HDBSVR: KNM Group, Maintain Buy

KNM Group

Time to bottom-fish

-Story: KNM held an analyst briefing yesterday to provide more details on its recent acquisition of Borsig, HZM and Ellimetal. These acquisitions should be completed by mid-2008, and raises KNM's orderbook to RM3.9b. Borsig and Ellimetal offer significant synergies given their established brand names and strong foothold in Europe – they can offer a new customer base to KNM. Upon completion of the acquisitions, KNM will have 22 plants in 13 countries. Its organic growth coupled with new acquisitions will enhance FY08-09F capacity by 51% and 10%, respectively. Growing contribution from Europe will also enhance orderbook breakdown in Euro and US$ to 50:50, and help to cushion against forex risk arising from a weakening US$.

-Point: KNM is on track to move up the value chain by increasing sales of higher end products from Borsig and Ellimetal. It has targeted sales of higher end products to make up 45% of FY08F (FY07-30%) revenue. We raised our FY08-09F net profit forecast by 29% and 62%, respectively, after factoring in the increased capacity and higher average selling price of RM19,00/tonne after the completion of the acquisitions in 2Q08. There is potential upside to our forecasts as KNM plans to cross-sell mid and high end products, and shift part of Borsig and Ellemetal's production to its lower cost plants.

-Relevance: KNM's share price has fallen 19% since 4 Mar 2008 due to a weak equity market. We believe this is excessive as KNM's prospects remain promising with improving margins and strong FY08-10 EPS CAGR of 51%. Its fundamentals are intact, but we lowered our target price to RM7.60 per share based on 15x FY09 EPS (25x previously), to reflect average peers' PE and KNM's historical low PE valuation.