Reiterating Buy, sales recovery and margin expansion trend continues
Despite a minor top-line miss, FIH reported better-than-expected operating results with gross margin surprising on the upside. For 2H14, we expect sales to recover with gross margin trending up, driven by new launches from Chinese clients and Blackberry/Motorola budget smartphones. Lower prices are an inevitable trend as the smartphone market matures. FIH is set to benefit from this trend as its vertical integration and one-stop shopping business model can help clients reduce costs and shorten time-to-market. Our 2014/2015 EPS forecasts are 2%/28% higher than consensus (Bloomberg).
Buy on strong margin expansion
FIH reported 1H14 operating profit of USD112m (+162% YoY/30% HoH) and net profit of USD50m (+182% YoY/-16% HoH) on sales of USD2.3bn (-8% YoY/-9% HoH). Operating profit beat our/Street estimates by 52%/43%, owing to GPM expansion (up 2.1ppt to 6.2% vs. Street’s 5.1%) and tight opex control. Net profit missed the Street estimate by 19%, due to assets write-off (USD18m) and higher tax rate, but it was 11% ahead of our estimate. FIH attributes strong GPM to its product mix, process automation and operation streamlining.
YoY sales declined due to a change in the revenue-booking methodology (which excludes the value of consigned components) with Xiaomi and some clients. Actually, FIH’s total smartphone shipment saw strong YoY growth.2H14 outlook: mild sales growth + continued margin expansion = strong EPSFIH expects its top line to see mild growth, with gross margin further improving due to better product/project mix. Our industry study suggests smartphones for Chinese clients continue to trend up, despite some project delays. In addition, more clients (such as Xiaomi, Meizu and Infocus) are adopting metal casings and plastic casings with complicated surface treatment technologies, which helps FIH’s component business. Order flows from two long-ailing clients Motorola and Blackberry are recovering, with new launches in 2Q (Moto E and Blackberry Z3) well received by the market. The only weakness in 2H14 came from Sony ODM projects.
Valuation and investment risks
We raise 2013/2014/2015 EPS forecasts by 2%-3% to factor in strong GPM. We accordingly raise our ROE-PB-based target price from HKD5.2 to HKD5.4(COE of 6.7%, ROE of 7.7%). Downside risks: USD depreciation, price war, and market share loss.