AAC 1H24 results was a beat driven by resilient GPM of 21.5%, up 7.4ppts YoY, attributable to 1) automotive acoustic business PSS consolidation with 25% GPM, 2) Android recovery and spec upgrade in 1H24, and 3) optics GPM turnaround. Management guides revenue and GPM to fully recover HoH across all segments. We expect positive sentiment on AAC to last in 2H24 driven by on-device AI proliferation such as AI glasses and AI iPhone which will call for better microphone and coolings. In optics, after achieving a much better yield rate, WLG now remains a real optionality to compete with GMO glass in future hybrid lens projects, in our view. Maintain BUY with new TP of HK$42.0 (was HK$39.0) based on 24x 2025E EPS.
　　Key Factors for Rating
　　1H24 results beat: Revenue increased 22% YoY to RMB11.2bn. GPM improved 2.3ppts HoH to 21.5%, beating BOCIe by 2ppts and consensus by 2.9ppts. However, due to higher R&D and finance charge, NI of RMB 537m (up 257% YoY) was below BOCIe by 10% but beat the street by 9%. The strong 1H24 financial performance is primarily attributable to 1) automotive acoustic business PSS consolidation with 25% GPM, 2) Android recovery and spec upgrade in 1H24, and 3) optics GPM turnaround.
　　Acoustics: Revenue rose 4% YoY to RMB3.5bn and GPM was up 4.4ppts YoY to 29.9% mainly thanks to Android restocking and re-spec. High-end SLS shipped 12m+ units (+200% YoY) and Combo shipped ~4.5m units in 1H24. Mgmt. expects significant acoustics specification upgrade in 2025 and 2026, driven by the release of AI smartphones, foldables and AI glasses.
　　PSS: Revenue contributed RMB1.52bn with GPM at 25% in 1H24. Mgmt. targets auto acoustic to generate revenue comparable to AAC’s traditional acoustic business within 3-5 years. Mgmt. expects PSS’s large overseas automotive client base will like AAC’s extensive product offerings from acoustic, haptics to precision parts and optics. We expect PSS to grow at 9% CAGR over 2024-2026.
　　Optics: Revenue was up 25% YoY to RMB2.2bn in 1H24 with positive GPM of 4.7%, beating BOCIe by 4ppts. GPM of plastic lens and modules were 16.7% (+27.4ppts YoY) and 5.7% (+11.8ppts YoY), respectively. In 1H24, 6P shipment mix reached 15%. AAC also won design-in for 7P lens projects and shipped 1.4m 1G6P hybrid lens in 1H24. Mgmt. guided optics business to break even in 4Q24 thanks to higher utilisation and yield rate.
　　EMD&PM: Revenue grew 1% YoY to RMB3.7bn in 1H24. Hinges for foldable phone shipped 0.5m units. Heat dissipation production revenue recorded RMB150m, with mgmt. guiding revenue to reach RMB1bn within 3-5 years, driven by on-device AI growth.
　　MEMS: Revenues dropped 21% YoY but GPM was up 5.2ppts YoY thanks to more in-sourced MEMS chip. High signal-to-noise ratio microphone has become a must-have for AI smartphone. In 1H24, AAC’s shipment proportion of Android mid-high end MEMS products rose 15 ppts YoY to over 60%.
　　Key Risks for Rating
　　1) Slower-than-expected smartphone upgrade; 2) slower-than-expected optics recovery; 3) macro impact on tech demand; and 4) lawsuit with industry peers.
　　Valuation
　　We increase 2024/25/26E EPS by 3%/7%/5% to factor in Company’s solid margin improvement across all segments. We keep 24x 2025E EPS unchanged to value AAC as the business is on a solid track of recovery and growth. Maintain BUY.