cautious.

While China’s GDP is trending below RHB’s expectations, their economics desk expects China’s GDP (post-reopening) to accelerate from 3% in 2022 to 4% and 4.5% in 2023 and 2024.

The analyst’s investment thesis is based on an earnings recovery (18% earnings CAGR growth from FY2023–FY2025) at compelling valuations. He sees earnings driven by domestic consumption and a pick-up in tourism in Hong Kong, on top of the continued post-pandemic recovery of Asean economies.

Yeo notes that DFI’s 1HFY2023 results ended in June numbers indicate that its core revenue and margins have already improved, led by the recovery in its convenience store and health & beauty segments in key Asean and North Asia markets.

“Together with China’s accelerating economic growth and consumption stimulus measures in place, we expect its China unit — along with Yonghui superstores — to improve next year, on the domestic demand recovery,” he adds.

In addition, the analyst expects outlet expansion, new products and investment in back-end efficiency systems to supplement overall growth and margins, along with the recovery in Hong Kong tourist arrivals and pick-up in its Hong Kong and Singapore supermarket sales ahead.

Yeo is maintaining his earnings projections as DFI is now trading at a cheaper 14x FY2024 P/E, as compared to its closest SGX-listed peer Sheng Siong’s 16x FY2024 P/E, and at –2 standard deviations (s.d.) from its 10-year pre-pandemic historical mean. — Nicole Lim

Q&M Dental Group
Price targets:
Maybank Securities ‘hold’ 31 cents
CGS-CIMB ‘add’ 35 cents
PhillipCapital ‘accumulate’ 34 cents

Q&M Dental shares ‘searching for the bottom’ after missing forecasts in 1HFY2023

Shares in Q&M Dental Group are “searching for the bottom”, says Maybank Securities analyst Eric Ong, after the dental healthcare group posted results for 1HFY2023 ended June that missed consensus forecasts.

The group’s 1HFY2023 net profit of $5.3 million, down 46% y-o-y, missed both Maybank and consensus expectations. While its core healthcare business remains resilient, this was offset by weakening ringgit for its Malaysian operations, higher finance costs and less contribution from medical laboratories, notes Ong. To conserve cash, Q&M reduced its interim dividend per share (DPS) to 0.16 cents, down from 0.4 cents the year before.

In his Aug 23 note, Ong stays “hold” on Q&M with a lower target price of 31 cents from 37 cents previously.

Q&M aims to improve efficiency to cut costs and wastage, notes Ong. 1HFY2023 revenue from the core healthcare business was down 0.5% y-o-y to $83.3 million, mainly due to steady performance from Singapore dental clinics but offset by weaker sales from its medical clinics in Malaysia, as well as unfavourable foreign exchange impact of a strong Singapore dollar against the ringgit.

Meanwhile, medical laboratory turnover fell 46.6% to $3.8 million due to less PCR testing. To mitigate rising staff and rental costs, the group plans to use central purchasing to cut wastage and ensure more just-in-time ordering so that it can also reduce storage costs to improve efficiency, says Ong.

To achieve higher productivity and organic growth, Q&M aims to recruit more dentists, especially for its top-performing clinics.

It is also trying to develop and optimise its digital AI-guided clinical decision support system to provide more effective and suitable treatment plans for patients, according to management.

“While this may cater to the growing demand for high-value specialist dental healthcare services, we think gestation losses in this venture could continue to weigh on its earnings in the near term,” says Ong.

Post-pandemic, Q&M is developing new tests for other medical purposes. Its medical laboratory business, Acumen Diagnostic, will seek to develop a new range of tests and solutions to maximise its intellectual property and research capabilities for various medical purposes, says Ong.

These include tests for sepsis, and identification of bacteria pathogens and their associated antimicrobial resistance in hospitalised pneumonia. “To be conservative, we have yet to assume any potential income stream from this pipeline given the lack of clear visibility on commercialisation and/or timeline,” adds Ong, who has cut his FY2023–FY2025 earnings per share (EPS) forecasts by 25%–34% on slower dental topline growth, exacerbated by negative operating leverage.

At the end of 1HFY2023, EPS on a fully diluted basis stood at 0.56 cents. Ong’s forecasts place Q&M’s core EPS at 1.1 cents, 1.3 cents and 1.5 cents for FY2023, FY2024 and FY2025 respectively.

Meanwhile, CGS-CIMB Research is keeping “add” on Q&M with a lower target price of 35 cents from 42 cents previously.

Q&M is contemplating the early repayment of its outstanding loans as higher finance costs have eroded its profitability, note CGS-CIMB analysts Tay Wee Kuang and Kenneth Tan.

With Q&M’s “healthy” cash balance of $33.4 million, Tay and Tan think that the early repayment of its borrowings would be an efficient way to improve profitability amid a higher-for-longer interest rate environment.

That said, this could translate into subdued dividend payments in the near term, as reflected in its 1HFY2023 DPS, add Tay and Tan.

CGS-CIMB is taking into account Q&M’s slower growth as a result of its shift to focus on cost management and operational efficiencies. Q&M’s valuations remain “undemanding” at 17x P/E for 2024, at 1.5 standard deviations below the mean.

In his Aug 27 note, PhillipCapital’s Paul Chew, citing how the current FY2023 is a “year of consolidation” for Q&M following steady expansion, has downgraded the stock from “buy” to “accumulate”, along with a reduced target price of 34 cents from 47 cents.

Chew points out that Q&M now faces higher operating cost pressures from staff, utilities and rent, as well as finance and development expenses. It now needs to focus on profitability by hiring new dentists, installing new equipment and upgrading the “poorer performing dentists”, says Chew, adding that the chain’s top 40% of the clinics bring in 90% of the revenue.

For the current FY2023 ending December, Chew has cut his patmi estimate by 34% to $11.9 million, along with revenue trimmed by 4%. Chew’s new target price of 34 cents is pegged to 25x FY2023 earnings, which is in line with its industry peers. — Jovi Ho

Price target:
SAC Capital ‘buy’ 55 cents

Sticky ties with customers expected to lead to better margins

SAC Capital has initiated a “buy” on chemical solutions provider Megachem with a target price of 55 cents, highlighting the company’s sticky relationship with customers which allows for high order book visibility and studier margins.

In their Aug 25 report, analysts Nicole Lim Qiuni and Matthias Chan note that Megachem offers a one-stop integrated solution for its customers, leveraging on its capabilities in proprietary chemical products manufacturing, contract manufacturing and global distribution.

“Being appointed the sole distributor to multiple suppliers due to its strong presence in Asia further cements Megachem’s positioning as the company of choice. Its global just-in-time delivery offering — a venture requiring precision — calls for superior inventory management and logistic capabilities coupled with a strong IT management system,” the analysts add.

Once the lengthy and complex approval process for a customised product is cleared, customers are generally unwilling to hop to a different supplier. This is further augmented by the price inelasticity of speciality chemical products, Lim and Chan add. The fragmentation of the speciality chemical industry reinforces such staticity, allowing for meaningful passing of costs to customers.

This was witnessed during the pandemic years of FY2020 and FY2021, where Megachem’s gross profit margins remained stable at about 25% despite rapid hikes in raw material costs. Despite its lacklustre performance in 1HFY2023 ended June, the analysts believe the weakness is short-term and should dissipate as the business cycle inflects.

Megachem also boasts well-diversified revenue streams. The analysts highlight Megachem’s broadly segmented FY2022 industry exposure, with the largest contributor only accounting for about a third of the aggregate. This reduces concentration risks, offering buoyancy in the event of a downturn in any particular industry.

Its exposure to booming industries such as food and beverage as well as agriculture allows the company to record firm top-line performance against the backdrop of economic downturn during the pandemic years. This underscores the stability of Megachem’s business model, the analysts note.

“This was in fact engineered as intended by the management of the firm. In FY2018, its exposure to performance coatings and polymers stood at 42%, making up almost half of overall revenue. Sensing the potential risk of concentration, the team decided to scale up business in other segments, highlighting provident management,” they add.

Focusing on generating better profits, Megachem is currently moving towards higher-margin industries, such as biotechnology. The analysts expect the company to continue in this direction, recording healthy and improving margins.

Lim and Chan also point out Megachem’s low gearing and stable dividends, which reflect stable balance sheets. In its 1HFY2023, the company reported net gearing of 0.31x after a $6 million repayment of borrowings to alleviate the impact of higher financing costs. Borrowings up to a reasonable level of 0.5x would give the company additional headroom of about $23 million for further capital expenditure to finance future expansions.

“Current debt levels only stand at about $32.9 million. The interest coverage ratio has stood above 2.0x over the past five years, an indicator of sufficient cash flow to meet interest payments timely with no potential for default. The current ratio has been standing about 2 times over the past five years, highlighting good coverage of liabilities and adequate short-term liquidity,” the analysts add. — Khairani Afifi Noordin

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