EngTek’s privatisation a turnaround?

Petaling Jaya: An impending privatisation of Eng Teknologi Holdings Bhd (Engtek) could send a signal that the hard disk drive (HDD) sector may finally be poised for a turnaround, while increasing merger and acquisition interest suggests that there is value to be found among the country’s HDD component manufacturers, many of which are trading at low valuations after a major sell-off.

In a surprise move, the Penang-based manufacturer of HDD components yesterday morning requested for temporary suspension in trading of its shares, and announced that it had been notified by certain major shareholders of the company that they are currently in discussion of a corporate scheme which may lead to the privatisation of Engtek.

However, Engtek said that it had not received any definitive proposals.

“Some of our shareholders think the share price has not been performing favourably, and that the company as a whole is still undervalued,” CEO Datuk Teh Yong Khoon told The Edge Financial Daily yesterday.

Interestingly, the announcement was made not in response to a query by Bursa Malaysia, but as the company “noted the unusual price movement and relatively heavy trading activity in its shares recently”.

“It is a pre-emptive measure we took after observing the unusual movements in our share price,” said Teh of the announcement.

The company suspended the trading in its shares after 11am for the announcement. The counter was then trading at RM1.90, up 10 sen from the previous day’s closing of RM1.80.

When trading resumed after the lunch break, the stock surged to as high as RM2.07, before closing at RM1.99, up 19 sen or 10.6%, with 2.11 million shares traded.

Engtek’s efforts to be timely in making material disclosures, monitoring unusual stock price movements and curbing speculative purchases are certainly lauded.

Failing to name an offer price and allowing time to pass before solidifying any plans to privatise may, however, fuel buying interest as investors speculate on the takeover price.

Teh emphasised that the company has yet to receive any definitive proposals on the matter, and is unable to relegate more details to its shareholders.

“We have not been made an offer and it will take some time for us to negotiate. We do not have much information on the matter at this point in time,” he said.

Over the past year, Engtek shares have slid from a 52-week high of RM2.38 last July to a low of RM1.62 last month, as HDD-related stocks suffered a major sell-off. In the past six months, however, its shares have found stability and were trading within a very tight range, between RM1.62 and RM1.78.

At the current price of RM1.99, Engtek has a market capitalisation of RM243.78 million, with 122.501 million shares issued.

There is no denying of the fact that its shares appear undervalued.

They are currently trading below their net assets per share of RM2.18 as at March 31, 2011. On that date, the company had net cash of RM40.53 million, or 33.1 sen per share.

Engtek posted a net profit of RM48.31 million in 2010, or 40 sen per share, up from RM43.46 million, or 36.5 sen per share, in 2009. That places its historical price-to-earnings ratio at just five times.

For 1QFY11, net profit fell 73.6% to RM4.8 million, or four sen per share, on the back of a 21.6% decline in revenue to RM120.3 million, mirroring that of other HDD players.

“Product pricing was very competitive amidst hard disk drive industry consolidation during the reporting quarter,” said the company. Margins were nearly halved year-on-year to 35% from 61%.

The local HDD component industry has been hit hard over the past year.

Price discounting and excess stocking by major HDD global players led to price erosion, lower volume and squeezed margins for the local component players, whose margins were also adversely affected by the ringgit’s strength. There’s also the ongoing debate of HDD versus solid-state drives (SSD), given the increasing attraction of tablet personal computers (PCs).

Apart from Engtek, the other local HDD component players are JCY International Bhd, Notion VTec Bhd and Dufu Technology Bhd, while newly-listed MClean Technologies Bhd undertakes cleaning of HDD parts.

However, a string of global merger and acquisition (M&A) activities could suggest the sector may be poised for a turnaround.

Earlier this year, Notion VTec Bhd was in talks with interested parties, one of which was a US-based private equity firm, to acquire a stake in the company. It later announced that talks had fallen through, due to the failure to agree on certain terms.

Despite the failed acquisition, it is nonetheless an indication that local HDD manufacturers have gained interest, from both local and foreign entities.

Indeed, the macro picture for HDDs is starting to look more positive following two major M&A moves this year among major global players. This could lead to more optimism for component players — and for privatisation exercises like Engtek’s where stock prices have fallen to attractive levels.

The global HDD industry is in the midst of being consolidated to just two major players, a move which analysts say will limit future price wars and allow for better inventory balancing.

The world’s leading HDD manufacturer, Western Digital (WD), is in the midst of acquiring Hitachi Global Storage Technologies Ltd for US$4.3 billion (RM12.9 billion). On the other hand, Seagate Technology, the second largest HDD manufacturer, is purchasing Samsung Electronics Co’s disk drive business for US$1.4 billion. Together, WD and Seagate will have a 90% share of the global HDD market.

However, some analysts are not calling for a quick rebound yet. OSK Research earlier called for an “underweight” on the sector, as the market for HDD faces the growing threat of rival products.

“We remain wary of a shortfall in potential earnings, due to a prolonged digestion of inventory. This may be from the subpar growth in the demand for global consumer electronics and a continued weakness in the worldwide market for PCs, amidst numerous tablet launches and increasing commercialisation of SDD products,” said the research house.

It said that SSD products, such as flash memory drives, may impede growth of the PC market in the long term.

“We believe the pricing of SSD products could dwindle between 10% and 30% per year, and eventually become a viable and affordable alternative to conventional HDD units,” said OSK.