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Simons Trading Research

Author: simonsg   |   Latest post: Wed, 13 Nov 2019, 11:56 AM

 

Fu Yu Corp - Continued Optimisation of Business

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  • FU YU CORPORATION LTD (SGX:F13) continues to put in efforts to optimise its operations. Three key initiatives which will lead to cost savings and growth include:
    1. liquidation of a loss-making JV in Malaysia;
    2. lease renewal for its Singapore plant; and
    3. closure of its Shanghai factory.
  • Although the one-off expense related to the closure of the Shanghai factory could drag 3Q19 earnings into the red, we believe Fu Yu will still pay a higher dividend for 2019, which could support share price.
  • Maintain BUY and target price of S$0.285.

What’s New

Liquidation of loss-making JV could lead to notable savings.

  • In Jul 19, Fu Yu Corporation (SGX:F13) started voluntary liquidation of 40%-owned Berry Plastics in Malaysia. We expect the process to complete by end-19 and the earnings drag from this JV should drop from an S$0.8m loss in 2018 to S$0.5m loss in 2019 and to zero in 2020.

Renewal of lease; redevelopment of a plant in Singapore.

  • Fu Yu will be renewing its leases for 7 & 9 Tuas Drive 1 for another 20 years from 2021. On the other hand, it will sell 5 Tuas Drive 1 by 2020 to comply with the lease renewal term. Fu Yu also plans to redevelop its plant at 9 Tuas Drive 1 to expand its operations. The estimated capex is S$13m, which can be partially funded by the disposal proceeds from 5 Tuas Drive 1.

Closure of Shanghai factory and shift of factory to Suzhou.

  • In Aug 19, Fu Yu received an early termination of lease for its Shanghai factory to be on 31 Jan 20, from the initial 31 Aug 21. As a result, Fu Yu made a strategic decision to shift operations in Shanghai to its Suzhou factory which has a larger production capacity and is ideally located to serve its customers in Shanghai. The medium-term benefits include lower overheads and better utilisation at its Suzhou factory.
  • We understand that labour cost in Shanghai is 10-20% higher than in Suzhou and the local government in Shanghai does not encourage manufacturing industry to operate in the city due to pollution issue.

Impact of one-off expense on share price should be offset by a higher dividend.

  • Fu Yu estimates the one-time expense for the Shanghai plant closure at S$5.5m and this could drag 3Q19 net profit into a loss. However, we think share price could be supported by a higher dividend of 1.7 S cents for 2019 (2018: 1.6 S cents), which will not be cut due to the one-off expense. See Fu Yu's share price.

Stock Impact

BUY for high and sustainable dividend yield, cheap EV/EBITDA.

  • Fu Yu offers a high and sustainable dividend yield of 7.0% for 2018 and we expect this to increase to 7.4% in 2019 on the back of improving net profit, FCF and strong net cash of S$82.4m (S$0.11/share) as of 2Q19.
  • In 2018, Fu Yu raised its interim dividend for the first time in three years, and we expect further increases ahead. See Fu Yu's dividend history.

Takeover target for its valuation, diversification, capacity and salary savings.

  • Fu Yu could be a takeover target, given its:
    1. attractive valuation at 3.5x 2019F EV/EBITDA currently. Note that peers were privatised at EV/EBITDA of 5.0-25.7x;
    2. geographically diversified plants and customers are highly sought after;
    3. low utilisation rate of only around 50%, which could appeal to acquirers who are in a hurry to increase production capacity; and
    4. low-hanging fruit from the savings of three co-founders’ remuneration, estimated at S$2.3m-3.0m annually, or 21-28% of 2018 net profit.

Earnings Revision / Risk

  • No change to our earnings forecasts.

Valuation / Recommendation

  • Maintain BUY and target price of S$0.285, based on 5.7x 2019F EV/EBITDA, pegged to peers’ average. It implies 2019F dividend yield of 7.4% and ex-cash PE of 7.7x.

Share Price Catalyst

  • Higher-than-expected net profit and dividend.
  • Potential takeover offer.
  • Potential corporate actions to unlock values, such as disposal of properties.

Source: UOB Kay Hian Research - 16 Sep 2019

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