pic by MUHD AMIN NAHARUL
THE Bursa Malaysia Technology Index that measures the performance of technology stocks in Malaysia is down -32% year-to-date due to issues like the regulatory crackdown in China’s technology sector and fears over aggressive interest rate hikes. We, however, see brighter days ahead for Malaysia’s technology sector due to positive earnings growth in the future and reasonable valuation.
The semiconductor industry consists of manufacturing semiconductor and other technology equipment. Given that the semiconductor industry holds a significant weightage in the local technology index, we look to expand our view and reason for having a bullish call on the industry in this article.
In the semiconductor supply chain, assembly and packaging showed exceptional growth of 87% across all regions in 2021, while total test equipment sales rose 30%.
Malaysia plays an important role in the semiconductor global supply chain. According to the worldwide Semiconductor Industry Association, Malaysia accounts for 7% (RM367.57 billion) of total trade flows and is the largest semiconductor trading partner with the US with a 24% market share.
Total semiconductor exports in February 2022 were valued at RM24.9 billion (compared to RM31.4 billion worth in December 2021) amid global supply chain disruptions as a result of Russia/Ukraine tensions. The figure is, however, still 42% higher year-on-year.
Malaysia is a leading hub for semiconductor assembly, test and packaging of semiconductor equipment and integrated circuits (IC). Its semiconductor industry consists mostly of outsourced semiconductor assembly and test (OSAT) players that undertake semiconductor assembly, packaging and testing of IC.
In 2020, the OSAT market was valued at US$31.64 billion (RM144.5 billion), but is expected to grow at a compound annual growth rate of 7.3% over the next five to six years to hit US$49.71 billion.
Structural Growth Drivers for Semiconductors
1. 5G Infrastructure rollout. The smartphone segment has been the biggest source of revenue for OSAT providers, with more than one billion shipments every year.
The average semiconductor value of a 4G phone is US$126.10, while a typical 5G phone semiconductor value is at US$233.90, which is a 185% difference.
2. Electronic vehicle (EV) growth. The increased demand to reduce carbon emissions and develop more advanced and fast-charging stations has driven the EV market to grow at an astonishing pace. In 2021, total EV sales reached 6.6 million and successfully captured 8.6% of global market share.
3. Artificial intelligence (AI). Intelligent machines are powered by high-performing AI chips (GPUs, ASICs and MCUs) and thus have an impact on the semiconductor industry. Cloud computing has boosted demand for semiconductors as it requires built-in GPU, DRAMs, CPU and ICs.
Headwinds: Demand to Soften But Not as Much
Despite the good growth potential of the tech sector, demand is expected to normalise as last year’s price rally was partly due to investors being “too bullish”.
Demand for new technology will not weaken as much as the average selling prices suffered by glove counters in 2021 due to underlying structural growth for the technology stocks.
Valuations Down to Attractive Levels after Recent Retracement
The Bursa Malaysia Technology Index is suffering from a mismatch in fundamentals and valuations at this current share price level.
Based on our analysis, we expect the technology sector earnings growth in 2022Y to be 13.4%, the forward P/E ratio in 2024Y to be 15.78x and trading at a discount of the 5-Yr average P/E of 27.4x.
Although the historical P/E ratio is roughly 21x, investors will be willing to pay a slightly higher valuation if the growth potential is high.
Therefore, we opine the forward P/E ratio is very attractive. Tech companies’ earnings are foreseeable with their contracts and orders in hand.
In our view, Malaysia still has a strong ecosystem in the semiconductor space and many of the companies have quite a competitive edge.
The Bursa Malaysia Technology Index is now trading at 15.68X P/E based on 2024F estimated earnings, which is below the fair P/E of 20X, which translates into a 27.5% upside potential and signifies an attractive valuation with ample room for upside growth.
The downside risks include a potential slump in demand amid global supply chain issues and/or companies failing to meet high earnings growth due to “overhyped” extreme earnings forecasts.