As investors may know by now, some industries are inherently more cyclical than others. Industries such as education and healthcare are known to be recession-resistant as there is constant and “sticky” demand for such services even in the midst of an economic downturn. Other industries, such as commodities, may see sharp peaks and troughs as prices follow the economic health of the global economy.
The electronics sector has been long known to be cyclical as demand for semiconductor chips and electronic parts will wax and wane according to global economic health. During good times, companies expand production of electronic goods as consumer demand is strong, but during bad times, manufacturers cut back on production as people hold back on their spending for such goods, which are considered discretionary in most cases.
I decided to assess if electronic companies’ fortunes have peaked in the current cycle, or whether there is some truth to the ongoing rumour that the electronics cycle has rid itself of cyclicality due to demand for components for the Internet of Things and artificial intelligence.
Methodology for assessment
I decided to use the most recent full-year earnings of four companies in the electronic components and track their year-on-year growth in both revenue and net profits. I also assessed the Q1 2019 (recently released) earnings of the same companies to determine if they managed to grow their revenues and net profits. These two metrics act as a rough indicator of how the companies are doing. The companies I chose include Venture Corporation Ltd (SGX: V03), Valuetronics Holdings Limited (SGX: BN2), AEM Holdings Ltd (SGX: AWX), and UMS Holdings Limited (SGX: 558).
Q1 2019 is showing weakness as revenue is trending downwards. Even for FY 2018 full-year revenue, three companies had reported declines in year-on-year numbers. It’s also interesting to note that the Q4 2018 revenue numbers for Venture, AEM, and UMS saw double-digit year-on-year declines in revenue, to the order of 16.6%, 33%, and 33%, respectively. This seems to lend further credence to the fact that the industry is slowing down and turning south.
The same can be seen for profitability. Q1 2019 saw an average decline of 16.5% across all three companies, while Q4 2018 (not shown) saw year-on-year declines of 24.7%, 54.8%, and 39%, respectively, for Venture, AEM, and UMS. Operating leverage cuts both ways for such companies, and a drop in orders would translate to a bigger impact on net profit as compared to revenue.
The Foolish conclusion
From the evidence, it would seem that electronic companies have witnessed a peak in 2017 and are probably in the grip of a cyclical downturn. How long this will last and how deep it may get is anybody’s guess, though. Investors need to be very cautious when they invest in such companies’ shares as it is very difficult to read the cycle or know where we are in it.
The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. The Motley Fool Singapore has recommended the shares of AEM Holdings Ltd. Motley Fool Singapore contributor Royston Yang does not own shares in any of the companies mentioned.