Unimech Group Bhd
(April 10, RM1.41)
Maintain sell with unchanged target price (TP) of RM1.45: Unimech Group Bhd’s (Unimech) share price had declined by 21% since the peak of RM1.78 in October 2014.

We believe the weakening of the share price was due to persistent margin compression as observed in the quarterly financial results and uncertainty in the outlook of the oil and gas as well as plantation sectors.

We see no immediate rerating catalyst at this juncture and margin compression remains a major concern.

Therefore, we reiterate our “sell” recommendation for Unimech with an unchanged TP based on calendar year 2016 (CY16) price-earnings ratio (PER) of 10 times.

On an annual basis, Unimech’s margin started to narrow noticeably in financial year 2014 (FY14) despite an increase in revenue.

We believe the group may lose control over the pricing power for some of its products in FY14.

Furthermore, higher finance cost and depreciation have exacerbated the situation.

The group’s margin had been resilient at around 19% to 20% in the FY09 to FY13 period, which had previously served as an investment merit.

We note that margin has deteriorated since then, especially over the last two quarters of FY14.

The group recently disposed of a 40% stake in a subsidiary, All Torque Control Pte Ltd (ATC), for S$35,000 (RM93,742).

We understand that Unimech will register a loss on disposal as the selling price is less than the book value.

Note that ATC has an unaudited shareholders’ fund of S$97,700 as at Dec 31, 2014.

Management guided that ATC is actually a dormant entity and doesn’t generate profit as initially planned.

The subsidiary is involved in the marketing and supplying of pneumatic actuators for remote control valves for use in oil and gas, refinery, petrochemical, food industry, machine maker, power plant, water treatment plant, oil rig or platform and general trading.

Unimech’s official policy is to pay up to 30% of its net profit as dividends. In FY14, the payout ratio worked out to 34%, compared with 35% in FY13.

Nonetheless, its dividend per share (DPS) was lower at 4.5 sen in FY14 versus six sen in FY13.

Management guided that the capital expenditure (capex) requirement for FY15 will be lower by about RM10 million compared with RM26.9 million in FY14.

This suggests upside to dividends going forward. Our analysis indicates that after taking into account the capex requirement, working capital, finance cost and depreciation, Unimech will easily meet the 30% payout target without incurring any additional borrowing.

We expect the group to pay DPS of 5.5 sen and 6.8 sen in FY15 and FY16, respectively. That translates into dividend yields of 3.9% and 4.8% in FY15 and FY16.

We value the stock based on 10 times CY16 diluted earnings per share of 14.5 sen.

Unimech appears to be fairly valued at the current price.

The softening outlook for plantation and oil and gas sectors will prompt companies to trim capex budget and reduce the demand for valve products.

Downside to the stock price is buffered by the attractive dividend yield. — TA Securities Holdings Bhd, April 10

This article first appeared in The Edge Financial Daily, on April 13, 2015.