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UOB Kay Hian downgrades Nanofilm to 'sell' as it expects to see 'weak' 4QFY2022

Felicia Tan
Felicia Tan11/22/2022 04:00 PM GMT+08  • 4 min read
UOB Kay Hian downgrades Nanofilm to 'sell' as it expects to see 'weak' 4QFY2022
UOB Kay Hian's Nov 22 downgrade comes after its downgrade to "hold" on Nov 4. Photo: Nanofilm
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UOB Kay Hian analyst John Cheong has downgraded his call on Nanofilm Technologies International to “sell”. The analyst’s downgrade on Nov 22 comes just weeks after he first downgraded the counter to “hold” from “buy” on Nov 4.

In his latest report, the analyst slashed his target price by a further 43% to $1.02 from $1.79 previously.

See also: Analysts issue downgrades on Nanofilm as outlook worsens and Citi downgrades Nanofilm to 'sell' as it sees a 'challenging path ahead' for the group

The most recent downgrade comes as Cheong expects Nanofilm to report a “weak” set of results for the upcoming 4QFY2022 ending Dec 31.

The analyst is also expecting to see the company’s 2HFY2022 earnings decline by 30% y-o-y due to the disruption of Foxconn’s production in China. Headquartered in Taiwan, Foxconn is the world’s largest technology manufacturer and service provider.

In early November, Nanofilm’s largest customer, Customer Z, reduced the shipment forecasts of its newest iPhones after the lockdowns in China affected operations of its supplier’s plant in the country. Foxconn’s factory in Zhengzhou, which operates the world’s biggest factory for Customer Z, underwent a seven-day lockdown on Nov 2 due to the high number of Covid-19 cases.

See also: 'Hold' on to CapitaLand Investment as it is a potential beneficiary to China's reopening

“The list of high-risk areas included Foxconn’s Zhengzhou plant, which implies that the flow of goods and people in and out of the main production base remains affected,” Cheong notes. “Market researcher TrendForce also recently cut its iPhone shipment forecast for [the period from] October [to] December by two to three million units to 77 million – 78 million, from 80 million, due to the factory's troubles.”

Nanofilm’s industrial equipment business unit (IEBU), is also expected to remain “weak” in the near-term as its customers, which purchase coating machines, are likely to delay and cut their capex amid increasing macro uncertainties. In addition, currency weakness across many countries has caused purchases to become more expensive for its IEBU customers, especially those located in Japan, notes Cheong.

The IEBU is Nanofilm’s second largest segment, contributing around 13% to the company’s total revenue in the 9MFY2022.

See also: Analysts see 'resilient' results for MLT's 3QFY2023 although Citi sees 'negative' share impact on forex weakness

To this end, the analyst is anticipating that expected lower production for the 2HFY2022 may drag margins for the half-year period. This is despite the fact that the 2HFY2022 is seasonally stronger for the company, typically contributing around 60% of its full-year revenue and 70% of its full-year earnings.

Furthermore, Nanofilm’s subsidiary, Sydrogen, should continue to be loss-making in FY2022 and FY2023.

On this, Cheong has lowered his earnings forecasts for the FY2022, FY2023 and FY2024 by 19%, 17% and 13% respectively after reducing his revenue forecasts by 8%, 8% and 7% respectively. The lower revenue forecasts have factored in the potential disruptions in Nanofilm’s customers’ productions due to the sporadic lockdowns in China.

“We have also reduced our gross margin assumptions for FY2022/FY2023/FY2024 by 3.4%/2.2%/1.7% to 50.4%/49.5%/49.0%. This is to reflect the lower operating leverage and higher start-up costs of new projects. Our earnings estimates indicate y-o-y earnings growths of -16%/18%/22% for FY2022/FY2023/FY2024,” Cheong writes.

Cheong’s latest target price values Nanofilm based on an FY2023 earnings per share (EPS) of 11x, pegged to -2 standard deviation (s.d.) of its long-term forward mean. This is to “reflect the challenging environment it is facing, which could lead to further de-rating of its P/E multiple,” the analyst says.

He previously valued Nanofilm based on a price-earnings to growth ratio (PEG) of 1.0x, which is based on a three-year EPS compound annual growth rate (CAGR) of 16% from FY2022 to FY2025.

“Nanofilm’s FY2023 P/E of 14x is still at a premium versus [its] Singapore peers, which are trading at [an] FY2023 P/E of 9x,” he points out.

In his view, a better-than-expected ramp-up of the nanofabrication business and a new application in the advanced material segment such as electric vehicles, are catalysts to Nanofilm’s share price.

As at 4pm, shares in Nanofilm are trading 6 cents lower or 4.72% down at $1.21.

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