Denko to benefit from capacity expansion, ties with key client

by MARK RAO

AmInvestment Bank Bhd has a ‘Buy’ call on Denko Industrial Corp Bhd which is set to benefit from new orders from its main client, a prominent floor-care player.

In its recent report, the research firm set a fair value of RM1.76 per share for Denko — a manufacturer of plastic-based products — based on a 13 times price earnings (PE) forecast for the 2019 calendar year.

This represents a premium to its listed peers in the region which are trading at a PE of 10 times.

“We attach a premium to Denko, given it is a stronger proxy to its key customer, which enjoys robust growth prospects,” the AmInvestment report noted.

“Among its peers, Denko has the highest share of orders from the key customer,” it said.

The unit sales of the key customer are projected to grow at a three-year compound annual growth rate (CAGR) of 29% from 2017 to 2020, supported by its constant innovation and fast-selling home appliances.

Based on the investment bank’s projections, Denko should account for 30% of the key customer’s total box-build requirements in the 2018 calendar year in terms of volume, rendering it the largest supplier.

Hence, Denko is expected to register robust growth through 2020, mirroring the prospects of its key customer.

Denko’s net profit is expected to register a two-year CAGR of 39% for the financial years 2017 (FY17) through FY19 on higher box-build orders from new products and margin expansion, resulting from better product mix.

The company purchased two new factories, which increased its current production space by 49% to 1.15 million sq ft, providing sufficient floor capacity to house six to 10 additional assembly lines, according to AmInvestment.

Denko is installing four additional assembly lines at its Dewani facility, two of which are in production, while the remainder is slated to commence by the end of the first quarter of the year.

Denko is the largest supplier of filters for its unnamed key customer globally, commanding a 80% to 85% market share.

“The heavy dependency on Denko for filter supplies demonstrates the trust and relationship the group has built with the key customer over the years,” it said.

While revenue contribution from the business was a mere 10% to 15% in the past two years, gross margin of the filter business is distinctly more superior (higher by four to five percentage points) to the conventional box-build business, the report stated.

AmInvestment’s RM1.76 target price for Denko is at a 8.6% premium of the company’s last closing price of RM1.62 on Tuesday.

“The stock is a bargain with a PE gearing of 0.58 times versus the industry average of 0.67 times,” AmInvestment noted.