• The semiconductor sector’s slowdown has likely bottomed out, and Avi-Tech Electronics’s quarterly performance should improve ahead.
• Early this year, Avi-Tech Electronics reported a strong 2Q20, with PATMI surging 46.7% y-o-y to SGD1.4m.

Burn-in Testing for the Automotive Component Continues to Grow Strongly

• With the sector slowdown in effect since 2018, we believe the correction has bottomed and from here on the outlook should improve, especially with China and the US having struck a Phase 1 trade deal. Avi-Tech Electronics (SGX:BKY)’s performance should continue to pick up in 2HFY20, with strong growth from burn-in services, which have much higher gross margins. This, coupled with previously implemented cost-cutting measures, should help improve margins as well.
• Avi-Tech Electronics’s gross margin improved significantly to 39.7% in 2QFY20 (from 27.9% in 1QFY19). We expect it developed a strong performance in 2HFY20.

Staying Alive With Net Cash in a Critical Industry

• With a net cash balance sheet and strong operating FCF, management should continue to reward shareholders with attractive dividends despite the drop in profits in the previous year.
• Avi-Tech Electronics operates in the burn-in and testing segment of the semiconductor industry and focuses mainly on the automotive sector. The company plays a crucial part in the supply chain, which would see its demand for its services still growing despite a world-wide pandemic still on-going.

Attractive Yield of 5.6% for FY20F

• For FY19, a total of 2.3 cents in DPS were declared, translating into a PATMI payout ratio of 84.7%. Due to its strong performance, a higher interim DPS of 1 cent was paid in 2QFY20 vs 0.8 cents a year ago.
• We expect management to reward shareholders with at least the same amount going forward, despite a special dividend given in FY19.

M&A Opportunities Available at Such Drastic Times

• Other than its handsome yield, management is actively exploring M&A opportunities and hopes to close a deal in the near future. Any potential earnings-accretive M&A should be a positive.
• With a net cash balance sheet and good dividends, we are positive on the stock. Maintain BUY with an unchanged DCF-based SGD0.50 Target Price, 11% upside with 6% FY20F (Jun) yield.
• Investors have been well rewarded with dividends even when earnings were at the bottom of the cycle
• A key downside risk is a slowdown in the economy.
• The opposite situation presents an upside risk.

Source: RHB Invest Research - 7 Jul 2020