KESM’s 9MFY24 results disappointed due to a weak pick-up in the demand for its burn-in and test services. Nonetheless, it turned around in 9MFY24 from a loss last year driven by improved sales after it upgraded its capabilities. We remain concerned over its quarterly earnings volatility. We cut our FY24-25F earnings forecasts by 35% and 21%, respectively, tweak our TP down to RM7.04 (from RM7.06) but maintain our MARKET PERFORM call.

KESM’s 9MFY24 core net profit of RM1.2m disappointed, coming in at only 43% of both our full-year forecast and the full-year consensus estimate. The variance against our forecast came largely from a slow pick-up in the demand for its automotive product services.

YoY, KESM's 9MFY24 revenue increased by 12% driven by improved performance from its burn-in and test services for automotive chips. This growth followed a portfolio realignment and capacity restructuring a few quarters ago, transitioning to newer chip technologies and phasing out legacy products. It turned around with a core net profit of RM1.2m in 1HFY24 (vs. a net loss of RM5.4m in 1HFY23) despite a 24% jump in depreciation (arising from the investment in new equipment) and higher utility cost.

QoQ, its 3QFY24 revenue eased 0.9% as 3Q is typically its weakest quarter. Its core net profit fell 19.6% due to hefty depreciation from new equipment.

Outlook. We remain concerned over its quarterly earnings volatility. On a brighter note, it has successfully completed the qualification process for most of its new equipment, positioning it for mass volume production. The equipment upgrade enables the group to handle more advanced automotive chips, capitalising on the growing adoption of electric vehicles. However, demand in the non-automotive sector remains weak, and the additional capacity in this segment may weigh on the group.

Forecasts. We cut our FY24-25F earnings forecasts by 35% and 21%, respectively.

Valuations. We tweak our TP down to RM7.04 (from RM7.06) based on an unchanged FY24F PBV of 0.85x, in line with companies in the technology-related space that are loss-making or barely breaking even, i.e. JCY (Not Rated), ATAIMS (Not Rated) and JHM (MP; TP: RM0.61) to reflect its earnings volatility. 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 KESM for: (i) its presence in the promising automotive semiconductor space, (ii) being one of the largest independent burn-in and test service providers in Malaysia potentially benefiting from MNC expansion here, and (iii) its physical presence in China riding on the Chinese government’s ambitious plans for its semiconductor industry. However, we remain cautious over the immediate term as the group still faces potential risk of sub-optimal loading volume during the transitionary period. Maintain MARKET PERFORM.

Risks to our call include: (i) slower-than-expected ramp-up in the production volume under burn-in and test services, (ii) slower-than- expected adoption of new semiconductor modules in automobiles, and (iii) a sharp decline in customer forecasts.

Source: Kenanga Research - 29 May 2024