Local tech companies see bad quarter as expected

This article first appeared in The Edge Malaysia Weekly on June 5, 2023 – June 11, 2023

AS the curtain falls on the latest quarterly earnings season, it is apparent that Bursa Malaysia’s technology and semiconductor-related companies have posted weaker financial results.

Industry bellwethers such as Inari Amertron Bhd, Unisem (M) Bhd, ViTrox Corp Bhd and MI Technovation Bhd posted significant declines in their bottom line while the likes of Malaysian Pacific Industries Bhd (MPI), Dagang Nexchange Bhd and Aemulus Holdings Bhd slipped into the red.

The poor performance of these companies was attributed mainly to lower sales volume amid softer market conditions. As economic headwinds persist, the weak demand for electronics is spreading from consumers to the commercial market. Not helping matters are elevated inventories in the supply chain and higher energy costs.

With a decline in the tech cycle already months in the making, an underperformance is not entirely surprising. Yet the question lingers — are these figures worse, better, or in line with market expectations?

Furthermore, do the financial figures signify the continuation of a challenging period for these companies, or is there a glimmer of hope on the horizon?

For semicon big names such as Nvidia Corp, the stars appear aligned.

Last Monday (May 29), Nvidia co-founder and CEO Jensen Huang received a rock-star welcome during his visit to Taipei for a trade fair.

A day after the Taiwanese-American immigrant unveiled a new batch of products and services tied to artificial intelligence (AI) in his trademark black leather jacket, Nvidia became the world’s first chip company to hit US$1 trillion market capitalisation.

Over the past month, Nvidia’s stock price has gained 41%, year to date, it is an even more impressive 178%.

The fabless semiconductor giant is currently trading at a historical price-earnings ratio (PER) of 207 times.

Generative AI such as ChatGPT reportedly run on thousands of Nvidia chips, which are produced by foundries such as Taiwan Semiconductor Manufacturing Co Ltd.

QES Group Bhd co-founder and president Chew Ne Weng opines that the fifth generation (5G), cloud computing, AI and electric vehicles (EV) will remain the frontier of growth in semiconductor demand over the next few years.

“We can expect some short-term volatility but the overall trend spread over 15 or 20 years of data shows good growth. The recent run-up of Nvidia driven by AI demand due to the ‘hype’ surrounding ChatGPT proves that investor interest is still there.

“Earlier bearishness came from the high valuation of some tech stocks and when interest rates ratcheted up, tech stocks were punished severely. That affected the local semiconductor and semiconductor-related companies. I believe the outlook for the local firms over the next six to nine months is still good,” Chew, whose company is valued at RM467 million, tells The Edge.

QES is a manufacturer and distributor of automated test equipment, including test, inspection and measuring equipment,for the semiconductor industry.

Tradeview Capital Sdn Bhd CEO Ng Zhu Hann observes that there are still bright spots in the semiconductor sector but instead of consumer electronics and automotive, it may be in other parts of the technology space, such as AI, which is still commanding attention and a premium.

“Some have talked about Nvidia, defying the trend with its share price reaching record highs, as the frontrunner and beneficiary of the AI theme. But for the locally-listed semiconductor players, many of their end consumers are in the EV, consumer electronics, automotive and medical device sectors. They will likely suffer for another few quarters before seeing a healthy recovery in tandem with the global economy,” says Ng, who heads the boutique fund management company licensed by the Securities Commission Malaysia.

The decline in earnings and financial losses experienced by certain companies indicate that their performance may have failed to meet market expectations, says Chuah Choon Bin, co-founder and executive chairman of Pentamaster Corp Bhd, a Penang-based semiconductor equipment vendor and automation house with a market capitalisation of RM3.5 billion.

According to him, this is seen particularly among tech companies operating in the consumer semiconductor space, the recent cyclical downturns of which were a result of factors such as supply chain disruption due to global trade wars and the lingering effects of the Covid-19 pandemic.

Global economic conditions such as rising interest rates and inflation add to these challenges.

“Based on my analysis, it appears that the worst is yet to come, and I predict that recovery will only take place in the second half of 2024. This projection is influenced by the current global economic situation, geopolitical factors, and the ongoing tech-war conditions,” he tells The Edge.

Chuah, however, points out that factors such as 5G, cloud computing, big data, AI and EVs, continue to be highly relevant today, as these transformative technologies have the potential to reshape industries and drive long-term growth.

“5G networks are still being deployed globally, cloud computing is expanding, big data and AI applications are becoming increasingly prevalent, EV adoption is on the rise, and new gadgets are continuously being introduced to the market. These trends suggest that the underlying demand drivers for semiconductor firms remain intact,” he explains.

During the tech mania fuelled by the global chip shortage in 2021, local semiconductor stocks were trading at PERs of 60-70 times. Despite the significant drop in their share prices since early 2022, many investors still deem the stock valuations of these companies as high. For example, ViTrox, Pentamaster, MPI and Frontken Corp Bhd are currently trading at PERs of about 40 times.

Mercury Securities research analyst Ronnie Tan does not see any signs of recovery due to the slowdown in the semiconductor industry as a result of inventory adjustments, but he believes tech stocks are still on the radar screen of investors.

“Their near-term outlook remains weak but their long-term fundamentals are still intact. For now, I think the valuations of Malaysian tech stocks are still on the high side despite the fall in their share prices. Hopefully, the valuations will drop to a more attractive level,” he comments.

Vision Alliance VCC investment manager Chua Zhu Lian believes the Malaysian technology sector continues to remain attractive to investors and that the trend will persist for at least the next five years, especially if the government continues to prioritise the sector and actively encourage more entrepreneurs to participate in the industry.

“The increasing number of IPOs [initial public offerings] in the tech sector is a positive indication that the sector is benefiting from macroeconomic factors, while providing domestic and foreign investors with an expanding array of investment options within this field,” says Chua, who founded the Singapore-based offshore fund regulated by the Monetary Authority of Singapore.

Although the valuations of Malaysian semiconductor-related companies appear higher relative to those of their global peers, investors need to be mindful of the different capital market dynamics in Malaysia, which generally accord a premium to growth-oriented and fundamentally sound companies, he adds.

“Numerous companies have sustained a premium in their valuations over extended periods, even when their global counterparts were trading at much lower valuations. My advice to investors is to adopt a long-term time frame for their investments and avoid speculative or short-term bets. The odds favour investors who understand how to utilise time to their advantage.”

Alternatively, passive investment vehicles such as exchange-traded funds and dollar-cost averaging strategies can be considered to further mitigate investment risks.

Although valuations appear more palatable at current levels, Tradeview’s Ng says his fund house has yet to be a buyer of tech stocks.

“At our fund, we ‘underweighted’ the semiconductor and tech sector in the past year, which is why we were able to avoid the sell-off in tech stocks.

“We felt the valuations were far too steep and in a rising interest rate environment there was plenty of room to correct. We also felt the outlook would be dimmer because of the overall economic slowdown and consumption spending would reduce,” he adds.

His advice to investors is to stay on the sidelines and observe before plunging in at this point.

“Just because a stock that was trading at RM7 is now trading at RM4, it doesn’t make it cheap. It could always go lower. For tech stocks, do not only rely on forward PER to make an assessment.

“Consider adopting PEG (price/earnings to growth ratio) and mark it (at) a reasonable level instead of (at) a premium. By doing so, it is quite easy to see which company remains fundamentally cheap compared to those which are overpriced,” says Ng.

QES’ Chew is certain many local investors are still keen to invest in semiconductor and related stocks.

“The current PER is fair but not cheap compared to that of other sectors. My advice to investors is to base a longer-term horizon of three years at least to see growth and look for companies with strong balance sheets and actively seeking growth management teams.”