Goertek:Acoustics continue to see spec upgrades

Largely on-track and fairly priced

    Goertek released solid 2Q17results (EPS up 52% YoY) and positive 3Q17guidance (EPS up 12% to 49% YoY). Both are largely in line with Bloombergconsensus. The firm is positive on the 2018outlook, backed by continuedacoustic upgrades (stereo, waterproof upgrade) and VR headset organicgrowth. We share similar views on the strong top-line growth, but remainconcerned that GPM could keep trending down (on a YoY basis), as lowmarginVR headsets could outgrow the component business. Retaining Holdrating.

    Strong 2Q17operating results, owing to better product mix

    Goertek reported 2Q17EPS of RMB0.14(+52% YoY; +40% QoQ) andoperating profit of RMB622mn (+53% YoY, +50% QoQ) on sales of RMB5.5bn(+41% YoY, +22% QoQ). Operating profit beat DB estimate and consensus by21%, owing to tight opex control and GPM expansion (up 0.6ppt QoQ to 22.4%vs. DBe 21.4%). Dragged down by forex loss, EPS only came in line withexpectations. Goertek attributes strong GPM to better product mix (highercontribution from acoustics). Acoustic sales (speaker/receiver, MEMSmicrophone, earpod) grew 65% YoY, owing to spec upgrade (water-proofing,stereo sound, Lightning connector), and market share gain, as well as a lowbase in 2Q16(the weak iPhone 6S cycle). The assembly business grew 35%YoY, mainly powered by VR headset assembly, despite legacy TV/gameconsole peripheral assembly on a YoY declining trend.

    The firm delivered a positive tone for 2H17and 2018outlook

    Goertek expects 3Q17net profit between RMB629m (+12% YoY) and RMB836m (+49% YoY), driven by new iPhone launch, and organic demand growthfor VR headsets. The guidance is largely in line with DBe and consensus. For2018, Goertek highlights three key growth drivers: 1) the acoustic industry willpost 25%+ YoY growth, mainly driven by Android vendors playing the catch-upgame, on top of mild spec upgrades from iPhone, 2) new VR headset launchesfrom key clients (Oculus and Sony). We believe Oculus is likely to launch astandalone device that can work independently (without being tethered to aPC), and 3) rising demand for smart speakers and wireless headphones.

    Valuation and investment risks

    We raise our 2017-19EPS forecasts by 5% to 6%, and accordingly raise our TPfrom RMB18(22x 2017EPS) to RMB20.2(22x one-year FW EPS). 22x PERrepresents 0.8x PEG, in line with regional peers. Upside/downside risks includemarket share gain/loss and ASP increase/decline.