AmInvest Research Reports

Cape EMS - Vertical integration with USA-based iConn

Publish date: Tue, 19 Sep 2023, 09:43 AM
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Investment Highlights

  • Maintain BUY call recommendation on Cape EMS (Cape) with an unchanged fair value (FV) of RM1.47/share, derived from FY24F P/E of 18x. This implies a compelling PEG of 0.65, which represents a 6% premium than peers’ average of 0.61 (Exhibit 1). We ascribe a neutral 3-star ESG rating to the company.
  • Our FY23F-25F earnings are maintained pending completion of the acquisition of entire equity stake in USAbased iConn (Exhibit 2) and private placement (PP) of up to 92.3mil new ordinary shares, or 10% of total outstanding shares.
  • Yesterday, Cape announced that the group has entered into a conditional stock purchase agreement (SPA) for the purchase of 50k units of common stock or 100% equity interest in iConn for US$16.5mil (RM76.6mil) cash, subject to adjustments stated in the SPA.
  • On the same day, the group proposed to undertake a PP of up to 10% of total outstanding shares, primarily to finance the acquisition of iConn. Consequently, both acquisition and PP are anticipated to conclude in 4QFY24, in which a one-time expense related to PP of RM1.5mil or 2.5% of FY23F earnings will be recognised.
  • iConn is a USA-based company that owns the entire equity stake of China-based iConn China. iConn is primarily involved in the design for manufacturing and engineering of electronic components, electromechanical subassembly and assembly services, as well as warehousing and sourcing of manufacturers for their customers. Notably, iConn is an existing customer and supplier of Cape.
  • Notably, there is a combined 3-year profit after tax guarantee of US$8mil (or RM37.1mil) for FY24F-26F, which equates to an annual average US$2.7mil (RM12.4mil) from IConn – potentially increasing Cape’s FY24F-FY25F core net profit by 14%-16%.
  • The major rationale of the acquisition is Cape believing that the integration of iConn's design and engineering capabilities into the group would allow the expansion of its range of services under the EMS segment to existing and potential customers, particularly USA customers.
  • Given the acquisition is equity-financed, there will not be any increase in gearing.
  • Based on iConn’s average profit after tax guarantee, the purchase price of RM76.6mil for a 100% equity stake implies an undemanding FY24F P/E of 6.1x, less than half of Cape's 14x.
  • We estimate that the acquisition will be EPS accretive by 6%/4% in FY24F-25F, after taking the 10% share dilution into account. However, the risk lies on the deliverability of the sellers’ combined profit after tax guarantee of US$8mil (RM37.1mil) for FY24F-26F, pending further clarity in a briefing later today.
  • To drive future growth, the group is currently exploring the EV segment and IoT space. We continue to like the stock given its favourable position to ride on multiple rising secular growth trends, namely i) adoption of 5G, ii) evolution of digital payment ecosystems, iii) IoTs, iv) EVs, and v) shift towards e-cigarettes from conventional alternatives in USA market.
  • The stock is trading at an undemanding FY24F P/E of 14x vs peers such as Nationgate’s 19x and Aurelius Technology’s 17x. Given its unique position of having exposure in multiple growth sectors with a diverse revenue base, we believe the company deserves to trade at a premium compared to peer average of 15x given Cape’s current attractive PEG of 0.49 vs peers’ 0.61.

Source: AmInvest Research - 19 Sept 2023

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