Wednesday, February 27, 2019

The New Idea That I Didn't Act On It

This article contains a portion of the Moat Scorecard Analysis Write Up 6 written on 27 Jan 2019 for my Moat Scorecard subscribers. For the Full Write Up, please subscribe to Moat Scorecard.

Having sold off one of my biggest holding of a Big Idea (Big Idea 5 - HongKong Land), I started search for the next possible Big Idea.

Firstly, I was looking at Courts Asia. But before I could make a decision, Nojima made a general offer. Damn!

Then along came Avi-Tech Electronics Limited (Avi-Tech). To be honest, I first came across this company when it passes Ultimate Scorecard in January.

Portion of Avi-Tech Ultimate Scorecard in Jan 2019.

I was surprised to see this new entry in my Ultimate Scorecard. This new company excites me in view that it was able to generate Free Cash Flow constantly for the last few years and the cash profit margin has been consistent.

What Does The Company Do?

The company specializes mainly in Burn-In Services, with a portion in Manufacturing and Engineering services.

However, the fact that it passes Ultimate Scorecard now is due to its share price being on the downtrend.


Why?

I believe it is due to the reasons below:

  • Semiconductor industry had seemed to reach its peak in 2017 and it has been on a downtrend for the whole of 2018.
  • As per RHB Analyst Report on 12 Sep 2018, “In 2HFY18, its engineering segment took a hit due to delays in customer projects as well as a slowdown in orders from clients. This led to the unit booking a loss, which dragged down Avi-Tech’s overall profitability. However, management believes that the segment has likely hit a low already, and business will likely pick up from here, with new customers being secured at the same time. However, it will likely take about 6-9 months to ramp up. As such, the engineering business will likely continue to be a drag on profitability in FY19 – albeit to a smaller extent.”
  • The company’s revenue and net profit has been reducing for the last few quarters as compared to its 2017 figures.
3rd Quarter 2018
4th Quarter 2018
1st Quarter 2019
More Research Done

As per the RHB Analyst Report on 12 Sep 2018 and 2018 Annual Report, it has been reported that Avi-Tech's customers are in the automotive industry rather than the chipmakers. 

RHB Analyst Report on 12 Sep 2018: "As Avi-Tech mainly provides burn-in services for chipmakers in the automotive sector, where there has been gradual and steady growth. We expect the burn-in business to continue to grow by 10-15% pa, and not be impacted by the slowdown in the
semiconductor sector. This is partly due to the fact that the majority of their burn-in customers are from the automotive sector, which is enjoying steady growth."

2018 Annual Report Letter to Shareholders: "...Furthermore, with the slowdown in the electronics sector, the overall semiconductor demand is anticipated to moderate. Nevertheless, due to the continued demand for sector-specific semiconductor chips such as in the automotive, cloud and networking  and data security industries, we are cautiously optimistic as there will be opportunities for growth for our business segments..."

In addition, as per a post on Valuebuddies on Avi-Tech, it has been stated by a CIMB Research Report that the customers of Avi-Tech are not within the chipmakers industry.

Screengrab of Valuebuddies Thread

Thus, with the above understanding of Avi-Tech's customer base, the downward impact to Avi-Tech's revenue and net profit may be less affected than other similar companies within the same industry.

I had also reviewed the last 5 years of revenue and net profit for each different segment.


The results shown that the company's burn-in services generated the biggest gross margin but the engineering services had dragged the Avi-Tech's business downwards. In the event, the company continues to concentrate on the burn in segment and maintain its relationship with this group of existing customer, Avi-Tech's revenue and net profit could rise back up.

In Short

With such deep understanding of Avi-Tech's business, it is important to come to a decision of whether I should make the purchase of the shares at the current share price.

Eventually, I decided NOT TO make the new purchase due to the information below:
  1. 2018 Annual Report Note 9: "Of the trade receivables balance at the end of the reporting period, $2,906,000 (2017: $6,410,000) is due from four major customers."
  2. 2018 Annual Report Note 30: "Included in revenues of $35,720,000 (2017: $39,982,000) are revenues of $12,258,000 (2017: $10,420,000) and $3,860,000 (2017: $5,462,000) arising from sales to two major customers from the Burn-in Services and Manufacturing and PCBA Services business segments. In 2017, included in revenues of $39,982,000 was revenues of $8,788,000 arising from sales to a major customer from the Engineering Services business segment. These revenues account for approximately 45% (2017: 62%) of the Group’s revenue."
  3. RHB Analyst Report on 12 Sep 2018: "However, it will likely take about 6-9 months to ramp up. As such, the engineering business will likely continue to be a drag on profitability in FY19 – albeit to a smaller extent. '
Basically, from the information above, it seems that the major customers had been paying in cash, since revenue from top 2 customer has maintained but trade receivables has decreased significantly. 

Furthermore, the Engineering Business will continue to drag the business for another 3 to 4 months and this will continue to impact its bottom line. With that, its Price to Earning Ratio will increases significantly and I believe its dividend payout will also be affected.

Therefore, I believe Avi-Tech should be on my watchlist, while I await for a higher margin of safety. 

Nonetheless, it is important to note that this is just my analysis as each investor should still make their own decision.

Please do your own due diligence before you invest this counter.

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2 comments:

  1. Thanks for sharing your analysis. AVITECH should also be on my watchlist from now onwards.

    ReplyDelete