ASE Technology Q1: Hold With Caution In Mind

seekingalpha04-30

The latest quarterly report from ASX gave reason for optimism, but also for caution since demand is not recovering as expected.ASX is sticking with its prior FY2024 outlook, but it also gave rise to ...

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Overall, the Q1 FY2024 report was a mixed bag. There were positives and negatives to be found, although the market seemed to have leaned more towards the latter in its response, which helps explain why the stock declined afterwards. Why will be covered next. The breakout in the stock is in danger In my previous article, written on February 1, rated ASX a hold after concluding that holding on to the stock made sense from a long-term perspective, especially with secular tailwinds like advanced packaging likely to boost ASX eventually. At the same time, the article argued against further buying of the stock after the long rally in the stock due to the possibility of buying at the top, before a potential correction. Source: Thinkorswim appThe chart above shows how the stock can be said to have trended higher in the last 12 months. In fact, the stock has moved upwards for longer than that. The uptrend can be traced back all the way to 2022. Note how the lows and the highs are both trending higher, a positive sign for stockholders. If the lows and highs are connected by trend lines, as ascending channel appears, a bullish pattern. The stock stayed within the boundaries of this channel for a whole year. That is, until March 6 when the stock broke through the upper boundary of the channel. ASX quickly hit a new 2024 high of $11.68 on March 7, but ASX was unable to hold on to these gains. Note how ASX fell back, and the stock is now right at the edge of the boundary of the channel. The stock was actually able to get below the upper trend line, which may be a harbinger of further declines in the stock in the short term. The current trend in the stock is still pointing higher, but after falling back within the channel, the stock could conceivably make it all the way back to the lower ascending trend line without breaking the existing trend. The stock needs to bounce soon, or further declines become more likely. Keep in mind, the stock has moved higher for over a year. The stock is below the upper bound of the channel, which makes for a potentially bad entry point. Both of these argue against opening a new position in the stock. So to be a buyer of ASX at this point is a risky move as far as I can tell from the charts. Why the Q1 FY2024 report from ASX was a mixed bag The stock has fallen off recently, so the market could have used some good news from ASX on April 25 with the Q1 report to help turn things around. However, while the Q1 report exceeded expectations in some areas, it also fell short in others. For starters, while revenue came in higher than expected, earnings were less than expected. Keep in mind, the first quarter of the year tends to be weaker due to seasonal factors. Still, revenue increased by 1% YoY to NTD132,803M, which converts to $4,242.9M using a USD:NTD exchange rate of 1:31.30. EPS declined by 2% YoY to NTD1.28, which translates to NTD2.56 or $0.08, or 0.082 to be more exact, per ADS. EBITDA was NTD23,974M in Q1 FY2024, up from NTD23,765M in Q1 FY2023. ASX finished Q1 FY2024 with cash, cash equivalents and current financial assets of NTD83,515M or $2,668.2M on the balance sheet, but this was more than offset by interest-bearing debt totaling NTD195,344M or $6,241M. Yet, the current ratio stands at 1.19, so nothing to be too concerned about. The table below shows the numbers for Q1 FY2024.  (Unit: NTD M, except EPS)  (IFRS) Q1 FY2024 Q4 FY2023 Q1 FY2023 QoQ YoY   Revenue 132,803 160,581 130,891 (17%) 1%   Gross margin 15.7% 16.0% 14.8% (30bps) 90bps   Operating margin 5.7% 7.4% 5.9% (170bps) (20bps)   Operating income 7,525 11,815 7,695 (36%) (2%)   Net income attributable to shareholders 5,682 9,392 5,817 (40%) (2%)   EPS (diluted) 1.28 2.13 1.30 (40%) (2%)   Click to enlarge Source: ASX In general, Q1 was on the flattish side, YoY. This is a reflection of ASX dealing with sluggish demand. The utilization rate, for instance, was about 60%, which shows how much slack there is out there. On the other hand, ASX intends to spend more on capex than anticipated at the start of the year, which could be seen as a sign of confidence demand will get better. Otherwise, ASX would not want to raise capex spending if there was no improvement expected. What to expect from ASX after Q1 FY2024 ASX is sticking with its FY2024 outlook issued at the start of the year. In a nutshell, the outlook calls for Q1 to be the trough, followed by sequential growth throughout FY2024 as demand gets better. By the end of FY2024, revenue is expected to be up 6-10% YoY. From the Q1 earnings call: “To sum up, I think we had a better than expected first quarter. And going into second quarter, we are on track of things and for the whole year. We are also expecting same kind of outlook that we presented last time. I think overall, this is all sectors are bottoming out, maybe with some different test sectors with different time pace or time schedule. But all-in-all, we are comfortable with the current situation, and we will continue to make the necessary investments to service whatever customer needs, including the leading edge and also on the test side, we are increasing our CapEx as well to try to win more test business.” Source: ASX earnings call Accordingly, ASX is still estimated to achieve EPADS of $0.65-0.70 in FY2024, most of it in H2, since ASX made no changes to the outlook, although exchange rate changes could affect the final number. As for Q2, earnings should be slightly better than Q1, which suggests about $0.10-0.11 per ADS. The high end of $0.70 would result in a P/E ratio of 14.4x with the stock at $10.10. This is slightly above the 5-year average of 13x, but still well below the median in the sector, which stands at 24x. In comparison, ASX earned NTD7.18 in FY2023, equivalent to NTD14.36 or $0.462 per ADS. In FY2022, ASX earned NTD13.94, equivalent to NTD27.88 or $0.941 per ADS. FY2024 is therefore expected to recoup some of the ground lost in FY2023, although there is much work left to do to get back to the FY2022 highs. If ASX does achieve EPADS of $0.70, then ASX could pay a dividend of $0.42, assuming a payout ratio of 60% as in previous years. This implies a dividend yield of 4.2% with a stock price of $10.10. Such a yield is a very respectable number, certainly in the tech sector, where many tend to pay little to no dividend. What may have spooked the stock However, while ASX made no changes to its outlook, ASX did point out the expected recovery in demand is moving slower than anticipated. “Going forward, we believe many products may take a fresh AI angle and may create a shorter-than-normal refresh cycle and thus, kick-start overall demand. As such, although the market recovery appears to be playing out a bit slower than previous customer forecasts, we are not looking to adjust our full year outlook. For the quarter upcoming, we still see a slightly improved demand environment for our services.” The above statement was arguably what raised eyebrows, which likely played a role in the market’s reaction with a decline of the stock post-earnings. It’s worth mentioning that the latest comments from ASX come in the wake of TSMC (TSM), the leading foundry in the semiconductor industry, lowering its FY2024 outlook on April 18. The latest outlook from TSMC sees the foundry industry growing in the mid-to-high teens in FY2024, down from the earlier 20%. The semiconductor market itself, excluding memory, is expected to grow by about 10% YoY. TSMC’s opinion about the state of the semiconductor market carries a lot of weight, since TSMC is seen as a barometer for semiconductor demand. Its upbeat outlook for the semiconductor market at the start of the year raised sentiment towards semis, which was a major reason why semis were able to outperform in the first quarter, with buyers convinced of the need to jump in. So for the leading foundry and now the leading OSAT provider to suggest the semiconductor market is weaker than anticipated is definitely something to take note of. Investor takeaways ASX is up for the year with a gain of 7.3% YTD for the stock. In contrast, many semis have achieved greater gains roughly four months into 2024. The iShares PHLX Semiconductor ETF (SOXX), for instance, has gained 13% YTD in comparison. There is still a long way to go this year, but at this stage ASX has underperformed. At the same time, the trend higher for the stock remains. On the other hand, the stock failed to build on the recent breakout out of the ascending channel. Instead, the stock has fallen back towards the upper trend line, and it is possible for the stock to fall further towards the lower trend line. As far as my read on the charts, holding on to shares is warranted with an uptrend in place, but now is not a good time to add to existing positions due to the possibility the stock could head lower in the short term. Downward pressure on the stock increased with the release of the latest quarterly report. ASX had laid out before what it expected out of FY2024 at the start of the year, and the Q1 FY2024 report was mostly in line with this outlook. The top and the bottom line were basically flat YoY in Q1 FY2024 as expected, but results are expected to get better, especially in the second half of the year, in line with many industry forecasts out there. The FY2024 outlook calls for quarterly results to improve sequentially throughout the year after the seasonal decline in Q1 marks the trough. However, ASX acknowledged what others had already suggested, which is that the expected rebound in demand in the market for semiconductors is not progressing as predicted at the start of the year. ASX is sticking with its existing FY2024 outlook even though demand appears to be weaker than anticipated, although ASX seemed to be open to the possibility of a downward revision later in the year. Still, weaker-than-expected demand is something to keep an eye on. The stock has pushed higher recently based on the assumption the quarterly results would rebound from the current slump. But if ASX does not register the growth expected at the start of FY2024, as much as 10% YoY, and stays flattish like in the latest report, the stock might have further to fall to account for this. So while I continue to hold on to ASX, I would also not be a buyer of the stock with the above in mind. There is the risk the stock may have to trade lower in the short term. Whether it is the charts, the weaker-than-expected demand, or the fact that the stock has underperformed, there are several reasons why opening new positions in ASX may not be a prudent move at this time. Sticking with what is already there makes for a better argument. The stock has gradually trended higher for over a year now, and while trends can change, the trend is your friend. While recent suggestions that demand is weaker than expected should not be ignored, ASX is still on track for better results in the coming quarters. FY2024 should be better than FY2023 with EPADS estimated to grow by an estimated $0.24 or 52% to $0.70 in the best case, one year after earnings were sliced in half in FY2023.  Bottom line, there is reason for optimism, but also caution after the latest updates from ASX on April 25. Optimism because demand seems to be recovering, even if it is weaker than expected at the start of FY2024. 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