Brief Equities Bottom-Up: Nidec (6594 JP): Recovery to Take Time, Valuations Still High and more

In this briefing:

1. Nidec (6594 JP): Recovery to Take Time, Valuations Still High
2. REIT Discover: Frasers Commercial Trust (FCOT SP) At Inflection Point
3. Korean Stubs Spotlight: A Pair Trade Between SK Telecom & SK Hynix
4. Ramayana Lestari Sentosa (RALS IJ) – The Changeling – On the Ground in J-Town
5. Snippets #18: Naughty CEOs, Southern Crusades

1. Nidec (6594 JP): Recovery to Take Time, Valuations Still High

After dropping to a 52-week low of ¥11,405 on January 17 – the day after management announced a large downward revision to sales and profit guidance – Nidec rebounded to close at ¥13,055 on Friday, January 25. The latter price is 30% below the ¥18,525 peak reached a year earlier. Both the shock of the downward revision and the reflexive optimism of believers in the company now seem to have been discounted.

Consolidated sales and profits dropped abruptly in the three months to December and are expected to drop further in 4Q of FY Mar-19 due to weak demand in most regional markets, inventory write-downs and restructuring costs. Nidec is already reconfiguring its global supply chains, shipping products to the U.S. from Mexico and Europe instead of from China and planning to build factories to make motors for electric vehicles in Mexico and Poland in addition to China.

With most of the one-off expenses out of the way, profits should start to recover in FY Mar-20. Sales, on the other hand, seem likely to decline further due to weak unit demand and pricing for HDD spindle motors, falling auto production in China and elsewhere, and weakness in other industrial and commercial markets. Recovery will depend on U.S.-China trade relations and the state of the world economy, and new acquisitions that cannot be predicted. As things stand now, we expect sales to pick up going into FY Mar-21. In the long run, the company should continue to benefit from the electrification of the auto market and factory automation.

At ¥13,055, the shares are selling at 34x management’s EPS guidance for FY Mar-19, 32x our estimate for FY Mar-20 and 30x our EPS estimate for FY Mar-21. Projected EV/EBITDA multiples for the same three years are 18x, 17x and 15x. Price/book value as of the end of December is 3.9x. The dividend yield is less than 1%. Over the past few years, the P/E has found support at 20x, EV/EBITDA at 10x and the PBR at 2.5x. The January 17 low put the shares on 30x management’s new EPS guidance for this fiscal year.

2. REIT Discover: Frasers Commercial Trust (FCOT SP) At Inflection Point

REIT Discover is an insight series featuring under-researched and off-the-radar REITs in an attempt to uncover hidden gems and gems in-the-making. In this insight, we give a lowdown on Frasers Commercial Trust (FCOT SP), which appears to be at an inflection point after seven consecutive quarters of falling net property income stemming from a downward trending occupancy rates.

At the centre of its conundrum is a key property, Alexandra Technopark (ATP), whose committed occupancy as at 31 December 2018 was a dismal 68.6%. 

In the meantime, there are three things happening that could help to spruce up FCOT’s operational metrics.

1. S$45mn asset enhancement initiative (AEI) at ATP to create a new contemporary business campus is nearing full completion. The AEI is aimed at creating a business campus environment to enhance property’s profile.
2. S$38mn AEI to rejuvenate the retail podium at China Square Central (CSC) which will increase its NLA from the current 64,000 sf to 78,000 sf upon completion by mid-2019. The concurrent launch of 304-room Capri by Fraser Hotel abut CSC will bring increased activity to CSC and benefit retail tenants.
3. Current gearing of 28.4% is one of the lowest among S-REITs, giving FCOT additional debt headroom estimated at about S$418mn to pursue growth initiatives. 

Following the recent run-up in the prices of S-REITs, FCOT trades at 0.9x P/NAV (ex-DPU). At current price, annualized FY19 DPU yield of 6.7% represents a differential of about 200 basis points above that of sector leaders like Capitaland Commercial Trust and Keppel REIT, a reflection of the Grade B profile of FCOT’s commercial properties. 

Interestingly, FCOT’s distributable income was growing in spite of the downtrend in gross revenue. This was likely the result of the new contribution from its UK asset acquired in January 2018. As such, FCOT was able to maintain DPU at a stable 2.40 cts for the past seven quarters. In the medium term, earnings upside will come from the organic growth of its revamped Singapore property portfolio and potential acquisitions in its sponsor’s key markets, Australia and Europe (likely UK). Any developments relating to the Brexit process will therefore have an impact on FCOT. In the near term, the built-in step-up rents mechanism in 47% of its leases in FY19 and FY20 should provide support to gross revenue. All things considered, FCOT’s future is worth a bet. 

3. Korean Stubs Spotlight: A Pair Trade Between SK Telecom & SK Hynix

In this report, we provide an analysis of our pair trade idea between SK Telecom (017670 KS) and SK Hynix Inc (000660 KS). Our strategy will be to long SK Telecom (017670 KS) and short SK Hynix Inc (000660 KS). Our base case strategy is to achieve gains of 8-10% on this pair trade. Our risk control is to close the trade if it generates 4-5% in combined losses. Cost of commissions are not included in the calculations and closing prices as of January 25th are used in our pair trade. [Long SK Telecom – $0.5 million; Short SK Hynix – $0.5 million for total of $1.0 million].

The following are the major catalysts that could boost SK Telecom shares higher than SK Hynix shares within the next six to twelve months: 

• Finally, a Higher DPS for SK Telecom is Likely, but Market Has Not Fully Factored In
• SK Hynix’s Plan for a 40% Lower Capex in 2019 Implies an Excess Inventory Condition
• 5G Service Ready to Start in March; Higher ARPU Typically Results in Higher Share Price
• SK Telecom’s Establishment of an Intermediate Holding Company Will Take Place in 2019 

4. Ramayana Lestari Sentosa (RALS IJ) – The Changeling – On the Ground in J-Town

Ramayana Lestari Sentosa (RALS IJ) continues to upgrade its stores and bring in new tenants, such as cinemas and F&B such as Starbucks, as its closes loss-making supermarkets. A revamped store is expected to see a 20-25% sales enhancement. It will transform a further 30 stores in 2019, including cinemas into the mix. 

The company continues to see strong performance from its consignment and fashion sales, with the drop off in supermarket sales lessening and this business no longer losing money. 

Ramayana Lestari Sentosa (RALS IJ) strives to be the leader in providing fashion for the masses and continues to use celebrities to endorse its own brands.

It has decentralised sourcing of products and incentivised stores managers at the EBIT level rather than for sales. It has also introduced a strict process for discounting, which is enhancing profitability.

The company will introduce a further 20 new consignment brands in 2019 to help grow this side of the business and move up the value chain. Shoes are one of the most important growth categories. 

Ramayana Lestari Sentosa (RALS IJ) is in the midst of a significant metamorphosis, which could see the company truly realise the value of its nationwide franchise, and move up the value to become less reliant on Lebaran sales. It continues to transform its store portfolio, introducing more consignment vendors and complementary tenants into its stores to increase footfall. According to Capital IQ consensus, the stock trades on 18.3x FY19E PER and 17.3x FY20E PER, with estimated EPS growth of +9% and +6% for FY19E and FY20E respectively. These growth expectations look to be conservative given the positive direction that management is taking both on its merchandising, brands, and tenant mix. 

5. Snippets #18: Naughty CEOs, Southern Crusades

In this review, we highlight five new unrelated developments that might impact the Thai stock market if you happen to hold the affected stocks.

• Skeletons in the closet. CIMB’s Thai CEO went on voluntary leave to clear his name regarding a legacy case back in his KTB days, while one of Thailand’s highest profile tycoon Dr. Prasert has been implicated in a stock manipulation case of Bangkok Airways from way back in 2015.
• Religious wars? As the southern insurgency spreads to economically vibrant province of Songkhla, insurgents attack a Buddhist temple and kill two monks, possibly in an effort to turn the crisis into a religious war. Doesn’t sound great for overall stability.
• A rare bump in the Baht. Despite QE unwinding, the Baht has risen almost 3% against the greenback. Bad news for exporters (eg. TUF, DELTA) good news for serial acquirers (think Thai Beverage, Banpu).
• Government-inspired deals. Is the government driving M&A in Thailand these days? They certainly had a hand in the TMB-Thanachart deal and now are rumored to be buying Thaicom, the country’s only satellite operator.
• Air quality takes a dive thanks to diesel and aggressive skytrain construction programs. Stores selling face mask and companies that substitute ethanol to diesel are set to benefit, while BTS might hit headwinds as government forces them to slow down construction.