This article first appeared in Capital, The Edge Malaysia Weekly on September 23, 2024 - September 29, 2024

THE technology sector has gone on a wild swing in 2024, erasing almost all of its gains so far this year. At its height in mid-July, the Bursa Malaysia Technology Index was trading at 55 times price-earnings ratio, easing to 37 times PER at present, which is within its historical average of 38 times over the last five-year period.

Many established local semiconductor companies have seen declines in their share price year to date (YTD), some of them between 10% and 40%.

The question is why investors are shying away from technology stocks, especially semiconductor players, when late last year, global technology stocks benefited from investor interest, driven by the surge in artificial intelligence (AI) led by chip giants such as Nvidia Corp and Advanced Micro Devices Inc.

Why has the AI hype not rubbed off on local semiconductors?

Fund managers and analysts believe there is a time gap before the AI hype is “reflected in local semiconductors earnings”, given that Malaysian players operate in the hardware segment.

“The spillover of AI into the broader semiconductor sector could take nine to 12 months,” says Trident Analytics Sdn Bhd founder and chief research officer Peter Lim Tze Cheng. “This is because Nvidia specialises in AI chip design, whereas Microsoft focuses on AI software. Malaysian semiconductor players are in the hardware sector.”

Lim describes the AI chip as a car engine that needs all the other components for it to function.

“Without the other components, a car engine has no use. Likewise, an AI chip would need other hardware components to support overall function,” he says.

Having said that, he sees the recent weakness in local technology stocks as an opportunity to buy, especially those in outsourced semiconductor assembly and testing (Osat), automatic test equipment (ATE) and electronic manufacturing services (EMS) in the consumer sectors.

At present, there are five listed Osat companies on Bursa Malaysia: Inari Amertron Bhd (KL:INARI); Malaysian Pacific Industries Bhd (KL:MPI); Unisem (M) Bhd (KL:UNISEM); KESM Industries Bhd (KL:KESM); and Globetronics Technology Bhd (KL:GTRONIC).

Shares in Inari have inched up 1.7% YTD to RM3.01, or a forward PER of 25.16 times; MPI has dipped 3.3% to RM27.10, valuing it at 19.13 times PER; and Unisem has declined 3.5% to RM3.16 (26.67 times PER). The biggest falls were seen in KESM (down 27.1% to RM5.11, but still trading at a PER of 62.72 times) and Globetronics (plunging 66.5% to 54 sen as at last Wednesday, which has reduced its PER to 11.83 times).

On average, in terms of forward 12-month PER, Osat companies have an average valuation of 29 times and ATE companies, 30.5 times.

Notable players in the ATE space include Vitrox Corp Bhd (KL:VITROX), Greatech Technology Bhd (KL:GREATEC), Pentamaster Corp Bhd (KL:PENTA), Genetec Technology Bhd (KL:GENETEC), Mi Technovation Bhd (KL:MI), QES Group Bhd (KL:QES) and Elsoft Research Bhd (KL:ELSOFT).

Lim expects 2025 to be a “good year” for the tech sector. “The price of semiconductor counters has bottomed out. The technology sector is cyclical in nature. We expect the earnings of Osat players to be better in the coming quarters and we expect new orders for ATE players to come in next year.

“This is because between 2021 and 2022, ATE players saw a good run in their share prices because of the expansion of tech players during the Covid-19 pandemic. Between 2022 and 2023, tech players focused on enhancing production rather than expanding.”

Nonetheless, he points out that the recent strength in the ringgit against the US dollar could affect exporters this quarter, including semiconductor companies.

“There are several factors that affected the share price performance of the semiconductor players in the past few months, including a stronger ringgit against the greenback, a drop in the US-Nasdaq index and the Japanese government’s decision to raise interest rates, which led to funds’ switching their investments from non-index stocks to index stocks as part of risk mitigation measures.

“That is why you saw banking stocks doing very well in the past months.”

Similarly, Rakuten Trade head of equity sales Vincent Lau expects 2025 to be a better year for tech stocks. “In terms of valuations, tech stocks are reasonable. We expect it could come down further in the next six months, driven by earnings improvement.”

Lau notes that a stronger ringgit may affect the profitability of tech companies, especially given the recent rate cut by the US Federal Reserve. The effect is likely to be minimal, though.

On Thursday morning, the Fed lowered its key overnight borrowing rate by half a percentage point, or 50 basis points, amid signs that inflation was moderating and the labour market was weakening. The federal funds rate is now 4.75% to 5%.

Is the current valuation of the tech stocks index “cheap” compared with its July high of 55 times PER?

Lau believes the valuation is “justifiable”, despite the time lag in AI exposure, noting that the local tech sector had in the past traded at elevated valuations of as high as 50 times to 60 times, owing to the scarcity premium.

“Our semiconductor players are mainly in the back-end process,” he says, which limits its exposure to the AI boom.

“Nonetheless, the sector is one of the main drivers for the country’s exports and, of late, the government has been putting a lot of emphasis on the semiconductor sector to move up the value chain,” Lau says of the National Semiconductor Strategy (NSS), launched in June.

Under the NSS, the government announced a slew of initiatives, including RM25 billion in fiscal support to focus on integrated circuit (IC) design and advanced packaging, which are among the areas poised to drive innovation and industry growth amid booming demand for chips and AI technologies.

Malaysia is the sixth-largest exporter of such chips, with 13% of the global chip testing and packaging market. In 2023, the country’s electrical and electronics (E&E) exports stood at RM575 billion, or 40% of total exports and more than the next nine export segments combined.

The World Semiconductor Trade Statistics forecasts a 16% rebound in global semiconductor sales in 2024, fuelled by robust demand for memory and logic chips.

Lau says investors should consider or anticipate the recovery of the technology sector beyond 2024.

“There are only a few months left before we go into 2025 and we should account for the expected earnings growth in selected tech stocks rather than focusing on historical valuations. The tech sector will continue to be a high-growth area driven by AI, 5G, data centres and automotive,” he forecasts, adding there is a lot of liquidity in Malaysia but not that many good companies to invest in, “hence the scarcity premium in the local technology sector compared to the global giants when it comes to their valuations”.

Another fund manager says there are many funds that want to have exposure in the tech sector but have limitations when investing in overseas tech stocks.

“At the end of the day, it boils down to the company’s ability to generate earnings. Some Malaysian tech companies have been around for years with proven track records. Their valuations are because of the scarcity premium and there are few such companies in Malaysia,” he says.

While semiconductor players face greater investor expectation of earnings growth, non-semiconductor players have topped the Bursa Malaysia Technology Index.

For instance, Heitech Padu Bhd (KL:HTPADU) is in the lead after its stock gained more than 242% this year to RM3.01. Its recent turnaround is probably because it is believed to be the frontrunner for the RM1 billion National Integrated Immigration System (NIISE) project. Interestingly, REDtone Digital Bhd (KL:REDTONE) has emerged as a substantial shareholder after acquiring a 6.38% stake in Heitech Padu in August.

REDtone is 47.46% owned by Berjaya Corp Bhd (KL:BJCORP) and 17.34% owned by the King of Malaysia, Sultan Ibrahim Sultan Iskandar of Johor.

In March, Heitech Padu saw the emergence of MyEG Services Bhd (KL:MYEG) as a substantial shareholder after the latter acquired a 14.4% stake in the company.

For the second quarter ended June 30, 2024 (2QFY2024), HeiTech Padu recorded a net profit of RM449,000, marking a turnaround from a net loss of RM4.53 million in 2QFY2023.

Revenue grew 13.07% year on year to RM63.27 million, from RM55.96 million, driven by higher earnings across its technology, investment and niche market groups.

Other small-cap tech companies boasting share price increases are Theta Edge Bhd (KL:THETA), up 178% year to date to RM1.89; Edaran Bhd (KL:EDARAN), up 102% to RM1.72; and Notion VTec Bhd (KL:NOTION), up 232% to RM1.06. 

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