Despite a depressing performance in the first half of the year, Hon Hai Precision Industry Co (鴻海精密) is likely to see its earnings growth momentum recover strongly in the next 12 months, Citigroup said in a report.
The US brokerage firm attributed Hon Hai’s expected growth momentum to robust iPhone shipments and strong demand for game consoles, digital cameras and camera modules.
Foxconn International Holdings Ltd (富士康控股), Hon Hai’s handset manufacturing arm listed in Hong Kong, would see its earnings stabilize in the second half of the year and not drag down its parent company’s growth, which should also help Hon Hai’s earnings recovery, Citigroup said in the report released on Friday.
Citigroup Global Markets analyst Kevin Chang (張凱偉), who wrote the report, gave a “buy” rating on Hon Hai with a target price of NT$193.
Chang expects Hon Hai’s earnings to grow 35 percent in the second half from the first half and forecast its first half earnings next year to increase 39 percent year-on-year.
“Given the strong earnings momentum in the next 12 months, we expect Hon Hai’s share price to outperform its peer hardware companies at least in the next couple of quarters,” he wrote.
Shares of Hon Hai, the world’s largest electronics contract maker, dropped 10.63 percent last week to close at NT$143 on Friday, after the company reported on Aug. 29 its first-half earnings dropped 10.44 percent to NT$28 billion (US$878.5 million).
But what had especially worried investors was the company’s second-quarter earnings, which fell 23.68 percent from last year or a drop of 25.77 percent quarter-on-quarter to NT$11.93 billion and signaled the company’s first profit decline in seven years.
Citigroup said gross margin indicated a risk to its upbeat earnings forecast for Hon Hai, after the component maker reported gross margin dropped to 8.7 percent in the first half of the year from 9.9 percent a year earlier.
Chang, however, believes the company’s gross margin pressure is manageable.
He said that compared to other local original design manufacturers and foreign electronics manufacturing service providers, Hon Hai has a higher direct exposure to raw material procurement because of its vertical integration system, which refers to a business model that relies more on in-house component supplies than outside supplies.
In other words, the company suffered more margin erosion than its rivals after prices of raw materials rose in the first six months.
But as prices of raw materials have started to plunge since late June and are expected to stabilize in the next 12 months, Chang said Hon Hai’s gross margin should maintain steady at a level close to that in the second quarter. He said Hon Hai’s gross margin would stay at 8 percent in the second half.
Citigroup’s optimistic view on Hon Hai’s gross margin outlook stood in stark contrast to that of UBS AG, which last week downgraded Hon Hai to “neutral” from “buy” on concerns about the company’s continued margin erosion.
In a Sept. 2 client note, UBS analyst Arthur Hsieh (謝宗文) and Edward Yen (顏子傑) said Hon Hai’s efforts to maintain good client relationships had pushed the company to increase lower-margin system assembly products in its business mix and thereby undercut its margin growth.
“We think it will be difficult for Hon Hai to outperform the electronics index given the deteriorating earnings quality,” they said in the note.
UBS lowered its 12-month target price for Hon Hai to NT$152 from NT$200 estimated previously, they said.
Hon Hai shares have dropped 29.21 percent since the beginning of the year, compared to a fall of 26.86 percent on the electronics sub-index and a decline of 25.86 percent on the benchmark TAIEX over the same period, data compiled by the Taiwan Stock Exchange showed.
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