I finished reading the second volume of Dr. Morris Chang’s autobiography on Sunday. As the founder of TSMC, his writing is direct and emotional, making it both engaging and insightful. Since the book is available only in Chinese, I decided to provide a summary. Hopefully I don’t plagiarize too much of Dr. Chang’s work.

The Genesis of the Foundry Business Model

1. Challenges in Chip Manufacturing

   • Building fabs is expensive and time-consuming. Managing them requires skills vastly different from designing systems or chips.

   • Integrated Device Manufacturers (IDMs) like Intel or General Instruments often prioritize their own needs. They resist customer input on their processes, leading to substandard service and timeliness.

2. Awkward Dynamics in the Industry

   • Chip designers must share technical details with IDMs, essentially giving away trade secrets to direct competitors.

3. Early Lessons in Yield and Workforce Management

   • In 1981, Texas Instruments’ Miho memory chip fab in Japan achieved yields of 40–50%, double that of its Houston fab.

   • Key factors included Japan’s low employee turnover (2% vs. 10–25% in Houston) and the availability of technically educated shift leaders and equipment engineers. In Houston at that point they could no longer recuirt shift or line leaders with technical education, in Japan they could, sometimes with university engineering degrees. Japan also has more competent equipment engineers.

     Equipment engineers are responsible for operating machines 24/7, they collect data and do some M&R. Even when they are off-duty they stay ready in case something happens. It is very costly to replicate that in the US.

4. “Copy Exactly!”

   • Intel’s Craig Barrett introduced this concept to replicate production lines with exact specifications, leaving no flexibility for chip designers' adjustments.

5. Dr. Chang’s Insights on Customization

   • From 1967 to 1970, Dr. Chang developed Medium Scale Integration (MSI) at TI, leveraging the company’s strengths. MSI are customized chips, margin is better than standard chips. He further pushed for better yield, quality, and reliabily to strength TI’s pricing power.

6. Taiwan’s Strengths in 1985

   • While Taiwan lagged in chip design, process technology and marketing, Dr. Chang recognized it could compete through quality and time-to-market.

Texas Instruments

1. Outdated Expertise and Strategic Missteps

   • TI’s Mark Shepherd(Chairman), an expert in the 1950s, but failed to adapt to the industry's rapid evolution. By the 1970s, his outdated approach led to critical strategic errors. In the 1950s, Texas Instruments (TI) built its own manufacturing equipment due to the sector's immaturity. However, in the 1970s, Shepherd maintained the same mechanical engineering team despite significant industry changes. During 1972-78 Dr. Chang repeatedly challenged Shepherd over this inflexibility. Another reason that their Japan fab had a higher yield is because photoresist production line was made by Japanese equipment manufacturer.

2. Consumer Electronics Misadventures

   • The initial attraction was clear: in the early 1970s, calculators sold for over $200, with component costs (integrated circuits, displays, keypads) around $20-$30. TI believed they could capitalize on this margin. They repeated this miscalculation with watches and home computers.

   • Consumer electronics and semiconductors operate on fundamentally different business models:

     • Consumer Electronics: Retailer-focused, emphasizing consumer needs and aesthetics

     • Semiconductors: System company-oriented, prioritizing quality and cost-performance

   • FThis strategy put TI in direct competition with its own customers. In some cases, like with Canon, TI was the sole supplier. J. Fred Bucy(President and CEO) attempted to prioritize the consumer electronics division's production capacity, but Dr. Chang resisted. The internal dynamics became increasingly dysfunctional. TI's IC division was now required to satisfy the consumer electronics division before serving external customers. In contrast, companies like Intel could focus solely on optimizing microprocessors.

3. Questionable Expansion

   • In the mid-1970s, Bucy built a foundry in Lubbock, Texas, driven more by personal nostalgia (his hometown) than strategic considerations. The location made it challenging to attract talent.

Notable Trivia:

• By 1974, TI was already using internal email.

• The company occasionally implemented "mass vacations" where the entire staff would take approximately two weeks off.

Business relationship with other companies

Phillips

• In 1985, Phillips invested in TSMC when other major tech companies(Intel, TI, Motorola, Panasonic, Sony, AMD, Thomson, DEC) declined. Their decision was decided by two key factors:

  • 1985 was a challenging year for semiconductors, with negative 16% growth. Phillips had other lines of business to soften the impact.

  • Phillips already had existing assembly lines in Taiwan and was looking to expand into lighting and passive component production.

  Investment Outcome:

  • Initial stake: 27.5%

  • Full exit: August 2008

  • Total return: 134.6 times (26.34% Compound Annual Growth Rate)

  • TSMC continued to grow 19.1 times post-Phillips' exit (20.17% CAGR)

Intel

• Intel placed significant orders during TSMC’s second year, helping establish production standards like statistical process control, quality control and preventive maintenance.

Nvidia

• In 1997, Nvidia’s Jensen Huang reached out directly to Dr. Chang after facing neglect from TSMC’s San Jose office.

• In 1998, TSMC sent managers to assist Nvidia with resource planning. In 2013, Dr. Chang even offered Huang the CEO position at TSMC. At that time TSMC's market cap was 10x of Nvidia.

Qualcomm

Qualcomm moved from IBM’s fabs to TSMC due to IBM’s arrogance, a problem TSMC avoided through its customer-first approach.

Apple

• Apple in 2010 began exploring a partnership with TSMC.

• Its relationship with Samsung was inherently complicated: Samsung simultaneously supplied critical components to Apple (displays, memory, chips) while competing directly with Apple through its own device lineup. Since 2007, Dr. Chang anticipated Apple would eventually partner with TSMC.

• Apple first approached Intel, but Intel was unwilling to sacrifice margin and service was subpar.

Goldman’s MBO Proposal in 2007

• Proposed by Hsueh-Jen Sung, who was also key to TSMC's Taiwan and Nasdaq IPOs.

• However TSMC’s capital expenditure and R&D expenses are too high and it will have difficulties in financing as a private company. There is also a potential loss of control.

• After one month of consideration, he rejected the proposal.

This is neither a recommendation to purchase or sell any of the shares, securities or other instruments mentioned in this document or referred to; nor can this presentation be treated as professional advice to buy, sell or take a position in any shares, securities or other instruments. The information contained herein is based on the study and research of One Foot Hurdle and are merely the written opinions and ideas of the author, and is as such strictly for educational purposes and/or for study or research only. This information should not and cannot be construed as or relied on and (for all intents and purposes) does not constitute financial, investment or any other form of advice. Any investment involves the taking of substantial risks, including (but not limited to) complete loss of capital. Every investor has different strategies, risk tolerances and time frames. You are advised to perform your own independent checks, research or study; and you should contact a licensed professional before making any investment decisions. The author makes it unequivocally clear that there are no warranties, express or implies, as to the accuracy, completeness, or results obtained from any statement, information and/or data set forth herein. The author, shall in no event be held liable to any party for any direct, indirect, punitive, special, incidental, or consequential damages arising directly or indirectly from the use of any of this material.

Infinity Development 640:HK is a footwear adhesive manufacturer established in 1990. The adhesive industry, with proper management, offers companies a long runway for success.   Since its listing in 2010, Infinity Development has demonstrated consistent earning power. This quality is often overlooked in Hong Kong, presenting an opportunity to own an extremely defensive company at a bargain price of EV/EBIT less than 2.

- Capitalization

Share price at 2024/10/4 : $HKD 0.75

Shares outstanding: 563M

Market cap: HKD 423M

Enterprise value: HKD 110M

Average daily trading volume: HKD 80K

- Key Operating Numbers

- Footwear adhesive overview

Adhesives and closely related sealants are frequently used and versatile products. Adhesives are used for bonding parts and sealants are for blocking passage of fluids or gases. In a way sealants can be thought of as weaker forms of adhesives. Adhesives have widespread applications, from large objects like floor and tiles to delicate components in precision manufacturing. Sealants are common in HVAC, home improvement, plumbing, roofing but these two have overlaps and large scale conglomerates like Sika offer extensive product lines in both fields. M&A are frequent in this space due to synergies in purchasing, distribution channels, productions, R&D. There is always room to innovate to address specific needs. 

Footwear is one of the niche segments. The market size for footwear is $USD 489B with a cagr of 2.21% between 2024 and 2029 . 

The development of footwear adhesive began around post WWII, when the manufacturing of leather shoes started to adopt glue to reduce the amount of hand sewing and stitching. Footwear adhesive has grown alongside footwear and it has a long history. There are two prestigious footwear adhesive manufacturers, Nan Pao Resins Chemical(4766:TW) and Great Eastern Resins (1775 but not publicly traded), founded in 1963 and 1955 respectively. It demonstrates that with prudent management, the staying power is resilient in this industry. 

Infinity Development has been profitable every year since 2007, aside from the year 2017 when they recognized a massive asset impairment. It has paid dividends every year from 2011. Such consistency is rare, especially in the Hong Kong market. 

-The engineering of footwear

Footwear design is complex, with numerous parts serving specific functions. For example, a running shoe typically has 20 different components:

The midsole absorbs shock and provides bounce. The outsole creates a strong grip on outer surfaces. At the heel, the heel counter maintains the shoe’s structure, the foxing stablizes and supports the heel, the collar lining cushions the heel and ankle. On top the tongue and the quarter cover and protect the foot.  

Quality shoes must be breathable, flexible, lightweight, strong, durable, ergonomic, and comfortable. Each sport has unique requirements, emphasizing factors such as shock absorption, ankle protection, air permeability, and slip resistance. Aesthetic considerations also play a role, highlighting the numerous specifications involved in shoe design.

Various components—including the outsole, foxing, collar lining, collar foam, and strobel—all require adhesives. These adhesives are crucial to shoe performance, needing to withstand a range of movements like running, sprinting, tackling, jumping, sliding, and shuffling. Simultaneously, they must maintain air permeability and possess good washing fastness, as well as some degree of color fastness and lightfastness to preserve the shoe's appearance and integrity when exposed to sunlight. For specialized footwear like trekking or climbing shoes, adhesives must also endure challenging environmental conditions. The quality requirements are stringent, as subpar adhesives can easily compromise the product's integrity.

One major customer of Infinity Development is Yue Yuen/ Pou Chen. Yue Yuen manufactures for Nike, Crocs, Adidas, Reebok, Asics, New Balance, Puma, Timberland and Rockport. Major brands conduct stringent quality control and performance tests. The combination of adhesive/primer/hardener used in manufacturing of a shoe model needs to be custom made.  All together Infinity Development has 30+ years of working relationship with Pou Chen, its Taichung office is 700 meters from Pou Chen’s headquarters, demonstrating the stickiness(ahem) of its business.

There is no one-size-fits-all super glue. For example many people have experience with the outsole falling off their running shoes and normally they would try to stick it back with Super Glue. That is not going to work. Super Glue is too rigid, it requires a glue that is pliable and can accommodate foot movements. Secondly the outsole and midsole are made of different material, a primer probably needs to be applied first then the glue. Both surfaces must be clean and dry before applying primer or glue. Infinity Development has a diverse product line for the gluing of different parts of shoes. 

-The requirement of footwear adhesive:

An optimal adhesive needs to accomplish the following goals:

1. Material compatibility

Depends on functionalities, shoes, for instance midsoles are made of varying materials such as evathene(EVA), thermoplastic polyurethane (TPU), thermoplastic polyeher ester elastomer(TPEE), polyether block amide(PEBA)...etc. For example, PEBA is excellent in providing strong bounce and lightweightness, but it is expensive. EVA is cheap but both bounce and lightweightness are not the best. Each material has different properties thus adhesive needs to be compatible accordingly. Surface treatment may also be required, primer is used to make the substrates more bondable, and hardeners are for curing of the glue.

2. Water and Heat Resistance

   Adhesives must withstand various environmental conditions, including heat, cold, humidity, and moisture.

3. Enviromental friendiness

Volatile Organic Compounds(VOCs) are harmful to assembly line workers and are a source of air pollutants. Reduction of VOCs is a key focus of major brands.

4. Tack

The bond has to be strong when adhesives are initially applied and after full curing. 

Each shoe uses a combination of adhesives. A footwear ODM typically carries multiple brands and multiple product lines. Adhesive in nature is a high-mix low-volume operation. In purchasing, HMLV raw material is always a headache because you need to run extensive quality controls and negotiate terms with many suppliers. A single source supplier solves many problems. Also as mentioned before, adhesive needs to be custom made and approved by the brands. It is not a decision that an ODM can make independently. Switching suppliers is a difficult process.

More importantly, adhesive behavior is particularly environment dependent. Temperature, air quality, humidity all have effects on how adhesives function. Adhesive suppliers need to provide timely technical support and troubleshooting to ODMs. The significance of this capability escalates as footwear ODMs in recent years set up factories in countries such as Cambodia, Thailand, Indonesia, Bangladesh, India, Vietnam because brands demand manufacturing diversification, or ODMs taking advantage of favorable labor cost and duty treatment. Production environment varies in each country. Additional complexity creates more problem-solving opportunities and makes Infinity Development more indispensable to ODMs. 

According to the half-year report for 2024, the company generates only 15% of its revenue from China. This marks a significant shift from 2007, when 72% of revenue came from that market. Currently, 61% of the company’s revenue is derived from Vietnam, with 13% from Indonesia and 11% from Bangladesh. One way to invest in Hong Kong is to select companies with little China exposure and Infinity fits the bill.

-Footwear adhesives vs textile auxiliaries

From my previous post, it is clear that footwear adhesives share similarities with textile auxiliaries: both consist of a range of mission-critical products that require extensive trial and error, attentive after-sales service, and expert knowledge on materials. When issues arise, entire batches of merchandise can be rendered unusable. I believe both Big Sunshine and Infinity Development possess solid competitive advantages in their respective industries. While Infinity Development boasts a longer track record, Big Sunshine lists on a more efficient stock market(i.e. not Hong Kong).

The Hong Kong market shows limited interest in niche industrials, making it an unsuitable environment for listing. A more fitting market might be Taiwan, where Taiwanese footwear ODMs dominate. Additionally, Hong Kong is filled with value traps, which further depresses the valuation of Infinity Development.

-Growth

Here is a chart of Infinity Development’s revenue vs main competitors Nan Pao and Great Eastern Resins’ footwear adhesive revenue:

It appears that Infinity and Nan Pao are steadily capturing share from Great Eastern, and Infinity achieving consistent growth and notable improvements in its bottom line over the years. Notably, while both companies began by specializing in footwear adhesives, they have since diversified to the point where footwear now accounts for less than half of their revenue.

-Company history 

Infinity Development was founded in 1990 by Mr. Ieong Un in Macau. Prior to establishing Infinity, Mr. Ieong spent six years working for a local company that distributed petroleum-related products. In 1993, Infinity Development acquired the rights to distribute hardeners—curing agents essential for adhesives—from Huntsman, coinciding with the boom in footwear manufacturing in the Pearl River Delta during the early 90s. In 2002 and 2005, Infinity signed a collaboration agreement with No-Tape, a footwear adhesive manufacturer based in Osaka, Japan, for No-Tape’s expertise in formulas and technical support.

-Risk

Infinity’s largest customer, Pou Chen, holds 15.5% of Nan Pao Resin 4766.TW, which is also Infinity’s main competitor. At first glance, this appears to be a significant threat. However, ODMs typically maintain relationships with at least two adhesive suppliers to mitigate risk. This creates space for Infinity, especially since Great Eastern Resins seems to be under more pressure to lose market share. Additionally, brands possess the power to switch adhesives, rather than ODMs. Even if ODMs wanted to switch suppliers, the process can be cumbersome and unnecessary as long as Infinity continues to deliver quality products.

In 2015, Infinity frustrated many investors by issuing 50 million shares at HKD $1.6 to diversify away from its core business. Their intention was to start an energy saving business with Sinochem Beijing. Diversification into unrelated areas often raises red flags. Not trying to exonerate management, it is important to note that market sentiment in Hong Kong in 2015 was vastly different from today. Back then, management may have felt pressure to present an exciting narrative and show investors that they had a second leg for growth. Although this reflects poor capital allocation, I do not believe it was driven by fraud or deceit. 

In recent years, the company has paid dividends with a heathy payout ratio, coupled with the fact $73.8M were spent in buybacks between 2016 to 2020. This indicates a shareholder-friendly approach, at least from 2016 onwards.

Another point to consider is that Mr. Ieong Un is now 70 years old and holds 74.79% of the company. This raises concerns about a potential low-ball privatization offer, given Infinity’s depressed valuation. However, in Hong Kong, only 10% of disinterested shareholders are needed to veto a privatization offer. What it means is that it requires only 10% * (100%-74.79%) = 2.52% of shareholding. This is a low bar and provides a decent defense.

Conclusion

Investing in Hong Kong presents challenges. Personally, I have adjusted my expectations to target a 10+% annual return. Infinity’s dividend yield alone(~10.3%) exceeds that, and the company operates a mission-critical, defensive business that the market is unaware of. With an EV/EBIT ratio below 2, I believe the downside is limited.

This is neither a recommendation to purchase or sell any of the shares, securities or other instruments mentioned in this document or referred to; nor can this presentation be treated as professional advice to buy, sell or take a position in any shares, securities or other instruments. The information contained herein is based on the study and research of One Foot Hurdle and are merely the written opinions and ideas of the author, and is as such strictly for educational purposes and/or for study or research only. This information should not and cannot be construed as or relied on and (for all intents and purposes) does not constitute financial, investment or any other form of advice. Any investment involves the taking of substantial risks, including (but not limited to) complete loss of capital. Every investor has different strategies, risk tolerances and time frames. You are advised to perform your own independent checks, research or study; and you should contact a licensed professional before making any investment decisions. The author makes it unequivocally clear that there are no warranties, express or implies, as to the accuracy, completeness, or results obtained from any statement, information and/or data set forth herein. The author, shall in no event be held liable to any party for any direct, indirect, punitive, special, incidental, or consequential damages arising directly or indirectly from the use of any of this material.

Big Sunshine Co 1475:TW is a textile auxiliaries supplier that remains relatively unknown, even within the Taiwanese investing community. The textile auxiliaries industry is a $USD 8B market and is estimated to grow at a CAGE of 3.9%. I believe Big Sunshine is worth considering due to the following reasons: 1) Its ability to leverage resources from its affiliates, 2) Its mission-critical, recurring, and high-touch product offerings, and  3) The limited coverage it receives. Trading is available on Interactive Brokers and English filings are accessible.

-Capitalization

Share price at 2024/8/26: $NTD 61.1

Shares outstanding: 60.02M

Market cap: NTD 4,034M

Enterprise value: NTD 3,064M

Average daily trading volume: NTD 27.6M

-Key operating numbers

-Taiwan's Textile Cluster: A High-Functionality Hub

Taiwan's textile sector boasts an output of approximately $100 billion USD in 2023. Traditionally, the textile industry has been known for its labor-intensive nature and environmental impact, leading to a trend of production shifting to countries with lower labor costs and less stringent regulations. Taiwan, however, presents a unique case.

Despite facing similar pressures, Taiwan has maintained a strong textile presence, largely due to the influential Formosa Group. This conglomerate produces upstream petrochemical raw materials, enabling local smart textile ODMs to experiment with innovative fibers and filaments. The result is a high functionality, high-value textile supply chain in Taiwan.

The quality and performance of these Taiwanese textiles have gained international recognition. A testament to this is the 2022 World Cup, where jerseys for teams such as Germany, Japan, Spain, Argentina, Mexico, Belgium and Wales were manufactured by Taiwanese ODMs, including Far Eastern New Century, SSFC, and Eclat. Imagine a jersey that weighs only 145g, is made from recycled materials, can quickly wick away perspiration, and withstand tackles and grapples from defenders. This showcases the acceptance of Taiwanese textile products by world-class athletes.

The heart of this textile cluster is located in New Taipei City. Notably, the BSI group operates a factory in nearby Guishan, Taoyuan. This proximity to the cluster allows Big Sunshine to better serve its customers and stay abreast of the latest industry developments.

-Mission critical consumables

On Twitter I have consistently expressed my preference for companies that sell consumables. The nature of consumables offers several key advantages:

• Less effort is needed to find new customers, resulting in lower marketing costs.

• Predictable demand simplifies decisions related to sourcing, purchasing, inventory management, warehousing, distribution, hiring, and employee training.

• Enhanced end-user feedback.

• Improved product development and optimization.

• A cooperative, rather than transactional, relationship with customers.

If the consumable is also mission-critical, that is even better. When a product is crucial to the end user's process, the importance of smooth production far outweighs any potential savings from using cheaper alternatives. End users are reluctent to switch, creating an exceptionally strong moat.

Textile auxiliaries fit this description.

-What are textile auxiliaries

Textile auxiliaries are chemicals used throughout the textile manufacturing process.  This process can be best illustrated in the following chart.

Textile auxiliaries can be categorized into three main types: 1) Pretreatment, 2) Dyeing, and 3) Finishing.

1. Pretreatment: Yarns or threads are placed into a loom to form fabric, but before this, they need to be sized (starch-coated) to withstand the shedding, picking, and battening motions of the loom. Once the fabric is made, it needs to be desized and bleached. Additional treatments are then applied to improve dye uptake and reduce shrinkage. Depending on the material, required auxiliaries may include starch, lubricants, scouring agents, penetrating agents, wetting agents, detergents, and more.

   

2. Dyeing: The fabric is then ready for dyeing. Chelating agents are used to remove calcium and magnesium from the water. Dispersants ensure dyes are spread evenly, while leveling agents help dyes gradually attach to the fibers and move from areas of higher concentration to less concentrated areas. Finally, fixing agents are applied to ensure the dyes adhere to the fabrics.

3. Finishing: At this stage, different functionalities can be added to the fabrics, such as wrinkle-proofing, shrinkage resistance, anti-static properties, fire retardancy, waterproofing, and high UV protection. Products involved in this stage include softening agents, waterproofing agents, antistatic agents, and others.

There are additional factors to consider when applying auxiliaries. Each type of fabric behaves differently. For example, nylon requires high pressure and acid dyes, while polyester, being more compact, needs higher temperatures and pressure, and uses disperse dyes. Consequently, the auxiliaries used will differ.

Original Design Manufacturers (ODMs) may seek treatments that are more water- and energy-efficient. Brands might also require ODMs to use chemicals that meet environmental standards, such as Bluesign or ZDHC certifications. These dynamics create numerous opportunities for auxiliary companies to upsell and offer niche products.

Auxiliary companies work closely with textile ODMs, providing technical support, training, and troubleshooting services. The knowledge gained during troubleshooting accumulates over time, creating a significant advantage. Switching auxiliaries would require starting the trial-and-error process all over again. As fabric technology continues to advance, the role of auxiliaries has become increasingly crucial, deepening the involvement of auxiliary companies in the production process.

-Company history

It is clear that a successful auxiliary company must possess deep knowledge of how dyes work, as well as a strong understanding of the supply chain ecosystem. Big Sunshine is well-positioned in both areas.

Big Sunshine is a member of the BSI Group, which was founded in 1988 by Mr. Kun-Mu Chen. The group began by selling wool yarns before pivoting into dyes and auxiliaries manufacturing. They have established various joint ventures with Chinese chemical companies. Core R&D employees were recruited from Nanya Polyester, Everest Textile, and FCFC. BSI Group achieved Bluesign certification in 2010 and ZDHC certification in 2017. Sports brands that have partnered with BSI Group include Nike, Under Armour, Adidas, Li Ning, Anta, 361, Peak, and Qiaodan. Here are links to BSI’s product catalogs for both dyes and auxiliaries.

Being part of the supply chain for top brands (excluding Qiaodan) is a strong indicator of overall quality and cost performance. These brands conduct stringent tests on color fastness to washing, rubbing, perspiration, and light, ensuring that no detail is overlooked. In recent years, brands have increasingly sought alternative chemicals that are free from substances like formaldehyde, PFOS, and PFOA. The fact that BSI Group holds Bluesign and ZDHC certifications demonstrates their ability to provide environmentally friendly solutions to their clients.

In May 2020, the BSI Group completed a reverse merger, integrating Big Sunshine's operations into 1475.TW. The current 1475.TW should be seen as the auxiliary sales arm of the group rather than a full-fledged manufacturer. A typical manufacturer would have substantial production and R&D departments, leading to higher SG&A expenses. In this case, 89% of 1475's purchases are from affiliates. If related-party transactions are not your preference, this might be a good point to look away.

The CEO of 1475.TW, Mr. Kun-Mu Chen, wrote a paper titled “A Case Study of Key Successful Factors and Strategic Development Roadmap in Taiwanese Dyestuff Industry—An Example of JEAN WAN Company” on 2022/01/18 . In which he provides an overview of the BSI group and the dye industry, though there are also some insights about auxiliaries. 

The auxiliary business involves selling comprehensive dyeing and finishing solutions. It requires providing end users with meticulous technical support and training operators. A well-rounded product mix covering pretreatment, dyeing, aftertreatment, and finishing is essential, as well as patience and time to work with employees on the floor. Field service technicians need to be available when needed. Color formulation and color matching are also part of the job.

Sub-scale competitors lack a complete product mix or strong technical support. One formidable player in this space is Longsheng. However, according to Mr. Chen's paper, they have a high churn rate among sales representatives. Employees working in R&D are not well-paid, and top-notch engineers do not stay long. Additionally, the technical support and service are probably not as attentive when the main goal is chasing profit and efficiency. In short, there is white space for BSI to add value. 

-Limited coverage

Listed companies in Taiwan disclose the number of shareholders every week. As of 8/23, only 163 people own 15,000 shares (worth approximately USD 29K). This is a very low number. Reverse mergers do not receive widespread reporting, and there are negative connotations associated with them: why didn't they go through a normal listing process and have everything properly vetted? Also, the Taiwanese investing community is unfamiliar with textile auxiliaries and probably less inclined to research them in depth. The company name "Big Sunshine" does not sound particularly inspiring either. 

These factors contribute to the limited coverage of Big Sunshine. However, through public filings, the aforementioned paper, and product catalogs, there is sufficient evidence suggesting it is a legitimate business.

-Lack of track record

Big Sunshine, in its current form, has only existed since May 2020. Investors will need to accept the lack of track record. There is insufficient evidence to support or disprove that the company will treat shareholders well. However, if they intended to engage in questionable practices, bringing Big Sunshine to the public would defeat the purpose. Three years ago, there was a public offering, issuing 10 million shares at $26.8; at the announcement, the stock price was $35. This does not appear particularly shareholder-friendly or unfriendly. Since the reverse merger, there have been no abnormal increases in sales or management expenses. There is also no unusual capital expenditure. The Taoyuan factory, which they acquired in February this year for NTD 189M, seems legitimate.

-Comp

In June 2019, an auxiliary manufacturer, 1787 Jintex Technology, was taken private by a PE fund at an EV/EBIT of 11.3. Currently, Big Sunshine is traded at a run-rate EV/EBIT of 8.28. As mentioned before, Big Sunshine benefits from not having production and R&D departments, so its earning power is significantly inflated. Yet, Big Sunshine is part of a group with more resources to leverage, while Jintex operates independently. Although not a perfect comparison, it appears that at the current valuation, there is some value in Big Sunshine.

-Conclusion

This idea represents a niche opportunity that is currently flying under the radar. There is potential value in establishing an early position before broader market recognition. However, given its low profile, investors may have the luxury of patience in seeking a more attractive entry point. Importantly, the critical role of textile auxiliaries in the industry appears underappreciated, presenting a potential edge for informed investors.

This is neither a recommendation to purchase or sell any of the shares, securities or other instruments mentioned in this document or referred to; nor can this presentation be treated as professional advice to buy, sell or take a position in any shares, securities or other instruments. The information contained herein is based on the study and research of One Foot Hurdle and are merely the written opinions and ideas of the author, and is as such strictly for educational purposes and/or for study or research only. This information should not and cannot be construed as or relied on and (for all intents and purposes) does not constitute financial, investment or any other form of advice. Any investment involves the taking of substantial risks, including (but not limited to) complete loss of capital. Every investor has different strategies, risk tolerances and time frames. You are advised to perform your own independent checks, research or study; and you should contact a licensed professional before making any investment decisions. The author makes it unequivocally clear that there are no warranties, express or implies, as to the accuracy, completeness, or results obtained from any statement, information and/or data set forth herein. The author, shall in no event be held liable to any party for any direct, indirect, punitive, special, incidental, or consequential damages arising directly or indirectly from the use of any of this material.

Taiwan PCB Techvest is the world’s largest LCD printed circuit board(PCB) manufacturer. Printed circuit board is a USD 80B sector with a CAGR of 3.82% that is an integral part of the electronics industry. The company has been profitable for 21 consecutive years and paying dividends 20 years straight. Trading is available on Interactive Brokers and English filings are available.

-Capitalization

Share price at 2024/5/13: NTD $40.35

Shares outstanding: 271M

Market cap: NTD $10,940M

Enterprise value: NTD $7,176M

Average daily trading volume: NTD $46M

-Key operating numbers

-Comp

-What is a printed circuit board

Taiwan’s PCB industry started in 1969 when a US company Ampex built a factory in Taoyuan. At that time Taiwan had lower labor costs, lax labor rights and environmental awareness. Through advancement in technology and evolution in consumer electronics, PCB throughout the years came up with innovations to conform with various form factors and performance requirements. The edge is no longer purely because of low environmental costs. Now Taiwan(and their subsidiaries in Mainland China) is number one in PCB manufacturing, five out of top ten PCB firms are Taiwanese companies.

Types of PCB:

The sea change that drives the enormous growth of PCB I believe is personal computers in the 90s and iPhone 2 in 2008. In terms of R&D Taiwanese firms are at the forefront. As PCB is a must-have component in every electronic device and given Taiwan’s position in semiconductors, the PCB industry will continue to have a strong footing in the foreseeable future. Prominent PCB manufacturers include Compeq(2313.TW), Tripod(3044.TW), Zhen Ding Tech(4958.TW).

A printed circuit board(PCB) or printed wiring board(PWB) is a board that carries and connects components through its circuit layout. Normally there are several layers (each layer is made of copper clad laminate) in a board as different layers serve different purposes: grounding, power, signal…etc. Small holes(vias) are made to facilitate interconnections between layers.

Do not let the above picture intimidate you. The end goal is to print the circuit onto the board, thus the process is a lot similar to film developing:

-The copper is etched to produce circuit layout.

-Plating and soldermasking are applied to provide insulation/protection to each layer.

-Vias are drilled and plated to make interconnections between the layers.

AOI(stands for automated optical inspection) and testing are for quality control.

The manufacturing process is laborious and has a low margin. Etching and plating use highly corrosive and flammable chemicals, therefore transportation and storage need extra caution; emission, waste treatment, and recycling are closely monitored to ensure the process is operated in compliance with the environmental and labor safety codes.

If investors are looking for a higher value added part of the PCB supply chain I would suggest focusing on manufacturers of drill bits, solvents, resist ink as they are less exposed to the risks. They are high quality consumables, thus one can reasonably assume a predictable buying pattern and more stability. In the case of solvents there is NIMBYism, making it hard for new players to enter the competition, which benefits incumbent firms.

-Company history

Taiwan PCB Techvest was founded in 1998 by HCG(1810.TW), Chih Lien Industrial(2024.TW), and a venture capital firm H&Q Asia Pacific. HCG specializes in bathroom products and Chih Lien is in the steel wire/bar business. They diversified just for the sake of it. In hindsight this is probably less than ideal. For example, the aforementioned Compeq was founded by ex-Ampex engineers. Compeq was able to build on its strong foundations and was awarded iPhone 2’s PCB orders in 2008, catching the enormous growth of PCB. Perhaps Techvest should have more industry veterans initially.

Techvest was off to a bumpy start. Starting by making PCB for notebooks, the factory did not have an ideal arrangement for the assembly lines and the company ran into problems with equipment. The Asian financial crisis was not helping either. From 1998~2001 Techvest was losing money. They did have some break in receiving LCD and mobile orders in 2000~2001 as a secondary source supplier. Then they felt they were sub-scale for notebooks, so they pivoted into LCD in 2003.

Because of the difficulties Techvest was facing then CEO(current chairman) Mr. Zheng-Ming Xu took drastic measures to right the ship. Mr. Xu was in the military for over 10 years and has management experience in Compeq and HannStar Board(5469.TW). From a Business Today article released on 2008/07/17, he has an in-your-face, type-A, aggressive personality and ruled the company with an iron fist. He once fired a sales representative when that rep failed to win a big order from Innolux. He scolded and shamed foremen when defective products came out. Mr. Xu’s behavior appears harsh but it is somewhat common in electronic manufacturing. Foxconn and TSMC were not all about work-life balance either. PCB companies often operate with a demanding schedule, a small delay could result in not making the back-to-school or whatever seasonal window and risking the whole year’s profit.

It is an industry where every bit of efficiency gain needs to be captured. Companies squeeze out profits by streamlining the production lines, improve on yield, minimize downtime, reduce yield loss…so on. They also need to work in tandem with OEM firms, respond to their calls. Not to absolve abusive behaviors but this is why Mr. Xu runs a tight ship.

Also as mentioned before, the production involves the use of highly corrosive and inflammable chemicals, safety is top priority. From time to time catastrophic fire accidents occurred in PCB factories. Memorable one included Chin Poon’s(2355.TW) accident back in 2018. That fire lasted over 40 hours and claimed eight souls, truly heartbreaking. Likely due to Techvest’s tight management, fire accidents are limited, with only two minor incidents occurred in 2008, two in 2016 and zero casualty.

-Product Mix

The product mix is 50% PCB for TFT LCD and 30% for notebooks. Their customers for display include Samsung, AU Optic, Innolux, LG, BOE. Customers for notebooks include Quanta, Compal, Pegatron, Dell. In 2022 the largest customer was Dell, contributing 11.56% of revenue. Second largest is Quanta at 10.72%.

According to a market research report by Global Information on TFT LCD Panel, the panel market’s CAGR from 2024 to 2032 is 4.1%. Though lacking the excitement and form-factor of OLED, LCD has the benefit of offering exceptional cost-performance, as most of manufacturers’ machinery are fully depreciated. I expect LCD will continue to have a place in consumer electronics, as I mentioned in my 4935.TW write-up.

-Significant shareholders

This is potentially interesting. Board of directors(11.77%), institutional investors(8.75%), management(0.84%) all together own 21.36%. This is not a high number.

One founder is still on the board but it only owns 2.69%. The chairman Mr. Xu and his two sons are on the board too but together they only own 7.05%. Mr. Xu is 71 years old. It appears that the path of getting bought out could be possible. M&A is common in PCB as synergies can be achieved with a bigger scale, such as purchasing. Techvest’s near NTD $20B revenue is significant, Zhen Ding Tech(4958.TW) is the world’s largest player in this space, yet Techvest’s revenue is 12.5% of Zhen Ding’s. Out of 53 listed PCB firms in Taiwan Techvest’s revenue ranked number 13.

-Capital allocation

This is the part where the company can improve. The company currently has NTD $37.6B in net cash. However, that is made up of $109B in cash and $71.6B of debt. That is wasting money on interest expense.

Techvest is generally shareholder friendly. From 2014 to 2023 shares outstanding remain at 271 million, so at least shareholder interest is not diluted. Payout ratio is a decent 50.1% over ten years. One thing to note, in 2019 and 2021 Techvest sold their factories and had one-time gains, the company increased payout ratio in both years. It appears that they are at least reasonably shareholder friendly.

-Annual Reports

I feel like this is a great opportunity to show you how to use TWSE’s website to read the filings. Techvest’s website is too amateurish. Go to https://emops.twse.com.tw/server-java/t58query . The sixth button from the left is “Electronic Books“, when your mouse hover over that you can click “Shareholders’ meetings“. Enter 8213 and the year to read the annual reports.

-Conclusion

With an EV/EBT under four, there is tremendous value here. It has a robust history of profitability and treating the shareholders fair. Liquidity is healthy too. A portfolio of such companies should provide good performance over time.

This is neither a recommendation to purchase or sell any of the shares, securities or other instruments mentioned in this document or referred to; nor can this presentation be treated as professional advice to buy, sell or take a position in any shares, securities or other instruments. The information contained herein is based on the study and research of One Foot Hurdle and are merely the written opinions and ideas of the author, and is as such strictly for educational purposes and/or for study or research only. This information should not and cannot be construed as or relied on and (for all intents and purposes) does not constitute financial, investment or any other form of advice. Any investment involves the taking of substantial risks, including (but not limited to) complete loss of capital. Every investor has different strategies, risk tolerances and time frames. You are advised to perform your own independent checks, research or study; and you should contact a licensed professional before making any investment decisions. The author makes it unequivocally clear that there are no warranties, express or implies, as to the accuracy, completeness, or results obtained from any statement, information and/or data set forth herein. The author, shall in no event be held liable to any party for any direct, indirect, punitive, special, incidental, or consequential damages arising directly or indirectly from the use of any of this material.

6807 FY Group is a couch ODM with IKEA as its largest customer(over 80% of sales in 2022). It was listed in April 2022. It is now trading at an EV/EBIT of 3.71 with a dividend yield of 6.28%, near an all time high. Right off the bat there are plenty of signs people do not like: a manufacturer, a concentrated customer with strong bargaining power, newly listed, trading at all time high. However, it is profitable six years in a row, has a healthy balance sheet, and I believe there is an effective catalyst that is working in favor of the company.  FY Group is tradable on interactive brokers and English filings are available.

Capitalization

Share price at 2024/04/01: $41.4

Shares outstanding: 54M

Market cap: TWD $2,236M

Enterprise value: TWD $ 1,106M

Average daily trading volume: TWD $4.9M

Key operating numbers

The catalyst

One of my favorite company disclosures in the Taiwan market is the number of shareholders. This number is updated weekly. From 9/22 to 3/22 the number of shareholders dropped from 1,515 to 1,298, a 14% decline. It is a positive sign, as it normally means two things: 1. Retail investors gave up and there will be less selling pressure going forward 2. Shrewd investors quietly collect shares from disinterested holders. Either development is positive. Coupled with the fact FY Group has a solid record so far I think it is worth some attention.

Company background

Located in Jiaxing, Zhejiang Province, FY Group specializes in couch ODM. Jiaxing is about 150 km away from Anji County, which is China's biggest manufacturing base for desk chairs. There are common parts between desk chairs and couches hence FY Group enjoys a cluster effect: access to skilled workers and is able to purchase metal parts(coils, springs, hinges ...etc) and timbers at low cost.  

The company started to work with IKEA in 1997 and has built a trusted relationship with it. Even though IKEA's products are often ridiculed for their quality, this is not the case with couches.

For example, FY Group has produced two IKEA product lines: Friheten and Ektorp. If you click on "EKTORP, 3-seat sofa with chaise longue, hallarp grey, 252x88x88 cm" it has some stringent specifications:

-The cover is removable and can be machine washed.
-The cover can resist abrasion and has been tested to handle 15,000 cycles.
-10 year guarantee.

To achieve such a performance requirement is not easy. IKEA also emphasizes heavily on ESG, it has high standards on labor benefits, working environment, emission restriction, VOC requirements...etc. A couch is made up of coils, springs, webbing, padding, a frame, covering, and lots of man hours for upholstery crafts. To comply with the ESG standards is hard. FY Group's employees can only work 60 hours a week yet other companies can ask their workers to do 90 hours. Constant scrutiny from IKEA is a burden but at the same time after many years of compliance FY Group now has good structures and ethical practices. It is in a better shape to take orders from other reputable multinational companies. Recent years they have started working with Nitori, Costco, William-Sonoma. For example, they have only had Costco as a direct account since 2020, before that they conducted business through an agent. If they continue with robust operation more orders are going to come.

Competitive advantage

This is not a company with a strong moat. However there are some unique capabilities that are worth noting.

A long-term supplier-customer relationship is valuable and people often overlook it. Suppliers can improve design, reduce cost, improve quality, and shorten the lead time. This requires a deep integration between two companies. The customer no longer sees the supplier as someone to take advantage from. Currently FY Group provides more than 50% of IKEA stores in Asia, and the lead time is 30 days. FY Group is able to deliver to each IKEA store to lessen its logistic pressure. Perhaps not a moat but it is an important quality nevertheless. 

FY Group employs a team of 100 people working on R&D of sofa foam. One goal is to improve the comfort of the cushion, another goal is to reduce the size so they can place more couches in a container and stretch out the shipping cost. Small initiatives like that help the company squeeze out extra profits.

Competition

FY Group has two main competitors. Henglin(603661:SHA) and UE Furniture(603600:SHA) . Both are based in the aforementioned Anji County and both have IKEA as its customer. 

Henglin is a little bit all over the place. In 2022 37.7% of revenue is desk chairs, 24.6% in panel-type furniture, 13.1% in office furniture. Only 15.5% is couches. And 43% of total revenue is from its own brand so it’s interest go directly against its ODM customers. I do not think Henglin is a big threat in terms of couch ODM. In 2022 it acquired a SPC flooring company, making couch ODM further less of a focus. 

UE Furniture competes more directly with FY Group. In 2022 68.8% of revenue is in desk chairs and 20.3% is in couches. Its couch business segment shows it has a lower margin as well as a lower revenue than FY Group. 

According to the Centre for Industrial Studies the upholstered furniture consumption in 2021 is $USD 8.1B. There is room for all three players to grow. FY Group appears to be in a decent position and reaping the benefit of being close to Henglin and UE Furniture, enjoying the cluster effect.  

Conclusion

This is a simple idea with a good catalyst. A cheap valuation: EV/EBIT of 3.71 with a dividend yield of 6.28% and the catalyst seems likely to move things faster. It is a one foot hurdle that is worth a look.

This is neither a recommendation to purchase or sell any of the shares, securities or other instruments mentioned in this document or referred to; nor can this presentation be treated as professional advice to buy, sell or take a position in any shares, securities or other instruments. The information contained herein is based on the study and research of One Foot Hurdle and are merely the written opinions and ideas of the author, and is as such strictly for educational purposes and/or for study or research only. This information should not and cannot be construed as or relied on and (for all intents and purposes) does not constitute financial, investment or any other form of advice. Any investment involves the taking of substantial risks, including (but not limited to) complete loss of capital. Every investor has different strategies, risk tolerances and time frames. You are advised to perform your own independent checks, research or study; and you should contact a licensed professional before making any investment decisions. The author makes it unequivocally clear that there are no warranties, express or implies, as to the accuracy, completeness, or results obtained from any statement, information and/or data set forth herein. The author, shall in no event be held liable to any party for any direct, indirect, punitive, special, incidental, or consequential damages arising directly or indirectly from the use of any of this material.

Nissin Foods(1475:HK) is a subsidiary of Nissin Foods Holdings(2897:TYO) that is trading near a 52-week low albeit displaying strong fundamentals. Net income from 2014 to 2022 grew at a CAGR of 9.2% yet the EV/EBIT is just under 8. The valuation is simply too silly. Nissin Foods also appears to have decent growth space. If someone is willing to stomach ugly headlines and turbulence, I believe it is going to provide good performance.

Capitalization

Share price at 2024/03/15: $4.86

Shares outstanding: 1,044M

Market cap: HKD $5,072M

Enterprise value: HKD $3,648M

Average daily trading volume: HKD $2.2M

Key operating numbers

Company background

Nissin Foods manufactures and sells instant noodles and has a small distribution business distributing Ready-To-Drink juices, coffee, and cookies. Nissin Foods Holdings(2897:TYO) owns 72.05% of Nissin Foods(1475:HK) and this relationship provides 1475:HK a unique opportunity to access valuable resources that are not available to other competitors.

2897:TYO is one of the world's largest instant noodle makers. In the post war era in the 50s the founder Mr. Momofuku Ando discovered that, by deep-frying, noodles' shelf life can be significantly extended and the market had a huge need. He founded the company in 1948, innovated the world's first bag-type instant noodles in 1958 and the world's first cup noodle in 1971. Instant noodles, albeit now often criticized for its high sodium, high carb content, met a need of many consumers as it is cheap, convenient, easy to carry. 2897:TYO has had remarkable growth since the introduction of instant noodles.

Through an innovative mindset and competent stewardship Nissin was able to expand globally into the US, Brazil, India, Germany, Thailand, China, the Philippines, Mexico, and built a strong brand and loyal following. One thing worth noting is that Mr. Momofuku Ando in the 50s found a credit union(信用组合) in Osaka but it bankrupted in 1957 and he lost all of his wealth. Since then he became skeptical about banks and issuing bonds, preferred retained earnings and issuing shares as sources of funding. As a result even today 1475:HK has no debt and lots of cash on the balance sheet.

Nissin entered Hong Kong in 1985, acquired local favorite Winner Food(who is known for 公仔麵, "Doll Noodles") in 1989 and that strengthened its market position. They set foot in Zhuhai, Guangdong Province, in 1993 and Shanghai in 1999. Currently Nissin is number six in mainland China with a market share of 2.8%. One important thing to add is that from 2004 to 2015 Nissin was a key shareholder in Jinmailang(No. 2 in market position in 2021 with a market share of 12.5%). Nissin had a front-row seat witnessing the tremendous development of Jinmailang and accumulated valuable market experience.

In 2022 the world consumed 121.2 billion servings of instant noodles(source:WINA), and China is the largest market, with 45.07 billion servings(2.87% CAGR in 2018~2022), in value the Chinese market is about ¥CNY 146B in 2022(source: iiMedia).

Resource from the parent company

One advantage is the scale in purchasing. In the prospectus that Nissin Foods filed in 2017 it states that the products made up 65.7% of COGS. Wheat flour is 11.9%, palm oil is 5.1%, seasoning is 10.2%, packaging is 13.2%, and dehydrated vegetables/meats is 25%. The parent company has a revenue of JPY 669.248B(includes China) in fiscal year 2023, excluding China the revenue is still over 20 times of 1475:HK. 1475:HK can leverage the parent company's buying power to drive the cost down and maintain competitive prices.

Secondly, Nissin is known for its wide range of products. Many products originated from Japan then added a little twist to suit the local market. Although instant noodles are never considered as healthy foods, Nissin in its long history has attempted to introduce healthier alternatives, such as cup noodles that have less sodium, less carbs, and more protein. There is one that is made without deep frying, so fat is considerably reduced. There is also a gamer cup noodle where caffeine and arginine are added for extra energy. The parent company is ahead of the curve, constantly launching products that fit consumers' lifestyle and 1475:HKG can tap into this pool and bring them over to China.

Growth opportunity and noodle consumption

Noodles in China are widely popular. The fact they are made from dough of various grain flours and can be cut/rolled/stretched, creates many forms and texture of noodles. Each region has its own touch and cooking technique and this makes noodles a very versatile cuisine.

Obviously I am not suggesting that all the noodle cuisines can be replicated in instant noodle form but there is room for creativity. Instant noodles are more like snacks. For ¥3 to ¥4 a serving it is an economical, filling option that people are willing to consume when they are on trains, in airports, in tourist attractions where they do not want to get ripped off by local restaurants...etc. For this reason I believe even under the threat of app-based food delivery, instant noodles will still have a place.

So far Nissin Foods' headquarters is in Shanghai, with three factories in Guangdong, Fujian, and Zhejiang. Yet the main noodle markets are the northern provinces and all major players have a serious presence in the North. Tingyi's headquarters is in Tianjin. Jinmailang is based in Hebei. Baixiang is in Henan. Uni-President has production lines in most of the northern provinces(Heilongjiang, Liaoning, Tianjin, Shandong, and Henan). It is not hard to imagine if Nissin Foods decides to make a stronger presence in the North it can create growth.

Competition

The instant noodle market is competitive. Originally from Taiwan, Tingyi(322:HK) is the number one player in this space. Its 2022 revenue is ¥RMB 78.7B with instant noodles contributing 29.6B. Aside from instant noodles, it has a strong Ready-to-drink portfolio including bottled water, black tea, green tea. It has the distribution rights(until 2050) of Pepsi so it also carries Pepsi, 7-Up, Starbucks RTD coffee...etc and sells them through its extensive network. The product portfolio is complete and robust. Tingyi's reach is truly remarkable and I have them in my portfolio. Jinmailang's 2023 revenue is over RMB 20B and it has bottled water too. Also originally from Taiwan, Uni-president's 2022 revenue is RMB 28.3B with instant noodles made up of 11B. It has a strong RTD portfolio including green tea, iced tea, milk tea, juices.

This chart is not perfect but it is still useful. Uni-President(220:HK) 2020 and beyond put instant noodles in a category under food, but it is still mostly instant noodle. Nissin’s numbers include its distribution business, and to convert to RMB I divided the numbers by 1.16, not very precise.

Out of the above Tingyi and Uni-president are listed. Tingyi and Jinmailang are known for more salty and spicy noodles and have a following in second or third tier cities. Uni-president(especially the 湯達人 product, "Master of Broth" ) and Nissin Foods are more mild and subtle. "Master of Broth" is something special - it is rich, has multiple levels of flavor, yet the fat is removed so it is not too heavy. That is probably where instant noodles are heading - more flavor but less calories.

As you can see from the chart, Tingyi and Uni-President have mixed results between 2018~2022. There are many reasons but running businesses during Covid in China is a gauntlet. Disruptions in production/logistic/distribution, stores closed, violent fluctuation in raw material prices...etc. are all common. At the same time Nissin Foods was steadily gaining ground. It mentioned in the 2021 annual report the cup noodles had strong growth and spicy pork bone (tonkotsu) soup flavor drew rave reviews. That popularity translated well into the bottom lines.

Risk

Anti-Japanese sentiment

Apart from instant noodles being unhealthy and under the threat of food delivery, one major risk is the Anti-Japanese sentiment.

There are some Anti-Japanese sentiment in Korea too but the movement in China is on another level. The peak was last August when Fukushima Daiichi Nuclear Power Plant started to discharge water. It is hard to explain why such sentiment is prevalent but I will attempt to give you some color. I used to live in China for four years. From my experience, Chinese social apps are heavily censored. Any sensitive comment will be banned/deleted immediately. For Anti-Japanese sentiment to permeate to some degree is because the CCP let it happen. For what gain it is hard to say.

Unfortunately there is no work around of this issue. Anti-Japanese or xenophobia is part of doing business in China. Tingyi and Uni-President are facing the same issue as well, being Taiwanese. One hopes management's prudent, patient, long-term focused stewardship and wisdom accumulated through the group's history can help the company weather the storms and excel over time.

Hong Kong Stock Market

Hong Kong did poorly in recent years. There are many reasons: 1. Hong Kong is a Special Administrative Region, the jurisdiction does not extend to the mainland. Also there are no class action suits, there are no effective ways to punish bad actors from China. 2. Weak Chinese macro. 3. Decoupling 4. Defaults from major property developers. The biggest reason in my opinion is the lack of corporate governance. This has been lingering for an excruciating period of time, SFC and the exchange accomplished very little. Under the decoupling backdrop the international funds finally had enough and started pulling from the market from late 2022 and onwards.

I caution people who are considering entering into this market. I personally have a position that went over 100+% and I feel it is a good time to sell some and put in Nissin Foods, which is around a 52-week low. If you currently do not have any Hong Kong exposure, I suggest you to think twice. And if you do, put a cap over it and do not add to it.

Conclusion

Once again at EV/EBIT less than 8 you get a great chance to invest in a reputable brand for a cheap valuation operating in a market with an enormous addressable market. The company is reasonably shareholder friendly, from 2018 and onwards the payout ratio is at least 50% and there is a meaningful buyback in 2021. Current valuation is very attractive. I am comfortable putting it into my portfolio.

This is neither a recommendation to purchase or sell any of the shares, securities or other instruments mentioned in this document or referred to; nor can this presentation be treated as professional advice to buy, sell or take a position in any shares, securities or other instruments. The information contained herein is based on the study and research of One Foot Hurdle and are merely the written opinions and ideas of the author, and is as such strictly for educational purposes and/or for study or research only. This information should not and cannot be construed as or relied on and (for all intents and purposes) does not constitute financial, investment or any other form of advice. Any investment involves the taking of substantial risks, including (but not limited to) complete loss of capital. Every investor has different strategies, risk tolerances and time frames. You are advised to perform your own independent checks, research or study; and you should contact a licensed professional before making any investment decisions. The author makes it unequivocally clear that there are no warranties, express or implies, as to the accuracy, completeness, or results obtained from any statement, information and/or data set forth herein. The author, shall in no event be held liable to any party for any direct, indirect, punitive, special, incidental, or consequential damages arising directly or indirectly from the use of any of this material.

Basso is a ODM/OEM of power tools such as nail guns and impact wrenchs trading at an absurd valuation. It is profitable since 1998 and is paying dividends 12 years in a row, 22 out of last 23 years. Deep value in Asia many times don't work but this time it might be different. The company for many years stubbornly sticked to an idiosyncratic and ineffective capital allocation decision but finally corrected such mistake in 2019. That and Basso's long-term earning power should deserve a richer valuation. It is tradable on Interactive Brokers and English filings are available.

Capitalization

Share price at 2024/3/4: $41

Shares outstanding: 138.6M

Market cap: NTD $5,681M

Enterprise value: NTD $2,399M

Average daily trading volume: NTD $8.8M

Key operating numbers

Main risk - too much money

I want to inform you right away on why it is so cheap to save you time. Basso from 2005 to 2019 had an atrocious capital allocation policy though not with malicious intentions. Previous chairman was obsessed with US-denominated bonds, so in 2019 Q3 and prior there were some crazy maneuvers - at a point they borrowed more than $NTD 9B and invested in $NTD 3B worth of US bonds. Obviously this is not ideal, thus for many years institutional investors tried to talk management out of it. Finally the elder son of the founder took over the CEO in 2018 and unwinded all the borrowing in the 4th quarter of 2019. Now Basso only has the excess cash problem, in the latest financial statement(2023 Q3) there is $NTD 3.3B worth of cash and deposit on the balance sheet without significant borrowing.

Remember I mentioned 22 out of the last 23 years the company paid a dividend? The year they did not pay is the year they messed up royally with investments.

2005 to 2019 is a long time and one can reasonably assume too much effort was spent on investing decisions that yield poor results. Gain and loss in foreign exchange, fair value change in bonds, interest income and expense caused wild swings every year and affected the bottom line. Fortunately new management(the founder’s son, who has worked in the company for various positions since 2000) in 2019 determined to unwind the massive borrowing. The previous chairman also passed away in 2021. Hence I believe Basso will stick to a simpler balance sheet structure and have less distractions.

If you stripped out all the nonsense the core operating profit is quite resilient. The company has been profitable since 1998. As long as Basso stays rational I believe it is a matter of time for investors to refocus on the company’s core business and gain confidence back.

What is a nail gun?

Nail guns are versatile tools mainly used in construction. Roofers, carpenters, builders, subcontractors are the end users. Type of nail guns applied depends on the usage. For upholstery and crafts staple/palm nailers are used. For furnitures, cabinetry and picture framing pin/brad nailers are used. Hardwood flooring/deck building/roofing shingles use more heavy-duty nailers. 

Basso's main product lines are pneumatic nailers. With pneumatic nailers a cord and a compressor are needed. The trend is slowly moving towards lithium-power, cordless, electric nailers where a compressor is no longer needed. However by no means electric is a perfect substitute of pneumatic, for many reasons: 

1. Pneumatic can handle hardwood such as Mahogany and Oak. 

2. Lighter(no battery), last longer(no need to recharge/cooldown), cheaper(often just 1/3 of electric's cost).

3. Faster firing rate.

4. Simpler design, longer product life.

Nailers are highly correlated to US housing starts as roofs/lumbers/fences/decks/walls/flooring/doors/windows all required nailers to work on. Depending on applications, there are a variety of nailers. This requires a high-mix, low-volume production process where Basso excels. Many OEMs turn away from that because it is hard to scale. The ability to offer full product lines to OEM customers is a strength. Lastly, pneumatic nailers are operating at high speed, quality and safety cannot be compromised, otherwise sharp metal parts can fly out and injure users. This quality requirement gives Basso some barriers of entry.

Company background

The demand for hand tools and power tools began with Taiwan's shipping breaking industry in the 1970s and 80s. Shipping breaking refers to the removal of ship parts so the scraps can be recycled into steel. Basso was founded by Mr. Lai and his brother-in-law in 1983. Basso is based in Taichung, as I have mentioned in my Topkey post Taichung is well-developed in machine tooling and metalworking. The company was able to leverage this manufacturing capability and set up downstream contractors and focused more on R&D and assembly.

Basso was able to win an OEM contract from Campell Hausfeld for nail guns and were awarded "Partners in quality" in 1993. In 1995 Basso was the first Taiwanese hand tool OEM to introduce Quality Management System in design, R&D, assembly, and service. It enables it to receive orders from Sears and Porter Cable. In 1997 Porter Cable achieved number 1 market share in US with Basso's backing. 

The know-how in nail guns allowed the company to expand into automotive repair air tools(such as impact wrenches and the likes) in 2004 to diversify away from nail guns. 

From the first nine months of 2023 Basso's product mix is 46% in pneumatic nailers, 20% in automotive air tools, 13% in bicycle parts. By geography 40% of revenue is in the Americas, 33% in Europe, 27% in Asia and others. One thing to note: Basso does not have a single customer that is over 10% of revenue. This shows it did a good job in diversifying the customer base and should be able to maintain some bargaining power and gross margin. Basso's customers included Techtronic, Stanley Black & Decker, Home Depot.

Shareholders

Current Chairman and CEO are the founder's sons. They are in their mid-40s and have worked in the company for over twenty years. They, their spouses, mother, relatives all together own 16.23%. The company is paying dividends 12 years in a row and canceled shares in 2008~2010, 2012, 2015. Since its IPO in 1999 the company has not asked for capital raises. I believe Lai Family's interest is aligned with the rest of shareholders and returning cash to shareholders is likely. It also appears that they got burnt poorly from the bond investing mess and have since learnt a lesson.

Conclusion

This is a short write-up and it is not a compounder. However I believe in repeatable, simple, incremental wins and Basso is more in this camp.  A basket of such stocks should provide a decent performance over time.

This is neither a recommendation to purchase or sell any of the shares, securities or other instruments mentioned in this document or referred to; nor can this presentation be treated as professional advice to buy, sell or take a position in any shares, securities or other instruments. The information contained herein is based on the study and research of One Foot Hurdle and are merely the written opinions and ideas of the author, and is as such strictly for educational purposes and/or for study or research only. This information should not and cannot be construed as or relied on and (for all intents and purposes) does not constitute financial, investment or any other form of advice. Any investment involves the taking of substantial risks, including (but not limited to) complete loss of capital. Every investor has different strategies, risk tolerances and time frames. You are advised to perform your own independent checks, research or study; and you should contact a licensed professional before making any investment decisions. The author makes it unequivocally clear that there are no warranties, express or implies, as to the accuracy, completeness, or results obtained from any statement, information and/or data set forth herein. The author, shall in no event be held liable to any party for any direct, indirect, punitive, special, incidental, or consequential damages arising directly or indirectly from the use of any of this material.

Lumax is a distributor of process control components with esteemed clientele and long operating history. It is profitable for 25 consecutive years and paying dividends 22 years straight. In recent years the company enjoys improving margins and bottom line. There is an ongoing gigantic overhaul on the nation’s electrical grid and Lumax is set to benefit from it. Investors receive this optionality without paying extra. Its stable earning power and current valuation should provide a high floor. English filings are available and the stock is tradable on Interactive Brokers.

-Capitalization

Share price at 2024/2/21: 92.5

Shares outstanding: 96.16M

Market cap: NTD $8,894M

Enterprise value: NTD $5,488M

Average daily trading volume: NTD $10M

-Key operating numbers

-Company history

Lumax was founded in 1975 by four engineers who were classmates at National Cheng Kung University. They received their big break in 1987, a $USD 15 million process control project for Yongan LNG Terminal owned by CPC Corporation. Throughout the years Lumax customer base grew and now includes TSMC, Delta Electronics, Taiwan Power, Formosa Plastics Group. Chinese customers include CNPC and Sinopec.

-Distributor

Distributors have a wonderful business model. The value they created to suppliers include:

-Finding new customers  

-Reducing credit risks and friction, managing payment

-Cutting lead time and managing inventory, warehouse, and logistics

-Identifying new needs and applications

-Being closer to end users, providing support, training, installation, and after-sale service Collecting feedback

-Sales and marketing strategies

Process control requires high-touch service, hence the role of a distributor is even more significant. Its service is integrated in end users’ routines, enabling opportunities of offering higher value-added service.

-What is process control

Process control refers to the regulation and control of industrial processes to ensure the system runs effectively, smoothly, and within specified parameters(emission control, energy efficiency…etc). It is perhaps better to use an example of a coal-fired station:

Burning coal creates thermal energy. It heats the boiler and produces steam. Steam then drives the stream turbine and creates work. This work generates electricity. A condenser is installed to cool down the stream to recycle back to the boiler.

During that process temperature, pressure, flow of the steam need to be monitored and controlled. This is where process control comes in. Similar processes occurred in refineries, chemical plants, waste/water treatment plants...etc as well. Gauges, meters, level controllers, switches and valves are in place to control steam and liquid and that is what Lumax is offering. Through time there are high end devices such as gas analyzers so emission can be recorded and reported to EPA in real time. Or like a monitoring system to detect abnormal vibrations from generators, pumps, and compressors. Lumax’s suppliers include Yarway/Emerson (level controllers), ASCO/Schneider(solenoid valves), Panametrics/Baker Hughes(ultrasonic flow meters), Pentair (valves) with Emerson being the largest supplier with 37% of net purchase.

Such equipment requires high-touch service like installation, testing, and training from Lumax. Customized softwares are built for data gathering and analyzing. For Emerson, GE, ABB, Honeywell to skip over Lumax to serve end users directly there will be a lot of hassles. They need to re-learn all of the end users’ setups, layout, overhaul/tune up/annual maintenance schedules and the intricacies issues like government purchase policies and procedures. End users will face disruptions and bear severe consequences. Switching costs are enormous. It is likely not worth it for the brands to do so.

-Why is this cheap

Given the nature of distributors and the fact they are distributing a fair bit of MRO consumables, the valuation is absurdly cheap. I believe there are three reasons:

1. Its awkward classification 

      In Taipei Exchange Lumax is listed under the subgroup “other electronics”. It is an awkward classification, analysts covering electronics and semiconductors all of sudden need to learn about grid and power infrastructure. A more appropriate subgroup should be “electric machinery” like Chung-Hsin Electric & Machinery (1513:TW) and Shihlin Electric (1503:TW).

2. 40% revenue is in China

      Lumax has Emerson’s distribution rights in North China(Beijing, Tianjin, Hebei, Shanxi and Inner Mongolia) and Northeast China(Liaoning, Jilin, and Heilongjiang). Though Lumax sells to state-owned enterprises, North China’s economy is mediocre and Northeast is the absolute worst. Northeast is known for corruption, bureaucracy and generally unfavorable to businesses. Considerable number of graduates and competent workers are fed up and move to other provinces for work. The market could be concerned about Lumax account receivables quality.

3. Massive blackout on 2017/8/15

     On 2017/8/15 a massive blackout hit the northern half of Taiwan and affected 5.92 million households. Taiwan Power and Lumax pointed fingers at each other for the operator’s mistake. Taiwan Power ended up suspending Lumax from bidding for one year and sued them for $TWD 358M. The court then lowered the compensation for negligence to a mere $NTD 4.35M and Lumax paid it in the fourth quarter of 2021. 

    However the root of the problem is because of Taiwan’s outdated and fragile grid, Lumax was more likely a scapegoat. Since 2017 Taiwan Power had three other incidents of blackouts:

2021/5/13, affected 4.62M households

2021/5/17, affected 1M households

2022/3/3,   affected 5.49M households

One thing to note, even during the 17-18 suspension Lumax still had decent numbers.

-Sizeable grid budget in near future

Vulnerable grid is certainly alarming. Current power infrastructure has a multitude of challenges and the government is setting many goals to fix that. As you might know already, advanced nodes in foundry using extreme ultraviolet lithography consumes a lot of electricity. The economy needs a larger power capacity. The government also wants to overhaul the grid to be smarter, more flexible and resilient to minimize blackouts. There is a global trend to reduce carbon emission and incorporate a larger portion of renewable energy, which Taiwan is mainly banking on wind. In a more short-term outlook there are some more achievable projects such as turning coal-fired/petrol-fired stations into natural gas-fired. They will still produce carbon footprints but at least the emission is lower. As a result Taiwan Power’s capex ballooned in the past few years and is expected to continue to grow in the near future:

Of course not all the budget will be spent on power generation, a meaningful portion is on transmission and distribution. The market has already reacted and Chung-Hsin Electric & Machinery (1513:TW) and Shihlin Electric (1503:TW) have good performance over past 3 years:

I believe Lumax will be a beneficiary too and its contract liabilities is showing that, with a CAGR of 21% in the past 8 quarters:

One thing to note contract liabilities is what customers paid in advance. The company has an obligation to fulfill these orders. So a big jump in contract liabilities is generally a good sign - signifies a strong bargaining power and healthy orders.

-Shareholder base

The founders are in their 70s and they are still on the board and in management. Age is a concern but keep in mind distributors have a robust business model and a reasonably competent management should be able to handle it. The daughter of one founder is in the management. Collectively the founders and their family own about 21% of the company. Fubon Life owns 6.47%. Two Fidelity funds(Small-mid Cap and Low-Priced Stock) own 7.01%. Virtus KAR Global Small Cap Fund owns 3.09%. The shareholder base is diverse with decent institute investor presence.

-Conclusion

The business model alone should be worth a higher multiple. Coupled with its net cash position, long profitable history and the prospect of earning big orders from Taiwan Power, current price appears to offer an excellent risk-reward. At worst the borrowing rate now is about 2.3~3% and the dividend yield seems to be able to cover it and more. If the company decides to do another return of capital this will also create extra return.

This is neither a recommendation to purchase or sell any of the shares, securities or other instruments mentioned in this document or referred to; nor can this presentation be treated as professional advice to buy, sell or take a position in any shares, securities or other instruments. The information contained herein is based on the study and research of One Foot Hurdle and are merely the written opinions and ideas of the author, and is as such strictly for educational purposes and/or for study or research only. This information should not and cannot be construed as or relied on and (for all intents and purposes) does not constitute financial, investment or any other form of advice. Any investment involves the taking of substantial risks, including (but not limited to) complete loss of capital. Every investor has different strategies, risk tolerances and time frames. You are advised to perform your own independent checks, research or study; and you should contact a licensed professional before making any investment decisions. The author makes it unequivocally clear that there are no warranties, express or implies, as to the accuracy, completeness, or results obtained from any statement, information and/or data set forth herein. The author, shall in no event be held liable to any party for any direct, indirect, punitive, special, incidental, or consequential damages arising directly or indirectly from the use of any of this material.

Topkey is an innovative Carbon Fiber Reinforced Polymers manufacturer with high margin and diverse product lines. Founded in 1980 the company was able to grow organically by consistently delivering high performance products over time. It is profitable for 15 consecutive years and is paying dividends 12 years straight. Trading is available on Interactive Brokers and English filings are available.

-Capitalization

Share price at 2024/2/15: NTD $182

Shares outstanding: 90.82M

Market cap: NTD $16,529M

Enterprise value: NTD $13,378M

Average daily trading volume: NTD $27M

-Key operating numbers

-Company history

The main founder Mr. Shen used to work for a tennis racquet ODM/OEM company Kennex in the 1970s, where he learned the ins and outs of carbon fiber molding. Right after he left Kennex in 1979 his acquaintance from Dunlop Slazenger asked him to fulfill a sizable order of tennis racquets. Topkey was then founded with three other friends and Mr. Shen was able to win over Wilson in 1986 and Prince in 1988 for racquet ODM/OEM contracts. Product lines then were expanded into motorcycle/bicycle helmets in the 90s. Situated in Taichung allowed the company to be exposed to a well-developed bicycle industry. Topkey came up with a carbon fiber frame prototype in 1994 and subsequently set foot in manufacturing bicycle parts. In 1995 Topkey was able to acquire Northwestern Technology Plastics, a supplier of McDonnell Douglas, making an entry in aerospace and is now producing passenger seats for aircrafts.

-What is a CFRP?

Carbon fiber reinforced polymers(CFRP) are lightweight, strong, rigid, can tolerate high temperature and corrosion, and have a long fatigue life, hence they have a variety of applications. It is made of carbon fiber and resin. The process of carbon fiber molding is as follows:

- fibers are only strong longwise, they need to be weaved with certain patterns into a sheet to be strong lengthwise too

- carbon fiber sheets are spreaded into a mold, resin is then filled/coated. This step is repeated for several layers.

- the mold is vacuum bagged to draw out air bubbles, then put it into an oven for curing.

- few more layers of resin are applied

- polished the surface for final touch

The process is time-consuming and labor intensive. Sheets need to fit the edge of the mold evenly and resin needs to be coated evenly. If the curvature is tricky it adds complexity. Some workpieces such as bicycle frames/forks/handles/chain wheels/sprockets/wheelsets required a steep learning curve. One bike typically requires over 200 parts, though not every part is made of carbon fiber, this still calls for a substantial number of molds. Mold building is time-consuming and expensive. For a competitor to jump in and start making CFRP parts it is prohibitively costly. Years of mold build-ups and process experience provides Topkey a healthy head start. Though one good news is that due to efficiency gain, the number of labor has steadily decreased. In 2013 the total number of workers was over 8,000, in 2023 that number is 6,361 yet the revenue is 50% higher.

-Resin, a trade secret

Each CFRP product has its own requirement, formulation for resin is key to achieve that specific performance. For example, a motorcycle helmet needs to be rigid but not too rigid so it can disperse the impact on the blow to the rider's head if he/she falls. Chemists tweak the formulation for the helmet to perform to its intended purpose. Ditto for other products. In 2006 Topkey worked with Babolat to develop the Cortex System. It is said to be able to filter out unwanted vibrations for a better feel/touch. Damped vibrations also reduce risks of arm and wrist injury. Enthusiasts are willing to pay up for a racquet with fine touch and faster speed or a more lightweight helmet.

The formulation process initially is full of trial and error. It is a trade secret that cannot be acquired easily. Working with other competent chemists/engineers, Mr. Shen was able to leverage his degree in Chemical Engineering at National Taipei University of Technology as well as his prior experience at Kennex to build design wins in the company's early years. One thing to note, the current president of the company is the daughter of Mr. Shen and has a bachelor degree in material science and a master degree in physics from Imperial College of London. They are serious in R&D commitment.

-Product mix and end market

Product mix is as follows:

1. Bicycle parts 54%, Specialized is the biggest customer, contributed to 22% of 2023 revenue. Other customers include Merida, Cannonale.

2. Helmets 18%. Customers included Mizuno, Sumitomo, AGV. Valentino Rossi’s helmets were manufactured by Topkey.

3. Racquets 12%. Customers included Wilson, Babolat, Prince. Rafael Nadal, Iga Swiatek, Daniil Medvedev are some of the users.

4. Medical & aerospace 7%. Customers included GE, Philips, Siemens, Toshiba, Spirit AeroSystems 

-Bicycles and E-Bikes

Taiwan has had an advanced bicycle manufacturing industry started in the 1970s spearheaded by two titans, Giants (9921:TW) and Merida (9914:TW). Giants received OEM orders from Chicago-based Schwinn in 1977 and from that built a robust foundation in manufacturing as well as bicycle related technology. It is located in Taichung where CNC tooling and metalworking capability is mature. Bicycle making is mainly assembly, putting 200 parts in place. Due to its labor intensive nature and rising Taiwanese worker wages Schwinn in the late 80s started to move production to China, cut orders to Giants. This propelled Giants to build its own brand. 

Giants was able to establish its own brand in the 80s and through time moved up to premium products such as BMX, mountain bikes, racing bikes(with a successful sponsor campaign on Team Once in 1998 Tour de France). Merida on other hand was able to secure OEM contracts from Specialized and acquired part ownership(currently holding 35% of Specialized), with product lines in BMX and racing bikes.

E-Bikes have had tremendous growth since 2015. Improved battery technology is one factor, but I. Mid-drive motors and II. Torque sensors are what I believe are crucial breakthroughs. Mid-drive motors place the motors in the bikes’ center of gravity, creating a more natural balance and efficient power transfer. Torque sensors allow the bike to detect how much effort a biker is exerting, if the rider is in a downhill the bike will not propel. Likewise in an uphill the bike will push hard on the pedals. That makes for a smooth riding experience. In terms of lifestyle E-Bikes make a lot of sense too. In Europe where streets are narrow with many turns E-Bikes are quite handy. Over the long run an E-Bike is probably more economic than public transportation for some commuters. Its range provides an option for non-bikers to enjoy the fun of biking. Various government subsidies don’t hurt either.  

With premiumization of bicycles and E-bikes the Taiwan bicycle supply chain is able to benefit, which includes Topkey. Carbon fiber frames functionally are more lightweight while providing a strong structure. One thing to note Giants’ frames are supplied by its wholly-owned subsidiary Giantec, Topkey’s frames as well as forks/handles are sold to Merida.

According to PwC’s Global Bike & Bike Accessories Market report, premium bikes’ market size is around €51.5B, for E-bikes market size it is €23.7B. 21~25 CAGR for E-bikes is 6.8%, I have no specific number for premium bikes, but if we use all bikes as a generalization the CAGR is 5.3%. It appears that there is still a good amount of white space.

-Shareholder return

As mentioned before, molds are costly and carbon fiber molding takes a long time to master. Luckily Topkey is in a stage of reaping the fruits of their prior labor. They generate decent free cash-flows year after year and are currently paying dividends in 12 consecutive years. That is generous. Mr. Shen and his family own 19.27% of the company, two other co-founders and their families own 10.85%. Significant shareholders’ interests are well aligned with other shareholders.

-Risks

1. Cyclicalities of bicycles

Bicycles have a long lifespan and carbon fiber can last a lifetime if there is no damage. Thus there will be cycles with weak demand. In December 2022 Giants sent a notice to their suppliers to delay payments for 45 days. There was absolutely no need for Giants to do that as they are financially sound and had no problem accessing cheap funding. It sent shockwaves to the entire bicycle supply chain. Inventory overstock is something that can happen from time to time and investors need to be aware of that.

2. Thermosetting vs thermoplastics 

Topkey’s products are thermosetting, which means they can only be downcycled or end up in landfill. On the other hand thermoplastic CFRP can be recycled but they are not rigid enough. There could be a scenario where ESG-aware investors cast Topkey in a negative light and stating Topkey is not being environmentally friendly.

-Conclusion

With a long history of delivering profits and dividends to shareholders, current valuation is not expensive. The liquidity is decent and should be accessible for many investors. Carbon fiber is an exciting field where engineers are constantly looking for new applications. End market is growing. In the past Topkey was able to use its expertise in making racquets and pivoted into more challenging applications. Hopefully they can do the same and keep pushing for higher value-added products. 

This is neither a recommendation to purchase or sell any of the shares, securities or other instruments mentioned in this document or referred to; nor can this presentation be treated as professional advice to buy, sell or take a position in any shares, securities or other instruments. The information contained herein is based on the study and research of One Foot Hurdle and are merely the written opinions and ideas of the author, and is as such strictly for educational purposes and/or for study or research only. This information should not and cannot be construed as or relied on and (for all intents and purposes) does not constitute financial, investment or any other form of advice. Any investment involves the taking of substantial risks, including (but not limited to) complete loss of capital. Every investor has different strategies, risk tolerances and time frames. You are advised to perform your own independent checks, research or study; and you should contact a licensed professional before making any investment decisions. The author makes it unequivocally clear that there are no warranties, express or implies, as to the accuracy, completeness, or results obtained from any statement, information and/or data set forth herein. The author, shall in no event be held liable to any party for any direct, indirect, punitive, special, incidental, or consequential damages arising directly or indirectly from the use of any of this material.

IEI Integration is a manufacturer in industrial PCs and related products(embedded systems, motherboards, controllers, network equipment...etc). Industrial PCs is a growing industry with robust scale and strong companies. Founded in 1997, IEI Integration has been profitable in 26 consecutive years. Paying dividend 21 years straight. Trading is available on Interactive Brokers and English filings are available.

-Capitalization

Share price at 2024/1/30: NTD $78.4

Shares outstanding: 176.598M

Market cap: NTD $13,845M

Enterprise value: NTD $7,678M

Average daily trading volume: NTD $20M

-Key operating numbers

-Comp

-What is an industrial personal computer

An industrial personal computer is a custom made computer to be used in harsh environments and/or is dedicated for specialized tasks. Examples include rugged notebooks/tablets/panels, medical cart workstations, embedded computers. Industrial PCs typically have less computing power than PCs, but they are equipped with different functionalities, such as anti-shock, water-proof, dust-proof, able to withstand extreme environments, depending on the usage. Applications dictate the level of customization. Few common uses included production lines, defense, transportation, hospitals…etc.

Industrial PCs undertake rigorous testing and end customers' average order is a few hundred units. Production lines need to be switched after each lot. For comparison, NB shipment in a typical year is ~160 million. Hence PC ODM/OEM don't want to step in as it is hard to gain economies of scale. By going through production hassles industrial PCs have healthy margins.

High margin and fragmented application attracts competition as small firms can always target hard-to-reach places. It is not difficult to carve out a niche. There are about 30 listed IPC companies in Taiwan.

IPC market size is around $USD 5B with a CAGR of 5.5% between 2023~2028. The fact there are many firms build a robust cluster and in aggregate benefits the majority of firms in the supply chain.

-Company history 

The founder Mr. Guo founded the company in 1997 at the age of 35, IEI integration was listed 4 years later and at that time was the second biggest IPC firm. In the early 90s, Mr. Guo was a distributor for industrial PCs and peripherals and thus was able to see the potential. He worked crazy hours(18 hours a day, 7 days a week) and traveled frequently all over the world for orders. He bet big on capex in the early years and that paid off. Years of hard work and continuous exploration the company has multiple strong product lines. He resigned in 2016 following an accounting scandal. Today the company annual turnover is $NTD 8B.

-Product Mix by Use

IEI's embedded systems, controllers, gateway, motherboards, panels...etc made presence in the following fields:

-Industrial(33% of revenue): includes Autonomous Mobile Robots, automations, Automated Optical Inspection machines.

-Medical(28%): includes endoscopy, EMR, anesthesia equipments

-ODM(23%): includes voting machines, gaming machines(at one point Gtech/International Game Technology is a customer), POS(ships to Partech, Subway & Jack in the Box are the end users)

-Network(11%): includes data centers, edge computing, servers/routers/firewalls

I feel like this is a healthy mix. The company has an affiliate QNAP(IEI owns 24.45% with QNAP in turns owns 13.57% of IEI, if cross-holding is something you loathe you can turn away now) offering NAS(Network Attached Storage).  QNAP’s products complement IEI well and create cross-selling opportunities. Also storage creates a stickiness and puts IEI in a better position for future engagement.

-Big accounting scandal

From 2013 June to 2014 March IEI wrongly recognized gross revenue(correct accounting method is net revenue) of a subsidiary. Even though gross margin and operating margin stayed the same, the revenue was inflated. When the gross margin percentage is around 35% the market acted bullishly imagining this big jump is going to flow through the bottom line, and the stock price popped. When IEI eventually corrected them it faced huge backlash. Prosecutors conducted an investigation(but didn't press charges) and Mr. Guo was fed up. Perhaps he felt like he gave everything to the company yet a mistake undid all his efforts. He and CFO resigned in 2016.

-Shareholder return

That scandel left a bad taste in investors' mouths for sure. However before that and from that point on IEI Integration had paid dividends every single year. The payout ratio is OK. In 2018~2019 they did buybacks and return of capital total $ 1.5B, against a market cap of $12.9B at 12/31/2017. I am satisfied with their efforts. Mr. Guo and his relatives still have 34.85% of ownership. Their interests are aligned with other shareholders

-Covid and challenges for small firms

Covid presented a great tailwind for IEI Integration. As mentioned before there are many small industrial PC firms. It used to be the case that smaller players only needed to focus on one or two specialized fields then it is enough for survival. Then Covid came and subscale players endured a substantial blow. Chip and component shortage became a tough pill to swallow. Some products lacked one or two parts and shipment was delayed. That means build-ups in inventories and ate up working capital, added liquidity pressure. From a customer relationship point of view, not knowing the lead time is probably one of the worst things that you can tell your customers, especially industrial PCs that are known for quick delivery. There were other issues such as supply chain disruptions, labor shortage, inflation, high shipping cost, fight for container spaces...etc. It is not hard to see it is challenging for a subscale player to navigate in such a tough environment.  

Because IPCs have specific use, distributors and system integrators are the ones pounding the pavement and visiting end users. They have a hands-on selling process and if they get the order they will install machines. Covid-imposed travel bans and lockouts stopped distributors from making sales. Thus for small firms who lack ground game it is hard to make a good impression in marketing.

This is when having scales help. Prescient firms like Advantech and IEI before Covid have made an effort in providing webinars, case studies, YouTube videos, product specs...etc. on their websites. Tech support and helplines are available. This allows less friction in end user engagement as well as building a positive corporate profile. When end users are stuck in lockdowns those resources serve as effective marketing material. When small firms try to replicate it is too late. As a result IEI did well in the Covid years and strengthened its competitive position.

Industrial PCs are deployed in critical, demanding, and sometimes sensitive operations, it is selling trust. With resourceful web content, it conveys a dependable impression and provides infrastructure when customers need help. IEI also claims to possess superior software and firmware to ensure quality user experience and system stability.

Troubleshoot and service are crucial too. For subscale firms it is hard for them to provide tech support 24-7 and fix the problems right away, further putting them in a disadvantage to compete.

-Industry dynamic and consolidation

Under the Covid backdrop both PC & IPC firms are open to collaborate with each other. IPC firms need help in securing sourcing and lower purchasing cost. For PC ODMs, as NB shipment plateaued, PC firms are keen to explore other applications. They have done an excellent job in pivoting to server ODM/OEM since 2012, as a server is just another form of computers. PC firms investing in IPC counterparts is a natural progression.

Secondly due to the fragmented nature of IPC there are consolidators such as DFI and Ennoconn. But in my opinion both companies went a little overboard and brought in some less-related, less-synergistic acquisitions that could be distractions in the future(not saying that they are destroying value but it probably takes time to realize there is some hair in their investments). Advantech appears to be a prudent and astute consolidator.

I do not anticipate a takeover of IEI but its comprehensive product lines and valuation should make it an attractive target.

-Conclusion

IEI Integration is solid, profitable company that occupies a niche. Solid shareholder returns. Daily volume should make it actionable for many investors. It appears that IEI at this price is safe and inexpensive. If the goal is to merely beat the cost of capital in Taiwan(2~3%) it can probably deliver.

This is neither a recommendation to purchase or sell any of the shares, securities or other instruments mentioned in this document or referred to; nor can this presentation be treated as professional advice to buy, sell or take a position in any shares, securities or other instruments. The information contained herein is based on the study and research of One Foot Hurdle and are merely the written opinions and ideas of the author, and is as such strictly for educational purposes and/or for study or research only. This information should not and cannot be construed as or relied on and (for all intents and purposes) does not constitute financial, investment or any other form of advice. Any investment involves the taking of substantial risks, including (but not limited to) complete loss of capital. Every investor has different strategies, risk tolerances and time frames. You are advised to perform your own independent checks, research or study; and you should contact a licensed professional before making any investment decisions. The author makes it unequivocally clear that there are no warranties, express or implies, as to the accuracy, completeness, or results obtained from any statement, information and/or data set forth herein. The author, shall in no event be held liable to any party for any direct, indirect, punitive, special, incidental, or consequential damages arising directly or indirectly from the use of any of this material.

Global Lighting Technologies(4935:TW) is a manufacturer of light guide plates, profitable for 14 consecutive years, paying dividends 12 years straight. Because of its B2B nature and declining 2023 numbers, stock price cratered to a level which I believe offers plenty of protection.

Trading is available on Interactive Brokers and English filings are available.

-Capitalization

Share price: NTD $50.1

Shares outstanding: 128.864M

Market cap: NTD $6,456M

Enterprise value: NTD $2,116M

Average daily trading volume: NTD $3M

-Key operating numbers

-What is a light guide plate?

It is a component of a backlight module. In LCDs(liquid crystal display) the crystals by themselves do not emit light. There needs to be a lighting source. Light guide plates are plastic plates with microlens structure that guide the lighting source and achieve the brightness and uniformity of light and the display can be lit properly. GLT's plates are used in ebook readers, wearables, MacBook keyboards, Magic Keyboards, TVs...etc.

GLT deploys a hot extrusion process, which melts plastic particles(more specifically polymethyl methacrylate, PMMA) and extrudes microlens structure onto the plates. The plates vary in size, thickness, curvature, and are applied in credit cards(where the logo flashes in a 0.1 square inch space) to 82" TV. The founder and current chairman Mr. Lee used to be a chemist worked for Taita Chemical where he introduced cubic printing to Taiwan, from there he learned the ins and outs of hot extrusion process.

Plates need to have certain thickness and a good uniformity so the light can be bounced efficiently. Too thick the form factor can be compromised. Bad uniformity will require more light source, which compromises battery life in the end product.

-Threat of OLED

OLED stands for organic light-emitting diode. The name tells you it can light itself thus no longer needs a backlight module. It results in a better form factor and it is bendable/foldable.

However, OLED is much more expensive and not every application needs OLED. OLED has significantly shorter lifespan among other weaknesses. LCD will continuously have its place in consumer electronics.

-Strategic shareholder

Because of GLT's prowess in microlens structure, at a point Kodak, GE Capital, Warburg Pincus, Baring are their shareholders when microlens technology is in vogue. They have since all exited now, but there is one significant shareholder remaining. Wistron(3231:TW) owns 16.23% of GLT. The founder, his spouse, and his investment firm together own 25.75%.

Wistron is an ODM/OEM with >70% of revenue in manufacturing notebooks and servers. There is some overlap in notebooks(36% of Wistron's business) and display(6%). ODM/OEMs in recent years have an ambition to add automotives exposure to improve margins, and GLT has some automotive applications which should complement Wistron handily. One can also reasonably assume Wistron helps GLT in terms of purchasing/sourcing/distribution...etc.

-Product mix

Revenue by products is:

-IT 64%. Includes MacBook keyboards, Magic Keyboards.

-Consumer 17%. Includes ebook readers, automotive lighting, indoor lighting.

-Wearables 14%. Includes products from:Garmin, Fitbit, TomTom.

Apple is the biggest account, made up 38% of total revenue in 2022. For competitive reasons there is no further detailed breakdown of product mix.

-Wide swings in operation

Massive fluctuations in operating numbers are mainly due to two reasons:

1. Butterfly Keyboards vs. Scissor Switch Keyboards

From 2016~2019 Apple employed butterfly keyboards where each key has a self luminating stainless steel dome switch. This design got rid of light guide plates. Yet even though butterfly keyboards are supposed to distribute pressure from fingertips more evenly and users can type faster and more accurately, they have many flaws. They are 250~350% more expensive than scissor switch keyboards(where light guide plates are required). The design allows dust to infiltrate and cause malfunctions. In 2020 Apple ditched Butterfly completely and brought business back to GLT.

2. PMMA price

Plates are made of PMMA particles, GLT is a price taker. When PMMA price dropped in 2019~2020 GLT's margin improved. There was some talk few years ago that they can use PS(Polystyrene) at least in some applications but PMMA and PS have the same mother, MMA(methyl methacrylate). I guess whatever maneuvering or design change there is always some raw material pricing risk.

The market blindly extrapolated GLT’s 2020 exceptional performance thinking it would last, however everything has cycles and MacBook shipment is expected to decline 30% which hurts GLT’s 2023 results. What is the normal earning power it is probably hard to tell, but in 2014~2022 the average earning before tax is $NTD 824M. Against an enterprise value of $2,116M that is a very attractive valuation.

-Dividends

One interesting nugget here is GLT is incorporated in the Cayman Islands. That means there is zero withholding tax on the dividends and it brings extra value for non-Taiwan residents as their withholding tax is 21%. Top two shareholders owns ~42% of the shares and their interests are aligned with a good dividend payout policy.

-Conclusion

Despite some headwinds, GLT is a resilient company that consistently produces healthy dividends. The valuation is ridiculously cheap. It probably cannot beat S&P 500 but I am owning it to beat my funding cost(2~3%). A balanced portfolio made up with companies like GLT is likely to achieve this goal. Lastly there is a growth opportunity in interior lighting for cars, where OLED lacks the stability, life, and cost-benefit.