Essay: Bright World Machinery

Bright World Machinery

Bright World Precision Machinery Ltd

Glowing brightly than ever

ZeeL

Research

Equity|Singapore|Machinery

15 February 2008

OUTPERFORM

S$0.40

Price Target: S$0.70

Outlook for China’s Machine Tool Industry remains robust. The global output and consumption in the machine tool industry grew in double-digit percentage and China is crowned the World’s Largest Machine Tool Consumer and Importer in 2007. This year, the China Machinery Industry Foundation (CIMF) is expecting the industry to continue growing at the pace of 20%.

Source: Reuters

Operationally ready to take advantage of the great industry outlook. The new plant is operationally ready by end of 1H08, which would serve to increase the production capacity of heavier and higher performance stamping machines such that comes with a higher margin. This could also help to combat the rise in raw material prices of iron and steel. Further, the incorporation of a wholly-owned subsidiary, Bright World Heavy Machine Tools (China) Co., Ltd and the joint venture with Shanghai Shangduan Stamping Machine Co.,Ltd would increase the production of cutting, bending and CNC machines to meet the expected demand in 2008. The continuous research and development efforts by BWPM enhance innovation, quality and branding of their product, together with its extensive marketing network in strategic location, BWPM is well-positioned to ride on the industry growth and increased its market share.

BWPM witnesses a consecutive 9 years of strong growth. Though the company is only public listed on April 2006, the company has been experiencing strong growth for continuous 9 years since its establishment in 1998. For the past two financial years, the company has been growing above the industry growth rates due to its aggressive expansion plans.

Analyst
Leow Xiao Wei

xwei@nus.edu.sg

We recommend a Buy on Bright World’s with a 12-month target price at S$0.70. The share price of the company has traded between $0.35 and $0.77 for the past 52 weeks. Foundations of the company remain strong especially in such a competitive industry and we believe the company has great potential to rise up to the recommended target price, back by DCF valuation.

Financial Forecast

Source: Company, ZeeL Research

COMPANY BACKGROUND

The company was first incorporated as World Precision Machinery Pte Ltd (“WPM”) on 28 July2004 and adopted the present name on 28 March 2006. Subsequently, it was listed on SGX Mainboard on 26 April 2006.

BRIEF OVERVIEW

Year Description

Mar 1999 Jiangsu World Machine Tool ("JWMT”) acquired the machine manufacturing business from Jiangsu Danyang Stamping Machine Factory ("JDSMF" which is engaged in manufacture of stamping machines since 1953)

May 2004Kim Pan Ltd incorporated the World Precision Machinery (China) Co Ltd ("WPM (China)") to acquire the stamping machines and resin-casted component business from JWMT.

July 2004 World Precision Machinery Pte Ltd ("WPM") was incorporated.

Feb 2005 WPM acquired the WPM (China).

Apr 2005 WPM changed its name to Bright World Precision Machinery Pte Ltd ("BW")

Apr 2006 BW was listed on SGX Mainboard on the name Bright World Precision Machinery Ltd ("BWPM")

Apr 2007Incorporated a wholly-owned subsidiary, Bright World Heavy Machine Tools (China) Co Ltd, in PRC

Oct 2007Joint Venture and Incorporation of new subsidiary – Shanghai Shangduan Stamping Machines Co., Ltd

Source: Company

BUSINESS

BWPM is a specialized manufacturer of stamping machines and its related components (which include machinery parts and accessories as well as rein-casted components). The company produces both standard and customized stamping machines to meet the different customers’ demand. The company’s operation is strategically located at Danyang City, Jiangsu Province, PRC with close proximity to manufacturing hub.

Leading Metal Forming Machine Manufacturer. In FY2005, BWPM earns about 3% of market share in the industry while the market leader and BWPM’s closest competitor, earns about 6% of market share.

Market of product under AOTU and World’s trademark. BWPM has been granted the rights to market products under the AOTU Trademark, which is recognized as the ‘Branded Products of Shanghai’ by the Shanghai City Branded Products Promotion Committee. Meanwhile, the World Trademark by the company has increasingly gained recognition in the market. BWPM was accredited as the Top 500 enterprises in 2006 for their excellent achievements over the years.

Integrated production facilities and Quality Assurance. Vertical integration processes have allowed the company to produced 90% of the components in house and has better quality control over the end products. The company has more than 30 quality assurance personnel to conduct checks at different stages of production, thus reduce cost through sharing overheads across different processes, which enhances the company’s bottom line.

New Research and Development Capability

BWPM recognized that R&D is the crucial part of the company to further widen its product range and features to enhance its competitiveness and sustain its future growth.

PRODUCT PORTFOLIO

Stamping Machines

BWPM currently market more than 104 different models of stamping machines, which are suited for manual and automated metal-stamping operations used for cutting, punching, stretching, forming, bending and straightening. The standard machines are classified into eight product series based on either C-frame or straight-sided. The end-users of the products are mainly product manufacturers from the automobile, hardware, electrical appliances and electronics industry.

High Quality Related Components

The company also manufactures machinery parts and accessories such as for replacements of parts within water pump facilities, machine tool manufacturing or ship building operations.

CUSTOMERS

Customers by Industry (FY2005)

Source: Company

SWOT ANALYSIS

Strengths:

• Strong emphasis on product quality. Awarded ISO9001:2000 for good quality management system in its manufacturing processes and has been accredited the ‘Jiangsu Trustworthy Quality Products’.

• Vertically integrated competency. About 90% of the components parts of the stamping machines are produced in-house instead of acquiring from third party. This vertical process alignment has greatly increased its efficiency to act on customers demand especially in such a highly competitive industry.

• Experienced and skilled technical teams for quality services. Strong emphasis on services, BWPM has equipped 17 personnel of average 8 years of experience to be located in proximity to customers for round-the-clock technical support.

• R&D capabilities. New products are introduced yearly with increased tonnage and efficiency which enhances its competitive advantage.

• Extensive sales and marketing network. More than 370 sales representatives are located at coastal and central China to generate new accounts through the growing manufacturing location and to maintain good relationships with the existing customers.

• Strong brand name. Products are marketed under the trademark of AOTU and World, which is gaining increasing recognition in the market.

• Strategic location. Strategically located at Danyang City, Jiangsu Province, where many manufacturing companies are located. Danyang’s developed transportation network allows for prompt product delivery and cost-savings.

• Experienced management team. CEO has more than 30 years of experience in the stamping machine industry and the key executives have combined industry experience of 60 years.

• Broad Customer Base. BWPM serves customers from the automobile, home electrical appliances, hardware, computer and telecommunications and other industries. Thus, any growth of these industry would lead to the grow in revenue of the company.

Weakness:

• Reliant on key personnel. BWPM’s are highly reliant on their experienced and skilled technical personnel for business and production process. A high turnover may have adverse effect on business.

• Reliant on sales representatives. Company’s performance is highly reliant on sales agent performance which contributes to approximately 80% of total revenues.

• Exposed to credit risk from customers. The prompt payment by customers will affect the profitability and liquidity of the firm.

Opportunities:

• Rapid industrialization of PRC. This was mainly due to its low operating cost advantage and an opportunity for the firm to tap on.

• Positive Industry Outlook. Good future prospect in China’s machinery tool industry and the world’s automobile industry which makes up the major portion of BWPM’s business.

Threats:

• Increasing raw material prices. Key raw materials such as iron, coke and steel plates make up approximately 40% of COGS, which may have great impact on the net profit if company could not passed the costs to customers.

• Highly competitive industry. BWPM may face great margin pressure from competitors who possess strong financial position and is capitalizing on low-cost strategy.

• Non-exclusive rights of AOTU rights. In the event when more rights are granted to competitors, it may affect BWPM’s market share.

INDUSTRY PROSPECT

CHINA MACHINERY TOOL INDUSTRY

China is the world’s largest machine tool consumer and importer. Based on the survey done by Gardner Publications, Inc., the World Machine Tool Output & Consumption Survey reveals that the global output and consumption in the machine tool industry grew in double-digit percentage and China is crowned the world’s largest machine tool consumer for the consecutive six years. In 2007, the total value of machinery tools consumption is a 17% y-o-y increase to US$15,390million from the previous year, and of which 45% are imports.

‘World’s top 10 machine tool Consumers in 2007’

Apparent consumption = a country’s production, less exports, plus imports. Source: Gardner Pulications, Inc.

‘World’s top 10 machine tool importers in 2007.’

c = circa; rough estimate from fragmentary reports. $: Reported in US$.
Source: Gardner Pulications, Inc.

BWPM would still have room to ride on competing with the imports for the native market share or export to countries like US and Germany, which have high import and consumption rates. China’s GDP grew by 11.4% in 2007 (official data) and the World Bank has forecasted that the growth to slow down to 10.8% this year. Despite this, China Machinery Industry Federation (CMIF) has forecasted that the native machinery industry would continue to grow at the pace of 20% for this year.

China is ranked the top 10 producers and exporters of machine tool. In 2007, China is ranked No. 3 in the ‘World’s top 10 machine tool Producers’. The estimated production of China’s machine tools is US$10,090million, of which 71% are production of cutting machines and 29% are production of forming machines. Also, 14% of the local production was exported. Thus, BWPM could work on expanding its sales and marketing network outside China.

‘World’s top 10 machine tool Producers in 2007’

% = in some cases, breakdown of total production between cutting and forming is estimated from historical data
$: Reported in US$.
Source: Gardner Pulications, Inc.

China is the world’s third largest auto manufacturer. As announced by the China Association of Automobile Manufacturer, sales in the automobile industry are expected to rise at double-digit rates in 2008 despite rising oil prices. This would also help to boost the growth of machine tool industry in China which BWPM could ride on.

Increased demand for CNC (Computer Numerical Controlled) machine tools. According to the China Machine Tool Industry Report 2006-2007, there is a high demand for CNC products and those are listed as the major development projects in the China’s Eleven Five Year Plan. This explains the aggressive movement of BWPM in new plant expansion to manufacture CNC machines.

In general, BWPM has aligned its business goals and strategies towards the current market trend especially with the government’s support. The company is certainly able to ride on the upbeat industry growth in China.

COMPANY FOCUS

Consecutive 9 years of Continuous Strong Growth. Since the inception of the company in 1998, the company has experienced strong growth yearly. The 9MFY07 revenue increased by 30.5% year-on-year

Source: Company

GROWTH STRATEGIES

• Continuous R&D efforts and to expand product range. The company’s R&D team targets to develop at least 10 new models of stamping machines each year and another team would be specialized in developing cutting and bending machinery. In fact, the team has already developed 39 models of cutting and bending machines which consists of 11 CNC machines.

• Moving to more profitable product mix which have higher ASP, thus, company is moving on to produce more higher performance and tonnage stamping machines such as CNC, vs the conventional ones.

• Increased exports. Besides on building the strong foundation in China, BWPM is also moving on to counties in Eastern Europe, such as Turkey and Brazil, to exploit the international market.

• Expand production capacity. With the new factory fully operational by end of 1HY08, BWPM would be able to expand its production capacity for higher tonnage machines and are set forth to be mainly on the production of CNC due to its high demand in the market.

COMPETITOR

Though the major competitors for BWPM are Jiangsu Yang Li Group Co Ltd, Chinfong (China) Mechanical Industry Ltd Company and Guandong Metal Forming Machine Co Ltd, these are not public listed companies. Thus, the table below shows the comparison with other machinery manufacturers:

Source: Reuters

Based on our fair value of S$0.70, BWPM’s PE for FY08 earnings is 5.1x, which is much lower than its peers and the industry average. Conversely, the ROE for FY08 earnings would the be 25.3% , which is higher than most of its peers and the industry.

VALUATION

The 3 stage discounted cash flow analysis was used as the basis for valuation of BWPM. As BWPM is an outstanding growth firm, which operates with high barriers to entry due to its specialized business and financial capital, a period of 10 years was set to forecast the free cash flow for the firm annually. As a matter of fact, all firms will settle into maturity with slower growth eventually.

In the 9MFY2007 financial statement, revenue rose by 30.5% year-on-year compared to 9MFY2006. This was mainly attributed to the high demand in the high performance stamping machine due to the booming automobile and machine tool industry. As indicated by CMIF that China’s machinery industry will grow at 20% this year, having BWPM growing faster than the GDP and industrial growth rate, its revenue growth has been adjusted upwards to 24% for this year. This figure is justified as the World Bank expects China’s GDP to grow at a slower pace of 10.8% this year, thus, revenue growth is not adjusted to high optimism here.

Subsequently, the company will still enjoy the strong growth of 16% for the next three years. After which, the revenue will decline till 5% in the long run.

As BWPM is a newly listed company expanding rapidly, the FCFF from each period is obtained through reasonable assumption of the affecting components instead of oversimplifying the FCFF to unrealistic assumption of growing at the same rate as the revenue. For instance, the assigned percentage of revenue for each FCFF components is based on historical behaviours and adjusted according to company’s growth and plans. The derived rate from the sustainable growth formula based on the historical data in FY2005 is 16%, however, this is not a realistic growth rate figure for FCFF and is adjusted accordingly to company’s future prospect.

*Please refer to the excel spreadsheets for the full details.

Initiate with a BUY recommendation. With the broad customer base and the growing economic expansion of China as the manufacturing hub, BWPM is poised to ride on this robust industry growth with its doubled capacity brought about by the new plant. As such, we have derived the target price of S$0.70 or FY08F P/E of 5.1x, backed by our DCF valuation. This translate to an upside potential of 22% from the current market price of 4.2x FY08 earnings. We strongly believe the potential of company to ride on the industry grow, we recommend a BUY rating for BWPM.