Maybank Securities has downgraded AEM Holdings AWX following the chip tester’s discovery of the inventory shortfall that will push it into the red when it reports its FY2023 ended December 2023 earnings.
“While AEM has proven itself over the years, the inventory shortfall mistake has impacted our confidence in management’s execution,” writes analyst Jarick Seet in his Jan 17 note, calling this a “basic error”.
“While we believe the worst should be over, we now only expect a more substantial recovery in the coming FY2025,” says Seet, referring to the semiconductor cycle. As a result, we downgrade to ‘hold’ from ‘buy’ while awaiting clearer signs of substantial order recovery,” says Seet.
On Jan 14, AEM said via the course of an internal audit, it discovered an inventory shortfall of between 5% and 7% of $358.6 million reported as of Sept 30, 2023. The company blames the discrepancy on a “human data entry error” caused when it shifted some of its operations to Penang.
This episode is a further negative to the company, which is already trying to cope with the downturn of the semiconductor industry like all its peers. On Aug 4, test equipment maker Advantest Corp announced it won a US$20 million arbitration case against AEM, which hired Samer Kabbani as president, AEM International, and chief technology officer. Kabbani was previously a vice-president at Advantest Test Solutions.
As AEM’s share price dropped some 40% off its 2022 peak, substantial shareholders, including Malaysia’s Employee Provident Fund and fund manager abrdn, took advantage of the drop to raise their stake with a series of open market purchases. Temasek Holdings remains AEM’s single largest shareholder.
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Seet estimates AEM will take an impairment of between $18 million and $25 million when it reports its FY2023 later next month, which will likely send the company into a full-year loss. In addition, Seet is also pricing in a weaker-than-expected recovery of the semiconductor cycle. As such, he has cut his FY2023 and FY2024 earnings forecast by 232% and 34%, respectively.
Seet’s previous target price was $3.76, based on 13.5x blended FY2024 and FY2025 earnings. His new target price is $3.26, based on a lower multiple of 13x.
Similarly, John Cheong of UOB Kay Hian has downgraded the stock from “buy” to “hold”, with a lower target price of $3.06 from $3.63. In his Jan 17 note, Cheong says the episode will likely “put a dent in the stock confidence in the near to medium term.”
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In addition, he sees “limited positive catalysts” in the near term, given that ramp-up of production is only expected late this year, as previously guided by the company. Cheong projects AEM to report a loss of $10 million when it reports its FY2023 and “lacklustre” guidance for FY2024.
Separately, William Tng of CGS-CIMB has stood his ground, maintaining his “add” call and $3.76 target price. In his Jan 16 note, Tng says that the inventory shortfall will not have an operational impact, as based on investigations so far, the discrepancy wasn’t caused by fraud nor involving external suppliers.
“AEM’s business with customers will not be negatively impacted as requisite inventories to fulfil customers’ orders are intact,” notes Tng, citing the company’s comments.
He estimates AEM will report a net loss of $12.2 million for FY2023, instead of earnings of $8.6 million, and will pay a “token” dividend of a cent, versus a total of 10.3 cents paid for FY2022, when AEM reported earnings of $127.3 million.
Tng reiterates his “add” call on the stock, citing positive growth prospects with the industry’s cyclical recovery. His target price of $3.76 is pegged to 11.3x FY2025 earnings, which is the five-year average.
Downside risks include a further pushback in the delivery timeline for customers’ testing equipment, weaker-than-expected recovery for the semiconductor industry and slower global economic growth. On the other hand, potential rerating catalysts include stronger-than-expected orders from its major customers and a ramp-up in orders from new customers, says Tng.
Similarly, Citi Research’s Luis Hilado has kept his “buy” call and $3.78 target price on the stock. Following the company’s briefing to analysts on Jan 16, Hilado notes that the inventory issue has no impact on future manufacturing or sales and no implications on current contracts worth some $280 million. “The migration is already completed, and systems are being evaluated and worked on to prevent future issues,” says Hilado in his Jan 16 note.
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In its Jan 15 note, DBS Group Research flags two possible scenarios. The first, with a higher probability, is that AEM can partially fulfil its orders and result in a 2% trim in its revenue estimate, which could put the company into losses of around $15 million for FY2023 due to higher cost of goods sold calculations.
In the second scenario, which is less likely, AEM would be unable to fulfil any orders arising from the shortfall in inventory, and as such, the company could sink deeper into the red with further trims in top lines.
In either case, DBS expects sentiment towards the stock to be negative. “Nonetheless, we reiterate our long-term positive view on AEM for its technological superiority in system level test,” adds DBS, which is keeping its “hold” call and $3 price target.
