NATGATE's 3QFY24 briefing reaffirmed its strong outlook. For FY25, the group targets RM10b turnover, driven by AI GPU and non-AI CPU server demand, supported by solid delivery momentum and net margin stability at 3%-4%. We raised our FY24-25F earnings by 34% and 35%, respectively, as we assessed its revised guidance as reasonable, which captures still less than 10% of the server market by our reckoning (see our analysis in the following page). We raise our TP to RM3.10 (from RM2.30 previously), based on an unchanged 25x FY25F PER, reflecting its leadership in high-growth data computing and networking segments. Maintain OUTPERFORM.

We came away from NATGATE's 3QFY25 briefing reassured of its outlook with the following key takeaways:

1. NATGATE provided clarification on the distortion in its 3QFY24 headline profit, which was impacted by various one-offs and significant forex movements. The group realised RM62m forex losses related to receivables and recorded a RM138m unrealised forex gain tied to payables. One-off items include an RM18m provision for product liabilities, RM7m in product development costs, and RM20m cost of goods revaluation due to the strengthening of the MYR against the USD. Additionally, the group incurred RM8m advance tax payment for its pioneer status, which can only be activated after 12 months in operations. Excluding these items, core NP stood at RM28m in 3QFY24, bringing 9MFY24 core NP to RM78m, a 73% YoY increase.
2. NATGATE unveiled a staggering RM10b turnover target or FY25, driven by strong demand for AI GPU and non-AI CPU servers serving regional data centres. It plans to deliver 3k-5k AI GPU servers (ASP: USD230k-250k/unit) and 30k-50k non-AI CPU servers (ASP: USD10k-15k/unit) in FY25. By 9MFY24, it had delivered 1,035 AI GPU servers, which exceeded its 2024 target after 765 units were delivered in 3Q, with another 1k+ units are planned for 4Q. It has also secured a 2k units AI GPU server order to be delivered in 1HCY25. Non-AI CPU deliveries reached 11k units in 9MFY24, including 7,112 units in 3Q. NATGATE anticipates a 1:10 delivery ratio between AI GPU and non-AI CPU servers and aims to launch advanced AI servers (B series) in 2QFY25, priced 50% higher, with volume guidance yet to be disclosed.
3. NATGATE is maintaining its blended net margin guidance of 3%-4% for FY25, with lower margins in the data computing segment expected to be offset by margin growth in the network (optical transceiver) and telecommunication (military communication device) segments, which contributed 14% to total turnover in 9MFY24. The group is currently managing higher volumes of <100G optical transceivers in FY24 and plans to transition to advanced modules (200G-800G) in FY25, which are expected to drive higher revenue and margins.
4. The group is holding a cash pile of nearly RM1b, or RM500m in net cash, as of the end of 3QFY24. With latest accounts receivable and payable days standing at 25 and 64 days, respectively, the group's robust financial position highlights its capacity to support its FY25 expansion plan. Given the above, we also see reduced need for another round of fund raising, in our view. In arriving at this view, we have already assumed similar accounts receivable and payable days in our model to be more aggressive in our cash flows assumption.

Forecasts. We have raised our FY24-25F earnings forecasts by 34% and 35% to RM150m and RM282m, after raising data computing segment revenue by 131%/82%, respectively. This reflects: (i) an increase in AI and non-AI server delivery estimates to 2.1k/21.6k units for FY24 and 4.4k/44k units for FY25 (from 920/11k and 3.2k/10k units previously). Our FY25 turnover forecast is below management guidance, as we adopt a more conservative approach and exclude contributions from Advanced AI servers (B series) at this stage. For illustration purposes, if we align with management's RM10b revenue guidance and assume an unchanged PAT margin of 3.6%, it would boost our FY25 PAT by 26%, translating to an additional RM75m.

Valuations. Correspondingly, we have raised our TP to RM3.10 (from RM2.30 previously) based on an unchanged 25x FY25F PER.

This represents a 30% premium to peers' forward mean, justified by the group's favourable exposure to the fast-growing data computing and networking product segment, and its advanced capabilities which yield better margins as well as enhancing customer stickiness. 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 NATGATE for its: (i) exposure to the fast-growing industrial and commercial products used in the networking and telecommunication sectors, (ii) 4IR-ready facilities that can take on higher complexity jobs, and (iii) value-added services such as chip-on-board (COB) that enhance customer stickiness and yield better margins. Maintain OUTPERFORM.

Risks to our call include: (i) heavy reliance on the data computing segment which contributes 88% of group revenue, (ii) competition from foreign EMS players that have presence in Malaysia, and (iii) adverse impact from component shortage which could delay delivery schedule.

Data center - NATGATE market share analysis In our projections for NATGATE, we believe its guidance is not aggressive when compared to the market potential. To explain, Malaysia's data center market is poised for significant growth, with capacity expected to double from 1.1GW as of 9MFY24 (as shown in Exhibit 3 from TENAGA's presentation slides) to our estimated 2.2GW by end-FY25 on a cumulative basis for capacity coming on stream in 2024 and 2025, which we regard as data centres that would be at various stages of server fit-out (assuming a significant portion of the 1.9GW of projects under construction is completed considering a typical construction cycle). We then also assume a power usage efficiency (PUE) of 1.45 (an average between MCMC's 2015 guideline of 1.60 for excellent efficiency and Singapore's new standard of 1.30) and power consumption of 10.2kW per AI GPU server and 1kW per non-AI CPU server to estimate the number of servers that the 2.2GW can support (exhibit 3). And using known information of the estimated selling prices of servers, we estimate the nation's data center server market value to reach RM117b. This implied a 6% market share of the above server market being fulfilled by NATGATE if we were to base this on our FY25 server turnover projection of RM7.0b (Exhibit 2). On a cumulative basis, if we included the total server sales estimates in FY24 and FY25 of RM10.7b, the market server needs met through NATGATE would still be just below 10%, and thus is considered as not aggressive, by us.

Source: Kenanga Research - 2 Dec 2024