D&O’s FY23 results met our forecast but disappointed the market. Its 4QFY23 net profit rose 33% QoQ on year-end bumper automotive sales. Its earnings momentum should sustain on improved orders from China. We raise our FY24F and FY25F earnings forecasts by 21% and 30%, respectively, lift our TP by 57% to RM3.60 (from RM2.30) and upgrade our call to MARKET PERFORM from UNDERPERFORM.

D&O’s FY23 net profit of RM44.1m (-55.1% YoY) met our forecast but missed the consensus estimate by 17%.

YoY, D&O's FY23 revenue inched 3.4% higher on improved orders for the automotive LEDs to edge above the RM1b revenue mark for the first time, which is commendable despite a challenging year. However, its net profit declined 55% on low plant utilisation, and higher utility and labour costs.

QoQ, its 4QFY23 net profit rose 33% on the back of a 14% growth in turnover thanks to year-end bumper automotive sales, resulting in improved floor utilisation. We attribute this uptick in orders to the recovering demand from China, albeit at a gradual pace, which typically accounts for c.50% of the group’s revenue. This was in line with the reports from China Association of Automobile Manufacturers (CAAM) whereby passenger cars increased 11.4%, 25.3% and 23.3% in the last three months of 2023.

Recovery to flow into 2024. Contrary to the seasonal weakness in 1QFY24 due to the Chinese New Year break, D&O is expecting the orders momentum from China to remain stable going into 2024 as the inventory correction seems to have come to an end with early signs of order replenishment on the horizon.

Forecasts. We increase our FY24-25F net profit forecasts by 20.5- 30.4% to reflect the better prospects of the group.

Valuations. Correspondingly, we lift our TP by 57% to RM3.60 (from RM2.30) based on a higher FY25F PER of 30x (from 25x), to reflect the valuation uptrend in forward average of its peers such as INARI, VITROX and PENTA. There is no adjustment to our TP based on ESG given a 3-star rating as appraised by us (see Page 4).

Investment case. We like D&O’s for: (i) its presence in the high-growth automotive LED space, (ii) its penetration into the electric vehicle market, and (iii) its ventures into next-generation smart LEDs that fetch high margins. We believe its earnings have bottomed out driven by a gradual return of orders from China. Hence, we upgrade our call to MARKET PERFORM from UNDERPERFORM given the improved earnings outlook

Risks to our call include: (i) a weaker-than-expected recovery in the global economy, especially in China, (ii) the inventory adjustment cycle prolonged longer than expected, and (iii) contributions from its smart LEDs being delayed due to slow adoption.

Source: Kenanga Research - 27 Feb 2024