INNOTEK: Turnaround story under new management

• InnoTek is one of the few laggards in the manufacturing sector that have yet to be re-rated. 

• Under a new management, the company turned around in 2016 aided mostly by organisational restructuring that has improved the cost efficiency of the group. 

• In 2017, it's likely to see further cost efficiency but sales growth remains a challenge as sales under the office automation segment has continued to decline, and current programs of the automotive segment are nearing end of life.

Mass production of newly-secured automotive programs has just started. 

• However, I like the management which has turned around the company in just a year of taking over. With an asset-backed valuation of S$0.386 as a potential “floor” for my investment, I have faith the management can take InnoTek to new glorious days.

Looking to 2QFY17F

• Wages contributed about S$14.5m in 2Q16 admin and inventories expense. Assuming InnoTek maintains its wage expense as per 1QFY17 of S$12.5m, that alone will yield nearly S$2m of savings in 2QFY17. (PBT in 2Q16 was only S$2.5m).

However, other factors may be in play such as sales decline, forex losses, fair value gain/loss etc.

InnoTek is a leading metal specialist with extensive experience in metal stamping and die fabrication. Photo: Company

Investment merits

Risks

Attractive valuation in a “hot” sector that is undergoing re-rating

• Trading at 2.3x EV/EBITDA, it is at nearly a 50% discount to its peers’ average, and the lowest in terms of P/B at 0.7x (the EV/EBITDA includes the held-for-trading investments which consist of S$10.9m bonds and S$4.4m equities according to AR16)
• Management is investing in a new facility in Thailand, which may reduce some cash in the near term
• Downside capped with asset-backed distressed valuation?
  S$0.386/share of its assets are in the form of investment property, cash, held-for-trading assets and only leasehold buildings in PPE.

Speedbump in earnings recovery?

• Sales have been dropping yoy due to lower demand for office automation and consumer (management had forecasted another 15% drop in 2017 following decisions by major customers to relocate their production plants to cheaper SEA countries), as well as automotive sales which were lower as they near end-of-life mass production.

However,

• Automotive: some newly secured programmes have started mass production in 1Q17 (and hopefully that may help to partially offset the drop).
• Office automation: InnoTek plans to invest in a new plant in Thailand following a major customer’s relocation. While this may result in heightened capex in the near term, it is good for the future of the company, as it is keeping up with customer trends and strengthening relationship. May also benefit if cost of production is lower there.
• TV segment: continued to be strong as previously expected by management due to move towards higher def TV (eg. 4k, 8k)

Savvy new management (with a stake in the company)

• CEO owns about 5.3% stake in InnoTek -- AR16
• Joined in Nov 15, successfully led a turnaround in InnoTek from adjusted loss before tax of S$10.3m to PBT of S$13.8m, despite sales decline of 8% yoy.
• Wages fell 15% yoy in FY16 - headcount was about 19% lower yoy.

Heightened CAPEX in near term as a result of expansion in Thailand - but this is for a better future of the company.

Turnaround story

• FY16 turned around with S$11m profit. Continued turnaround in 1Q17 - reversed from a loss of 0.5m in 1Q16 to 2.5m - due to lower depreciation, maximizing in-house production to reduce subcon expense, and lower wages from lower headcount and reduction in overtime.
• Retrenchment cost was S$1.8m for FY16 (should be lower in FY17? Although likely to still incur some as restructuring efforts continue.)
• Looking to 2QFY17F. Wages contributed about S$14.5m in 2Q16 admin and inventories expense. Assuming InnoTek maintains its wage expense as per 1QFY17 of S$12.5m, that alone will yield InnoTek nearly S$2m of savings in 2QFY17. (PBT in 2Q16 was only S$2.5m). However, there may be other factors in play such as sales decline, fx losses, fair value gain/loss etc.

Limited track record of new management (only about 1-2 years since they took over)

Good cashflow generation

• The manufacturing sector has been very cashflow generative.
• InnoTek generated S$7.8m of free cashflow in FY16, or about 8% FCF yield.
• CF generation remained strong in 1Q17 with FCF of S$2.7m (2.9% yield).

Foreign currency risk?

Higher dividends?

• With the exception of FY15, InnoTek has been paying  dividends since FY07, totalling S$0.425 a share.
• Following the turnaround in FY16, paid S$0.005/share. CEO owns a 5.3% stake in company, and with InnoTek’s history of rewarding shareholders with dividends, I believe should profit continue, we could see higher dividends.

S$m

S$/
share

Investment property

16.48

0.074

Situated in PRC - held under medium term lease - industrial complex in Hedong Industrial zone, with 42 years remaining (AR16 note 14)

Cash

34.204

0.153

Trade receivables and payables sort of cancel each other out, that is about all for liabilities

Held for trading financial assets

15.801

0.071

S$4.4m in equities, $10.9m in bonds and fixed income (AR 16 note 18)

66.485

0.297

PPE (leasehold buildings only @ carrying value)

19.968

0.089

as at 31 Dec 16 note 13 - we take only the leasehold buildings. Actual PPE (which includes other things is S$34.8m as at 31 Mar 17)

86.453

0.386

Mkt Cap US$m

 Price

Year end

PE

2015

2016

2017

2018

Valuetronics

241.4

0.80

03/17

12.3

15.5

13.3

10.5

Sunningdale

283.8

2.09

12/16

9.4

10.2

11.4

10.5

CEI

69.2

1.11

12/16

8.9

10.9

9.2

8.5

Memtech

95.6

0.94

12/16

11.3

15.1

9.7

8.5

Fischer Tech

102.3

2.54

03/17

18.5

10.7

Fu Yu

111.4

0.21

12/16

11.0

14.6

14.6

10.3

Spindex

78.3

0.94

06/16

8.7

10.7

Hi-P

552.8

0.95

12/16

14.2

11.3

10.7

11.4

12.7

11.6

9.8

InnoTek

63.9

0.40

12/2016

(5.4)

7.7

EV/EBITDA

P/B

Dividend yield (%)

Net D/E (%)

2015

2016

2017

2018

Valuetronics

5.34

6.31

5.52

4.55

2.00

4.45

(86.06)

Sunningdale

5.57

4.71

4.91

4.63

1.12

2.87

(3.94)

CEI

5.53

7.69

5.10

4.57

2.39

9.05

(22.90)

Memtech

4.52

5.25

3.11

2.62

0.85

2.66

(20.56)

Fischer Tech

5.27

4.66

1.38

3.15

(31.31)

Fu Yu

2.70

3.29

3.23

2.98

0.89

9.15

(56.07)

Spindex

3.83

4.06

1.17

2.45

(29.72)

Hi-P

9.59

4.48

1.33

0.84

(2.15)

5.3

5.1

4.4

3.9

1.4

4.3

InnoTek

2.32

0.71

1.27

(36.33)

S$m

FY16 PE (x)

Mkt cap

89.5

7.74

Less cash

(34.2)

55.3

4.78

Less held for trading

(15.8)

39.5

3.42

FY 2015

FY 2016

1QFY2017

Net Income/Net Profit (Losses)

(16.3)

11.6

2.5

Cash From Operations

(6.1)

10.0

3.3

Capital Expenditures

(2.4)

(2.2)

-0.7

Free Cash Flow

(8.5)

7.8

2.7

FCF yield

-9%

8%

2.9%

Net Debt

(35.0)

(45.3)

(50.0)

Net Debt Per Share

(0.156)

(0.203)

(0.223)