HI-P INTERNATIONAL (OSKDMG)

NEUTRAL

Price S$0.58

Previous S$1.28

Target S$0.55

Downgra de to NEUTRAL. Hi-P had, for two consecutive quarters, issued profit warnings prior to the results announcements. We believe that the poor results are mainly attributable to margin compression as the group faces downward pricing pressure from its customers, most notably Research in Motion (RIM). Fullyear gross margin is forecasted to fall by 3ppts YoY to 16%. Though we are expecting more opportunities coming from Apple, the risks of falling ASP and rising labour costs remain our main concerns. Consequently, we slashed our earnings estimates for FY11 and FY12 by 36.8% and 24.5% respectively. Downgrade to NEUTRAL as the current valuation seems fair. The new TP of S$0.55 is arrived after pegging blended FY11/12 earnings to 7.8x forward P/E (- 0.5 S.D of 5-yr historical mean). Going forward, we expect sales volumes to become the key driver behind profitability growth with more contributions coming from Apple.

Blows to top client RIM. Hi-P’s performance has for a long time been tied to that of its largest customer RIM. According to comScore MobiLens, RIM’s smartphone market share had shrunk by 5ppts to 24.7% for the three-month period ending Aug 11. To compound matters, a four-day service outage occurred lately, affecting nearly half of the 70 million customers worldwide. The incident has damaged RIM’s reputation and may drive away enterprise customers. As such, we expect Hi-P to share the burden, facing the risks of order cancellation and further price erosion.

Apple’s change of supply chain strategy to provide opportunities. Evidenced from the significant downward re-pricing of the iPhone 3 and 4, Apple has commenced competing in the mass market. Sales volume is expected to surge along with the falling ASPs, which its vendors will eventually have to shoulder. We have already seen Apple opening up its supply chain, bringing in new vendors and encouraging more competition among the suppliers so as to lower its purchase price. This move provides good opportunities for smaller but yet capable players such as Hi-P to come in and increase its market share. We are therefore cautiously optimistic about the group’s long-term prospects.