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CSCI-Technology-Sunny Opitcal (2382 HK)：Intensifying competition weighs on gross margin - 20180622

Intensifying competition weighs on gross margin

• A mixed set of takeaways from SunnyOp’s Reverse Roadshow at its Yuyao headquarters reaffirm our concerns over GM pressure amid intensifying competition in the CCM market.
• Management expects a YoY decline in GPM in 1H18, primarily dragged by lower CCM GPM, but see potential HoH improvement in 2H18 to be driven by rising mass shipments of triple cam and 3D sensing (ToF and Structured Light).
• We trimmed our FY18E/FY19E revenue and profit estimates by 2.5%/1.3% and 9.7%/0.4% respectively and lowered our DCF-based price target to HKD132 (from HKD135). Maintain Hold. 

CCM margin pressure to persist in FY18E and FY19E. As well expected, SunnyOp guided a CCM gross margin squeeze in 1H18 in the face of an increasingly competitive industry due to 1) COB overcapacity, 2) enhanced APU computing power leads to an industry-wide dual-cam margin contraction (lower precision requirement), and 3) uptick in component (lens, VCM, CMOS sensor) prices due to shortage. In addition, Korean competitors, SEMCO and LG Innotek, have made inroads into the Chinese Android supply chain. Looking forward, we see SunnyOp to buck the industry with a rapidly expanding CCM capacity (from 55KK to 65KK per month by end-18) to entrench its leading position and utilise a variety of cutting-edge technologies (e.g., Wafer Level Testing, IR Cut On Chip Packaging, (‘IOC’) and next-gen AA) to sustain a margin gap with its competitors. We foresee a more competitive CCM industry across-the-board in both FY18E and FY19E which bodes badly for SunnyOp’s CCM ASP and GPM.

HLS to benefit from next wave of optical spec upgrades. SunnyOp’s HLS business growth is well-on track (shipment grew by 47.0% YoY during Jan-May 2018) and management guided a margin expansion in 1H18 thanks to its rising penetration into Android flagship’s front cam (including Samsung’s S9, Huawei’s P20/P20 Pro, OPPO’s R15 and vivo’s X21). SunnyOp is also expanding its HLS capacity to 90KK from 70KK by end-18. Looking forward, management expects a more widespread adoption of periscope-style triple-cam for high-factor optical zoom (5-10X) from 2019 onwards, which will likely further drive SunnyOp’s HLS volume growth and ASP expansion, given its strong suit in telephoto lens and periscope camera, and support HCM segment ASP/GPM from 2H19, in our view.  

Automotive business, a long-term growth driver. Besides establishing an industry-leading position in VLS, SunnyOp has ramped up efforts in automotive sensing, including vehicle cam module, Head-Up Displays (‘HUD’) and light detection and ranging (‘Lidar’), which could benefit SunnyOp in terms of proliferation of ADAS and autonomous driving from 2020E onwards, in our view.

Industry headwind clouds near-term growth outlook. We trimmed our FY18E/FY19E revenue and profit estimates by 2.5%/1.3% and 9.7%/0.4% respectively and lowered our DCF-based price target to HKD132 (from HKD135). Maintain Hold.