OUTPERFORM on Luxshare

11 September 2015 Asia Pacific/China Equity Research Electronic Components & Connectors

China Components Sector Research Analyst INITIATION

Sam Li 852 2101 6775 [email protected] Finding quality in a transition cycle

Figure 1: Luxshare stands out in our quality framework Business portfolio exposure Execution Valuation Specs upgrade IoT areas P/E Company Finger High-end Auto Total Organic M&As Appearance Optical Wearable 16E 17E print accessory elec Luxshare 23.9% 7.3% 16.0% 47.2% AAA AAA 25.7 18.9 BYDE 44.7% 44.7% AA 8.1 7.3 GoerTek 27.5% 2.8% 3.8% 34.1% AAA A 23.6 20.9 Lens Tech 31.8% 4.9% 36.7% AA 24.0 22.1 O-film 29.2% 4.5% 0.6% 34.3% AA A 25.7 25.4 Source: Company data, Credit Suisse estimates

■ We initiate coverage on the China components sector with five stocks. We see the sector undergoing a transition, featuring self-help stories rather than industry-wide drivers. Under a volatile environment, we suggest investors focus on company qualities to find long-term winners. Luxshare is our OUTPERFORM idea while O-film is an UNDERPERFORM. ■ Sluggish industry demand. We focus on medium-term factors and notice two major headwinds for end-demand: (1) A slow product cycle ahead: Major industry drivers are slowing down with a lack of blockbuster products heading into 2016; and (2) China demand is disappointing: Smartphone penetration rate has risen with share gains against overseas brands capped for the time being, given pressure from telco subsidies and inventory. ■ Content upgrade is the key theme. We see a spec upgrade trend for China smartphones in 1H15, with the New China Big 4 emerging with product upgrades and rising average selling prices (ASPs), which would be very positive for key components. At the other end, Chinese supply chain names are increasing investments into new opportunities. We see appearance, optical, fingerprint and high-end accessories as having key spec upgrades, and auto elec and wearable as long-term IoT (internet of things) opportunities. ■ OUTPERFORM on Luxshare. We execute a quality searching framework on the business portfolio, execution record and valuations to identify the long-term winners. Among the five stocks, we initiate with an OUTPERFORM on Luxshare (TP: Rmb35.5, 25% upside potential, with a 43.9% NI CAGR and a 22.3% average ROE for 2015-17E, both the highest among our coverage) for its well-diversified business portfolio, strong growth and attractive valuation. We are UNDERPERFORM on O-film (TP Rmb15.2, 30% downside potential, with only a 9.0% NI CAGR and a 12.1% ROE for 2015-17E) due to the large pressure on its major touch panel business. DISCLOSURE APPENDIX AT THE BACK OF THIS REPORT CONTAINS IMPORTANT DISCLOSURES, ANALYST CERTIFICATIONS, AND THE STATUS OF NON-US ANALYSTS. US Disclosure: Credit Suisse does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision.

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11 September 2015 Focus charts and table

Figure 2: Global smartphone shipments slowing down Figure 3: China market shipment fell 1.5% YoY in 1H15 Units bn Units mn 2.0 160% 120 125%

100 100% 1.5 120% 80 75%

1.0 80% 60 50%

40 25% 0.5 40% 20 0%

0.0 0% 0 -25% 2008 2009 2010 2011 2012 2013 2014 2015E2016E2017E 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 Ex-China China China total shipments YoY Ex-China YoY China YoY Source: Credit Suisse estimates Source: IDC

Figure 4: The New China Big 4 is rising… Figure 5: …with rising/stabilised ASPs 100% US$ 400 90% 80% 350 70% 300 60% 48% 50% 41% 43% 250 36% 39% 40% 40% 31% 33% 26% 200 30% 24% 20% 150 10% 100 0% 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 50 Huawei Xiaomi 1Q12 2Q12 3Q12 4Q12 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 OPPO vivo Other China brands New Big Four % Huawei OPPO vivo

Source: IDC Source: IDC

Figure 6: An overview of covered companies' businesses (2016E): Luxshare experiencing market share uptrends 2016E No.1 business No.2 business Major clients revenue 2 yrs Mkt share 2 yrs Mkt share Major competitors Name % of rev Name % of rev No.1 No.2 Rmb bn CAGR trend CAGR trend Luxshare 13.1 connector 60.3% 12.0% ↑ accessory 31.5% 63.6% ↑ Apple Lenovo Hon Hai, Foxlink BYDE 22.6 metal casing 41.7% 14.8% → ODM 25.4% 6.9% → Huawei Samsung FIH, Flextronics, Everwin GoerTek 17.0 accessory 47.0% 23.2% ↑ acoustic comp 36.0% 3.3% → Apple Sony AAC, Knowles, Merry, Foxlink, Foster Lens Tech 21.0 cover lens 69.8% 8.2% → glass parts 27.0% 17.8% → Apple Samsung Biel, Xingxing O-film 26.7 touch panel 60.0% -0.5% → HCM 29.2% 35.3% ↑ Huawei Lenovo TPK, Lite-on, Sunny, Q Tech Source: Company data, Credit Suisse estimates

Figure 7: Luxshare leads in growth, margins and ROE in our coverage Company Ticker Revenue EV/EBITDA Div. Rmb bn GM OPM NPM ROE P/E (x) (x) yield 2014 2015E 2016E 2-yr CAGR 2016E 2016E 2016E 2016E 2016E 2016E 12MF Luxshare 002475.SZ 7.3 9.9 13.1 34.2% 22.9% 11.8% 10.5% 22.7% 25.7 19.2 0.4% GoerTek 002241.SZ 12.7 14.9 17.0 15.5% 24.9% 12.7% 10.0% 16.2% 23.6 14.8 0.4% Lens Tech 300433.SZ 14.5 18.3 21.0 20.8% 23.6% 10.0% 8.9% 19.4% 24.0 11.4 0.4% O-film 002456.SZ 19.5 22.7 26.7 17.1% 11.1% 3.7% 3.3% 12.9% 25.7 17.0 0.6% BYDE 0285.HK 19.8 20.3 22.6 6.8% 11.0% 4.6% 5.2% 10.1% 8.1 2.5 1.1% Mean 18.9% 18.7% 8.6% 7.6% 16.3% 21.42 12.3 0.6% Median 17.1% 22.9% 10.0% 8.9% 16.2% 24.0 13.5 0.4% Source: Company data, Credit Suisse estimates

China Components Sector 2 11 September 2015 Finding quality in a transition cycle We initiate coverage on five stocks in the China components sector with an Initiating coverage on China OUTPERFORM on Luxshare, an UNDERPERFORM on O-film and NEUTRAL on components sector with GoerTek, Lens Tech and BYDE. We see the sector undergoing a transition period with MARKET WEIGHT self-help stories rather than industrywide drivers. Therefore, we recommend a quality- focused framework (business portfolio, execution record and valuation) to identify the long- term winners. Sluggish industry demand We believe the near-term inventory cycle is near its bottom, after the recent sharp sell-off Smartphone market demand in A/H supply chain stocks. Therefore, we focus more on medium-term factors and see backdrop still seems two headwinds for smartphone industry demand: (1) A slow product cycle ahead: Major sluggish into 2016 industry drivers are slowing down with a lack of blockbuster products heading into 2016. (2) China demand is disappointing: Smartphone penetration rate rose and share gains against overseas brands are capped for the time being, with pressure on telco subsidy and inventory. Content upgrade is the key theme We see a spec upgrade trend for China smartphones in 1H15, with the New China Big 4 Appearance, optical, emerging with product upgrades and rising ASPs, which should be very positive for key fingerprint and high-end components. On the other hand, Chinese supply chain names are increasing investment accessories are key near- in new opportunities. We see downstream components, semi, auto electronics and term spec upgrade areas, wearable as major directions. Overall, we see appearance, optical, fingerprint and high- while auto elec & wearable end accessories as key near-term spec upgrade areas, while auto elec & wearable are are long-term opportunities long-term IoT opportunities. We believe that companies with favourable exposure to these key areas should be in better winning positions in the long run. Focus on quality for stock picking We execute a quality searching framework using business portfolios, execution records Quality picking framework: and valuations to identify long-term winners. We see Luxshare standing out under such a OUTPERFORM on framework with the highest growth, exposure and execution scores, while 2017E P/E is Luxshare; the lowest among the four A shares. O-film stands at the other end of the spectrum, with UNDERPERFORM on O- below-average growth exposure and execution, and the highest 2017E P/E. film. Therefore, we initiate coverage on Luxshare with an OUTPERFORM rating, O-film with an UNDERPERFORM rating, and GoerTek/Lens Tech/BYDE with NEUTRAL ratings. Our target price methodology is based on sector average 2017E P/E and the premium/ discount for each stock's relative growth and ROE performances for A-share stocks. For BYDE, it is based on the stock's historical average P/E. Luxshare (TP Rmb35.5, based on a sector average 2017E P/E of 19.7x and 20% premium) is our top pick in the China components sector. Our recommendation is based on: (1) Luxshare owning a well-structured product portfolio for near-term and long-term growth; (2) strong growth for 2015-17E, driven by Apple and Type C businesses; and (3) it now trades below the sector average, with the highest growth and ROE among our coverage. Our TP suggests the highest downside for O-film (TP Rmb15.2, 30% downside based on a sector average 2017E P/E of 19.7x and 10% discount for lower growth and ROE among our coverage. We see its large contributor to earnings, the TP business, as being under significant pressure and believe the new businesses it invested in in recent years have unclear prospects. Investment risks: A further weakening in global smartphone demand, pricing pressure, execution risks on new business and forex risk.

China Components Sector 3 11 September 2015 Valuation summary

Figure 8: Comp sheet Mkt Current Po. PE P/B ROE NI Div Rating cap TP Price up/ (x) (x) (%) CAGR yld Company Ticker US$mn (lc) (lc) down 15E 16E 17E 15E 16E 17E 15E 16E 17E 15-17E 15E A-share Luxshare 002475.SZ O 5,562 35.5 28.42 25% 37.1 25.7 18.9 6.5 5.3 4.3 19.0% 22.7% 25.0% 43.9% 0.4% GoerTek 002241.SZ N 6,272 23.5 26.20 -10% 26.5 23.6 20.9 4.1 3.6 3.1 16.8% 16.2% 15.9% 5.0% 0.4% Lens Tech 300433.SZ N 7,001 59.0 66.30 -11% 29.7 24.0 22.1 5.1 4.3 3.6 18.6% 19.4% 17.8% 19.7% 0.4% O-film 002456.SZ U 3,523 15.2 21.80 -30% 31.2 25.7 25.4 3.5 3.1 2.8 11.8% 12.9% 11.7% 9.0% 0.6% Jinlong 300032.SZ NR 2,803 NA 26.44 NM 28.6 19.1 14.7 7.6 5.5 4.1 26.4% 28.7% 28.0% 65.1% 1.0% Everwin 300115.SZ NR 2,663 NA 30.55 NM 34.2 24.0 17.6 5.8 4.8 3.8 17.0% 19.9% 21.7% 45.7% 0.3% Sunwoda 300207.SZ NR 2,176 NA 22.00 NM 40.5 24.9 18.1 7.7 6.2 4.8 19.1% 24.8% 26.6% 21.4% 0.6% Deren 002055.SZ NR 1,639 NA 23.20 NM 61.0 37.5 25.0 6.2 5.4 4.5 10.2% 14.4% 18.0% 57.3% 0.3% Sunway 300136.SZ NR 2,174 NA 23.27 NM 70.1 36.9 23.0 13.2 9.8 6.8 18.9% 26.6% 29.7% 63.5% 0.2% Average 39.9 26.8 20.6 6.6 5.3 4.2 17.5% 20.6% 21.6% 36.7% 0.5% Median 34.2 24.9 20.9 6.2 5.3 4.1 18.6% 19.9% 21.7% 43.9% 0.4% Off-shore BYDE 0285.HK N 1,390 5.0 4.78 5% 11.3 8.1 7.3 0.9 0.8 0.7 7.8% 10.1% 10.2% 10.6% 1.1% AAC 2018.HK O 7,613 41.4 39.53 5% 18.0 15.5 13.1 4.7 3.9 3.2 27.7% 27.6% 27.1% 16.9% 2.3% Sunny 2382.HK N 2,044 11.6 11.88 -3% 17.6 14.8 11.9 3.5 2.9 2.5 21.3% 21.8% 22.8% 24.4% 1.9% Catcher 2474.TW O 7,923 431.0 337.50 28% 12.1 11.6 10.9 2.4 2.0 1.8 20.5% 18.7% 17.4% 9.8% 2.1% Largan 3008.TW O 11,688 4,000.0 2,830.00 41% 16.8 13.7 12.3 6.1 4.7 3.7 41.7% 38.6% 33.6% 16.8% 2.4% Casetek 5264.TW O 1,475 190.0 141.00 35% 10.7 9.1 7.5 1.6 1.5 1.3 15.3% 16.9% 18.7% 9.1% 5.9% Average 14.4 12.1 10.5 3.2 2.6 2.2 22.4% 22.3% 21.6% 14.6% 2.6% Median 14.5 12.7 11.4 2.9 2.5 2.1 20.9% 20.3% 20.8% 13.7% 2.2% Note: Priced as of 9 September 2015. AAC/Sunny/ Catcher/ Largan/ Casetek are covered by Pauline Chen. Source: Wind consensus for NR stocks, Credit Suisse estimates.

Figure 9: Summary of revenue and EPS forecast – CS vs consensus CS Consensus CS vs consensus Company Ticker 2015E 2016E 2017E 2015E 2016E 2017E 2015E 2016E 2017E Revenue, Rmb bn Luxshare 002415.SZ 9.9 13.1 16.7 10.6 14.8 19.7 -6.6% -11.4% -15.0% Lens Tech 300433.SZ 18.3 21.0 22.7 18.8 24.8 29.7 -2.6% -15.3% -23.5% GoerTek 002241.SZ 14.9 17.0 19.4 16.9 19.1 21.8 -12.3% -11.4% -11.2% O-film 002456.SZ 22.7 26.7 29.8 23.3 28.6 34.2 -2.4% -6.4% -12.8% BYDE 0285.HK 20.3 22.6 24.4 22.3 24.7 26.5 -8.7% -8.6% -8.1% EPS, Rmb Luxshare 002415.SZ 0.77 1.10 1.50 0.82 1.22 1.81 -6.3% -9.8% -16.7% Lens Tech 300433.SZ 2.23 2.76 3.00 2.85 4.38 5.37 -21.6% -36.9% -44.1% GoerTek 002241.SZ 0.99 1.11 1.26 1.31 1.55 1.73 -24.1% -28.3% -27.3% O-film 002236.SZ 0.70 0.85 0.86 0.88 1.23 1.50 -20.4% -30.8% -42.9% BYDE 0285.HK 0.35 0.49 0.54 0.56 0.70 0.76 -37.6% -30.2% -28.3% Source: Wind, Bloomberg, Credit Suisse estimates

China Components Sector 4 11 September 2015 Sluggish industry demand We initiate coverage on the China smartphone components sector with five stocks. We The China components believe that consumer-centric hardware product cycles have peaked, with the next wave of sector is under a transition consumer tech cycle probably still a few years away. Therefore, we see the sector cycle with self-help stories undergoing a transition period with self-help stories rather than industry-wide drivers. In rather than industry-wide addition, we observe two industry headwinds for smartphone demand: drivers

■ A slow product cycle ahead. While the near-term inventory cycle might be close to the bottom, we have noticed that major industry engines, including Apple iPhone, Samsung and China smartphones all are slowing, and believe that the smartphone industry may lack blockbuster products heading into 2016.

■ China demand disappointing. The Chinese market recorded a 1.5% YoY decline in 1H15, as penetration of smartphones is not low anymore and China smartphone share gains versus overseas brands are capped for the time being. Aside from this, the long- term IoT opportunities are still at an early stage. We take a dig into the near-term swing factors such as subsidy, channel inventory, and export issues. A slow product cycle ahead Asia smartphone supply chain stocks have been under a sharp sell-off through the Major growth engines of the earnings season on concerns about slowing demand and upstream inventory issue. We global smartphone industry believe that the near-term cycle is bottoming and therefore is not our major concern for the all slowing, implying a slow China components sector. We focus more on the medium-term growth of the industry, but product cycle into 2016 see a slow product cycle for global smartphones into 2016.

■ Overall market saturates and growth is down. Credit Suisse's global tech team forecasts a 9.9% CAGR in global smartphone shipments over 2015-17. Adding ASP declines, the market size should decline at 1.1% for the period.

■ Lack of stars into 2016. Our US analyst, Kulbinder Garcha, forecasts total iPhone units will grow 3.1% YoY in 2016. Our Korean analyst, Keon Han, forecasts 9.2% YoY growth in Samsung's smartphone shipments in 2016. After iPhone 6's big success, the industry seems to lack blockbuster products heading into 2016.

Figure 10: Global smartphone market slowing Figure 11: Apple/Samsung shipment forecasts Units bn Units mn 2.0 160% 500 450

1.5 120% 400 350 300 1.0 80% 250 200

0.5 40% 150 100 50 0.0 0% 0 2008 2009 2010 2011 2012 2013 2014 2015E2016E2017E 2012 2013 2014 2015E 2016E 2012 2013 2014 2015E 2016E Ex-China China iPhone iPad Watch Samsung Smartphone Samsung Tablet Ex-China YoY China YoY Source: Credit Suisse estimates Source: Company data, Credit Suisse estimates

China Components Sector 5 11 September 2015

Figure 12: Hardware has corrected a lot among MSCI AxJ QTD*

(%) 5 2015 Performance 1.3 0.6 0 (0.4) -5 -10 (7.2) (10.1) (8.8) -15 (15.4) (16.4) (14.9) -20 (15.6) (17.5) (15.6) (18.7) (18.8) -25 (21.6) (24.9) (23.4)

-30

AxJ

Tech

Semis

Telcos

Energy

Utilities

India IT India

Korea IT Korea

Software

Materials

Hardware

TaiwanIT

Financials

Industrials

Cons. Cons. Disc

Health Care Health Cons. Staples

* As at close of 05 Sep 2015. Source: MSCI, Thomson Reuters China demand disappointing The China smartphone market recorded a 1.5% YoY decline in 1H15, according to IDC. We go through a few key We see changes taking place in multiple long-standing drivers. These, plus sluggish issues for the Chinese exports, caused the slowdown in China smartphone growth, in our view. market including penetration, share gains, ■ Penetration reaches the half-way mark. Our telco team's estimates suggest a 62% subsidy and inventory smartphone penetration rate in China by end-2015E and 90% by 2017E, implying China's smartphone penetration is already half-way through. Another market-expected driver, the LTE upgrade, is more like an upgrade (replacement) need for China smartphone users rather than new buys. On the other hand, the popularity of sub- Rmb1,000 smartphones over the past few years has largely pulled in demand, in our view.

■ Share gains vs. overseas brands capped for the time being. We have seen strong share gains since 2011 for China smartphone brands in the domestic market, at the cost of overseas brands such as Samsung, LG, Motorola and HTC. However, as the total market share for the Chinese brands rose to 77% by 2014 (estimated by IDC), and considering the recent strong performance of the iPhone in China, we believe that further upside is unlikely in the near term.

■ Few more near-term headwinds: subsidy, channel inventory, and dual-SIM. Our analysis shows that the telco subsidy is trending structurally negative for China low- end smartphones. Channel inventory also rose in 2Q15. In addition, the popularity of dual-SIM phones (see Figure 28, all nine flagship models released in 2015 support dual-SIM) could be a deflationary factor for smartphone demand.

China Components Sector 6 11 September 2015

Figure 13: China smartphone market declined 1.5% YoY in 1H15 Units mn 120 250%

100 200%

80 150%

60 100%

40 50%

20 0%

0 -50% 1Q11 2Q11 3Q11 4Q11 1Q12 2Q12 3Q12 4Q12 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 China total shipments YoY

Source: IDC

Figure 14: China smartphone penetration Figure 15: LTE is more a replacement need rate in China 120% Units mn 160 100% 100%

120 75% 80%

60% 80 50%

40%

40 25% 20%

0% 0 0% Singapore Australia Korea China Indonesia Philippines India 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 2013 2014 2015 2016 2017 2G 3G LTE LTE %

Source: Credit Suisse estimates Source: MIIT

Figure 16: China smartphone share gains Figure 17: China feature phone share slowing peaked at c70% 100% 35% 80% 90% 30% 70% 80% 25% 70% 60% 60% 20% 50% 50% 15% 40% 40% 10% 30% 30% 5% 20% 20% 10% 0% 0% -5% 10% 2011 2012 2013 2014 2015E 2016E 2017E Other Chinese Huawei Xiaomi 0% Other foreign Apple Samsung 2007 2008 2009 2010 2011 2012 2013 2014 China total China YoY China feature phone market share Source: Credit Suisse estimates Source: IDC, Credit Suisse estimates Telco subsidies a structural headwind for China low-end smartphones Although the ratio is coming down, telco subsidy-driven smartphone sales still account for Telco subsidy is a headwind around one-third of shipments in China. While telco subsidy as a whole has come down for China low-end (total subsidy decline should be lower than the handset subsidy decline of 30% YoY in smartphones 2014-15E, as handset subsidy partly moved into tariff subsidy due to the VAT reform and All telco estimates from our government allocations on cost control), our checks suggest a structural change in telco analyst, Colin McCallum subsidy plans which could act as a headwind to China's low-end smartphones.

China Components Sector 7 11 September 2015

Using Beijing Unicom's handset promotion plans as an example, our summary shows that the subsidy is now heavily skewed towards high-end and hot-selling models such as the iPhone, Galaxy Note 4 and Mate 7. Considering iPhone 6's strong performance in China (which used up a big part of subsidies), we believe this is incrementally negative for the low-end China smartphone models, which are still the major volume driver of the market.

Figure 18: China telcos handset subsidy down Figure 19: Selling expense also down from the peak considerably, partly moved to tariff subsidy

70000 40% 120000 15%

30% 60000 100000 10% 20% 50000 80000 10% 5% 40000

0% 60000 Rmb mn Rmb Rmb mn Rmb 30000 -10% 0% 40000 20000 -20% -5% 20000 10000 -30%

0 -40% 0 -10% 2010 2011 2012 2013 2014 2015E 2016E 2017E 2010 2011 2012 2013 2014 2015E 2016E 2017E

China Mobile China Unicom China Telecom YoY CM CU CT Total YoY

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Figure 20: Beijing Unicom's promotion subsidies highly tilted to high-end hot sellers Rmb Subsidiy for Unicom's Rmb 136/M mobile service plan 2,500 Galaxy Note4

2,000

1,500 iPhone 5S iPhone 6 Plus Huawei Mate 7 1,000 iPhone 6 Xiaomi Note

HandsetSubsidy Huawei G7 500 Huawei 4X Hongmi Meizu ZTE Galaxy S5 Huawei P8 Coolpad F1 Note2 Fengshang Pro Meizu MX5 ZTE G720T ZTE S6 Galaxy S6 0 V955 Levono A606 Coolpad Y46 700 900 1,100 1,300 1,500 1,700 Rmb Fee subsidy Source: Beijing Unicom website, Credit Suisse research Channel inventory up mildly in 2Q15 We follow two major smartphone channel distributors, Aisidi (002416.SZ, Not rated) and Channel inventory up in Telling (000829.SZ, Not rated), to check channel inventory levels. While 2014 was an 2Q15 inventory optimisation year for both the companies, we notice a clear uptick in inventory days in 2Q15, implying rising channel inventory levels for China smartphones. On the other hand, current levels (29 days/32 days) are still in line with the long-term trend line which therefore suggests a mild inventory correction ahead rather than a major supply- demand issue.

China Components Sector 8 11 September 2015

Figure 21: Channel inventory increased in 2Q15, but not over the long-term trend line

30 Inventory days Inventory 20

Aisidi Telling

Source: Company data, Credit Suisse estimates

China Components Sector 9 11 September 2015 Content upgrade is the key theme In a sluggish industry environment, we saw a spec upgrade trend for China smartphones in 1H15, with the New China Big 4 coming up with product upgrades and rising ASPs— very positive for key components. On the other hand, the Chinese supply chain names are increasing investments in downstream components, semi, auto electronics and wearables for new growth. Overall, we see appearance, optical, fingerprinting, high-end accessories as key near-term spec upgrade areas, while auto elec and wearables as long-term IoT opportunities. We believe that the companies with favourable exposure to these key areas could stand out to win in the long run. Spec upgrade trend in China Under a challenging environment, as many classical business schools teach, there are two Brands with spec upgrades natural choices as a way out for China smartphone brands: to pursue volumes or to gained share in 1H15 protect profitability. Between the two, we believe upgrade is a more sustainable way and have seen some signals to that effect in the market. Compared to the export option, which should see some headwinds in the near term and, more importantly, still needs time to be proved to be profit accretive, we believe a product upgrade path and building mid- to high-end sub-brands might be a more realistic way in a highly competitive market for long-term success. To achieve the goal of this success, spec upgrade might be the first step, although insufficient. We observed this in a few brands in China in 1H15, and expect other brands to follow in the future. Higher spec models outperformed To pursue volume growth, emerging markets might be the top choice. They are Exports lower than market underpenetrated, see high volumes and might be the last oasis. Therefore, most major expectations, due to several China smartphone brands claimed to have added it to a strategic priority at the start of issues 2015. However, eight months since, the freeway seems not that easy to run. The IP issue, different user appetites, local competition and unfavourable FX rates have been major obstacles, in our view. In 1H15 China smartphone exports grew 67% YoY—a huge decline vs. last year’s 192%. Considering the base was low and EMs (ex-China) are growing at c26% for 2015E, we believe 1H15 growth might not be as encouraging as Chinese brands expected at the start of year.

Figure 22: EMs are the fastest-growing area Figure 23: Export growth slowed sharply in 1H15 Units bn Units mn 2.0 160% 160 320% 1.8 140% 140 280% 1.6 120% 1.4 120 240% 100% 1.2 100 200% 80% 1.0 60% 80 160% 0.8 40% 0.6 60 120% 0.4 20% 40 80% 0.2 0% 0.0 -20% 20 40% 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E 0 0% DM China 1Q122Q123Q124Q121Q132Q133Q134Q131Q142Q143Q144Q141Q152Q15 EM-ex China EM-ex China YoY China YoY DM YoY Domestic Export Domestic YoY Export YoY

Source: Credit Suisse estimates Source: IDC

China Components Sector 10 11 September 2015

To avoid the red sea price war and improve profitability, some Chinese players have Product upgrade might be a chosen the product upgrade and brand image building path. In 1H15, some higher spec more meaningful way to win models and brands were outselling the lower ones while overall demand slowed. Media over competition, and we created a new combination of Big 4 (Huawei/Xiaomi/OPPO/Vivo) which is gaining share saw a few signals to that against the old Big 4 (ZTE/Huawei/Coolpad/Lenovo) in the China smartphone market. effect in 1H15 Among the new Big 4, Xiaomi's shipment growth momentum, albeit still strong (up 30% YoY), was below industry year-beginning full-year expectation of 100 mn. Chairman Lei guided down FY shipment target to 80 mn, which we believe is still very challenging. The other three, on the other hand, are all running strongly. Their (Huawei + OPPO + Vivo) market share rose to 34.3% in 2Q15 from 25.5% in 1Q14, with ASPs at the US$200 level. Huawei even managed to raise its ASP by US$50 (vs. 2H12-1H13 level of US$150). We believe high-profile flagship models, such as Huawei P7, Mate7, and OPPO R7, were the key drivers of this share gain and upgrade trend. Besides the hot-selling models, we believe their relative branding and channel advantages are the key driving forces.

Figure 24: Three of the old Big 4 are losing market shares Figure 25: New Big 4 rising

100% 100% 90% 90% 80% 80% 70% 70% 60% 60% 48% 50% 50% 41% 43% 39% 42% 36% 39% 40% 37% 36% 33% 40% 33% 32% 40% 31% 30% 26% 26% 26% 24% 30% 23% 30% 20% 20% 10% 10% 0% 0% 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 ZTE Lenovo Huawei Xiaomi Coolpad Other China brands OPPO vivo Old Big Three % Other China brands New Big Four %

Source: IDC Source: IDC

Figure 26: Brand names with declining ASPs Figure 27: Brand names with rising/stabilised ASPs US$ US$ 400 400

350 350

300 300

250 250

200 200

150 150

100 100

50 50 1Q12 2Q12 3Q12 4Q12 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 1Q12 2Q12 3Q12 4Q12 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15

Lenovo Coolpad ZTE Xiaomi Meizu Huawei OPPO vivo

Source: IDC Source: IDC

China Components Sector 11 11 September 2015

Positive for key value-added components To create an edge for themselves in the competitive Android camp, while differentiation on For downstream OS and software is still an unconquered area, component spec upgrades have been components, appearance acting as a key strategy for the leading Chinese brands. Display, appearance (metal or (metal and 2.5/3D glass), 2.5/3D glass), fingerprint, HCM (handset camera module) and key accessories (such as fingerprint, optical, and high- fast-charging and Hi-Fi earphones) have been the key differentiators to help propel sales end accessories are major of the mid/high-end phones. upgrade areas A spec upgrade roadmap does not have high entry barriers, and it is likely that other Chinese smartphone makers are going to follow these three companies; thus, we expect the competition to rise in spec upgrades among the handset-makers. However, such a spec upgrade war could further benefit the components sector, especially in some key value-added components. In addition, we believe this trend probably represents the only major incremental opportunity (in addition to the Apple supply chain upgrade) for the China component supply chain in the near to medium term.

Figure 28: A collection of China smartphone flagship models Company Xiaomi Xiaomi Huawei Huawei OPPO vivo Lenovo ZTE Meizu LeTV Model name Note Mi4 P8 Mate 7 R7 X5 Pro VIBE Shot AXON Pro MX5 Le Max

Image

Date of release Jan, 2015 Aug, 2014 Apr, 2015 Oct, 2014 May, 2015 Jun, 2015 Jun, 2015 Aug, 2015 Jul, 2015 Jul, 2015 Operating System Android 4.4 Android 4.4 Android 5.0 Android 4.4 Android 4.4 Android 5.0 Android 5.0 Android 5.1 Android 5.0 Android 5.0 Pixels 1920x1080 1920x1080 1920x1080 1920x1080 1920x1080 1920x1080 1920x1080 2560x1440 1920x1152 2560x1440 RAM 3GB 2GB 3GB 2GB 3GB 2GB 3GB 4GB 3GB 4GB Storage 16GB 16GB 16GB 16GB 16GB 16GB 32GB 32GB 16GB 32GB Display 5.7'' 5.0'' 5.2'' 6‘’ 5.5'' 5'' 5.2'' 6'' 5.5'' 6.33" Camera 13MP+4MP 13MP+8MP 13MP+8MP 13MP+5MP 13MP+8MP 13MP+8MP 13MP+8MP 13MP+5MP 21MP+5MP 21MP+4MP Battery 3000mAh 3080mAh 2680mAh 4100mAh 3000mAh 2320mAh 2300mAh 3200mAh 3150mAh 3400mAh CPU Speed 2.5GHz 2.5GHz 2.0GHz 1.8GHz 2GHz 1.5GHz 1.7GHz 2.3GHz 2.2GHz 2.0GHz Processor Chip 801 801 Kirin 930 Kirin 925 810 MSM8939 MT6752 801 MT6795 810 Multi-core Quad Quad Octa Octa Octa Octa Octa Quad Octa Octa Dual SIM Yes No Yes Yes Yes Yes Yes Yes Yes Yes Metal casing/Fingerprint No/No No/No Yes/No Yes/Yes Yes/No No/No No/No Yes/Yes Yes/Yes Yes/Yes Sale Price 1999 1,799 2,888 3,699 2,699 2,499 2,698 2,998 1,999 2,999 Source: Company data A look at industry innovation leader Apple's iPhone shows a rising trend of components such as appearance (display/metal/glass/Force Touch), multimedia performances (HCM), user interface (fingerprint/haptic), and modularisation (FPC/SiP). Among these components, we believe that China smartphones are following Apple in some areas such as metal casing and fingerprint but lag in SiP, haptics and Force Touch due to cost/return considerations. While China's components sector has been a major beneficiary of Apple's supply diversifying process, suppliers have been rising over the past four years.

China Components Sector 12 11 September 2015

Figure 29:Apple supplier increases in China 70

30 61 49 49 49 46 46 47 45 42 41 20 39 37 38 37 33 32 10 12 14 13 12 6 8 7 11 0 USA Taiwan Japan China Korea Others

2011 2012 2013 2014

* Apple only disclosed its top 200 suppliers in 2013, 2014. Source: Company data Auto electronics and wearables might be major long-term IoT opportunities Moving away from the smartphone battlefield to the long-term opportunities of consumer IoT opportunities in early electronics, we agree with market consensus that the IoT (Internet of Things) would be the stage but worth investing in next big wave. We believe this market is still at an early stage, especially for the China supply chain, but believe the China supply chain names will get themselves better prepared in these areas.

Figure 30: IoT installed base forecasts Figure 31: Global IoT revenue forecasts by select use Units bn 35

0 2012 2013 2014 2015E 2016E 2017E 2018E 2019E 2020E IoT Smartphone PC

Source: IDC, Credit Suisse estimates Source: IDC The first most mentioned market, wearable, is still a fragmented market in 2015. Total Luxshare has the highest shipment is about 72 mn in 2015, still a fraction of the smartphone market. Global CE exposure to wearables from players are all launching products in wrist bands, glasses, or related game accessories its watch charger business like HMDs, but we haven't seen a knockout product that could drive up the mass adoptions. The long-waited Apple Watch has been selling below market expectations YTD. We believe the market is approaching an inflection point but the visibility on the exact timing is low. For our coverage, Luxshare owns the highest wearable exposure of 16% for 2015E (wireless charger for the Watch), while others at most only hold 4% (Lenstech supplies cover lenses for the Watch).

China Components Sector 13 11 September 2015

Figure 32: Wearable market only US$12.1 bn in 2015… Figure 33: …with 72.1 mn in shipments US$ mn Units mn 30,000 180

160 25,000 140

20,000 120

100 15,000 80

10,000 60

40 5,000 20

0 0 2014 2015 2016 2017 2018 2019 2014 2015E 2016E 2017E 2018E 2019E Smart wearables Basic wearables Wrist wear Modular Eyewear Clothing Earwear Other

Source: IDC Source: IDC

Figure 34: Our channel checks on wearable suggest a very fragmented market JD.com Tmall.com Search results Brands Search results Brands Smart watch 25,475 264 2,733 204 Smart band 16,574 201 4,258 202 Smart accessory 963 31 143 71 Smartphone 78,633 218 5,085 63 Source: JD.com, Tmall.com Another big total addressable market (TAM), the auto electronics market, driven by the big Again, Luxshare leads in trend of connected, smarter, and new energy cars, is in a secular content increase cycle auto electronics exposure, globally. However, we think it will take time for Chinese smartphone supply chain names to but revenue quality is still benefit from this tide, as auto projects normally take 3-5 years for certifications. These low component companies, being Tier 2 suppliers to system vendors, progress might be faster, but they also need to go through project certification while margins would be much lower. Again, Luxshare owns the highest exposure of 7.3% to auto electronics in 2015E (but mostly only low margin assembly jobs) and has gotten certificates from major global system integrators, while others are all lower than 3%.

Figure 35: ADAS and infotainment are major growth areas US$ Bn 300 8.3% CAGR 2013-20E 250

200

150

100

0 2012 2013 2014E 2015E 2016E 2017E 2018E 2019E 2020E

ADAS Body electronics Infotainment Powertrain Safety systems

Source: Grand View Research

China Components Sector 14 11 September 2015

What are industry players investing in? We defined a universe of all A-share component companies with market cap over US$1.5 Downstream components, bn and H-share ones with market cap over US$0.9 bn, which we believe are very semi, auto electronics, and representative of the China components sector. We only calculate the announced wearable are the top four investment projects or M&As, not including capex, as it is mainly spent on existing areas that A-share business and there is lack of detailed disclosure. companies are investing in

Figure 36: Supply chain is investing in components, semi, auto elec, and wearables Rmb bn 1,000

100

0 Display Downstream Semi Auto elec LED Wearables Smart home components

* Y-axis in logarithmic scale. Source: Company data, Credit Suisse estimates. Our summary on the broader category level shows that display, downstream components, semi, auto electronics, LED, and wearable are the major areas (in investment scale) among the supply chain. Among these categories, we see components, semi, auto, and wearable as focus areas, because for display and LED, most investments are from single companies (BOE and San'an). Among the downstream components sector, which is the focus of our report, touch panel Appearance, optical, (TP), cover lens, optical (mainly HCM related), SiP, structures (incl. metal casing), connector, haptic, and FPC connector, haptic, and FPC are on the top of the list. Again, we then exclude TP and SiP are key focus areas within as investment in these mainly comes from single companies (BOE and USI). And the downstream component therefore, we believe appearance (cover lens and casing), optical, connector, haptic, and investments FPC are the key areas for sector components investments.

Figure 37: Within components: appearance, optical, connector, haptic, FPC are key areas

Rmb mn 8,000

7,000

6,000

5,000

4,000

3,000

2,000

1,000

- Touch Cover Optical SiP Structures Acoustic Connector Haptics FPC Passive Battery panel lens Source: Company data, Credit Suisse estimates Another high potential area for component makers, in our view, is auto electronics. We Supply chain is investing in believe supply chain companies are investing in this given the long-term potential. auto electronics for the long Connector/sensor, telematics, battery system, and infotainment are the key areas that term, with connector/sensor, attract most interest, which we think is reasonable, as components companies can telematics, battery system, leverage their expertise in electronics. and infotainment key areas of focus

China Components Sector 15 11 September 2015

Figure 38: Auto electronics: connector/sensor, telematics, battery, and infotainment

Rmb mn 1,600

1,400

1,200

1,000

800

600

400

200

- Connector Structures Telematics Interior Battery Infotainment After-market Transimission and sensor

Source: Company data, Credit Suisse estimates

China Components Sector 16 11 September 2015 Focus on quality for stock picking After the sharp corrections in the past two months, sector valuation is now slightly below the historical average vs. the volatile industry environment, which we believe is reasonable for the time being. For stocks, we prefer Luxshare for its leading business portfolio, execution track record, and attractive valuation, while we are negative on O-film given that its main touch panel business is under significant pressure. Sector valuation now back to normal Together with the overall A-share market decline, plus the tech supply chain corrections, A-share sector valuation is A-share component sector stocks have come down significantly in the past two months, now under its historical while BYDE's share price has come down two-thirds. We see our coverage (mostly market average leaders) valuation going back to a reasonable level while the whole sector (that contains many small players) may take some time to follow.

■ Unsupported outperformance vs. index: The A-share component sector has outperformed the CSI300 index by 33% YTD, vs. Wind consensus of sector earnings growth of 55% vs. 5% for CSI300 stocks. However, we believe that Wind consensus is a way too high in the current macro environment. For example, our 2015-17E EPS for the four A-share stocks we cover are on average 16%/25%/32% lower than Wind consensus respectively.

■ Our coverage P/E now below historical average: We use our covered stocks as a proxy for the hardware sector. Sector NTM P/E is now at 20.2x, below its seven-year average of 23.7x. This reflects the slow industry cycle and earnings growth in our view, and provides some support at the current level.

Figure 39: Sector outperformance not supported Figure 40: A-coverage P/E now below historical average 160% 40 140% 35 120% 100% 30 +1 SD: 28.3X 80% 60% 25 Average: 23.7X 40% 20 20%

0% 15 -1 SD: 19.2X -20% 10 -40% 1/5/2015 3/5/2015 5/5/2015 7/5/2015 9/5/2015 5 Electronic Component Sector CSI 300 Index 20-May-08 20-Aug-09 20-Nov-10 20-Feb-12 20-May-13 20-Aug-14 * Closing price as of 21 Aug 2015. Source: Wind, Source: Wind, Credit Suisse estimates

Figure 41: BYDE came down two-thirds in two months Figure 42: Covered companies' OP growth slows down HK$ Rmb bn 16 8 140%

14 7 120%

12 6 100%

5 80% 10 4 60% 8 3 40% 6 2 20% 4 1 0%

2 0 -20% 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E 0 GoerTek Ofilm Luxshare Lens Total YoY 20-Dec-07 20-Mar-09 20-Jun-10 20-Sep-11 20-Dec-12 20-Mar-14 20-Jun-15 Source: Thomson Reuters Source: Company data, Credit Suisse estimates

China Components Sector 17 11 September 2015

Figure 43: Covered companies' revenue and NI growth slowing down

Rev yoy NI yoy 120% 114% 100% 85% 80% 59% 60% 52% 35% 44% 40% 38% 33% 27% 26% 27% 22% 17% 17%18% 22% 19% 20% 16% 12% 14% 9% 5% 0% -9% -20%

-40%

-60% -52% GoerTek Ofilm Luxshare Lens GoerTek Luxshare Lens Ofilm

2014 2015E 2016E

Source: Company data, Credit Suisse estimates Who's best poised in our coverage? After a scan of external factors (industry opportunities and supply chain investments), we A check on business believe a further check on a company's quality, including business portfolio exposure to portfolio and execution growth areas and execution capability tested by track record, could help us find real record for quality potential long-term winners in the dynamic components market. Therefore, we execute a three-pillar screening standard to filter stock ideas in the China components space: (1) business portfolio exposure to near-term and long-term drivers, (2) historical execution track record on new businesses, and (3) valuations. We believe this framework could help us tune out the short-term earnings volatility in a chaotic market and help us focus more on a company's qualities and its long-term potential.

Figure 44: Luxshare stands out in our quality framework Business portfolio exposure Execution Valuation Specs upgrade IoT areas P/E Company Finger High-end Auto Total Organic M&As Appearance Optical Wearable 16E 17E print accessory elec Luxshare 23.9% 7.3% 16.0% 47.2% AAA AAA 25.7 18.9 BYDE 44.7% 44.7% AA 8.1 7.3 GoerTek 27.5% 2.8% 3.8% 34.1% AAA A 23.6 20.9 Lens Tech 31.8% 4.9% 36.7% AA 24.0 22.1 O-film 29.2% 4.5% 0.6% 34.3% AA A 25.7 25.4 Source: Company data, Credit Suisse estimates For the business portfolio, we calculate the company's exposure to key near-term and long-term growth areas based on our 2016E estimates. For execution track record, we give relatively subjective scores based on a company's history on internal operations and external investments. While for valuation, we will give more details in the next section.

■ Luxshare scores the highest in both business portfolio and execution. Its total Luxshare scores the highest exposure of 47.2% to major drivers, including the lightning cable for Apple and fast in our evaluation system. charging cable for Chinese smartphones (high-end accessory), an acquired auto connector business (currently used for assembly, but preparing capacity for future own products), and the Watch wireless charger (wearable). On the other hand, it has a solid track record of growing new business through M&A (7-8 major deals) and internal operations (see our company part for more details).

China Components Sector 18 11 September 2015

■ BYDE has a good 44.7% exposure to near-term drivers (metal casing for appearance), which could drive up a business mix and margin improvement in our view. Its operation record on EMS/ODM was solid. But on metal casing its performance has been missing expectations, especially on profitability. On the other hand, the company has not had many M&As in the past.

■ GoerTek has had good success in acoustic and a 27.5% exposure to accessory (earpods for Apple). It also started investment into new domains through a CB issued end-2014. However, we believe the new auto speaker and wearable businesses still need time to ramp up, and will only contribute a limited 6.6% of revenue for 2016E. Its organic growth story in acoustic and related areas has been impressive, while for M&A, it just started in 2014.

■ Lens Tech's 36.7% exposure comes from 2.5/3D glass for cover lens, and Sapphire cover lens for the Watch, camera, and fingerprint, but with a high client concentration risk (on Apple). Historically, Lens Tech was strong at internal operation and managed to become the leader in cover lens sector, but the product portfolio is pretty simple without many M&As.

■ Last for O-film, the company is an aggressive contender in smartphone component markets, with success stories in colour filter, touch panel, camera module, and now fingerprint. Its driver exposure mainly comes from its HCM business (29.2%), but the business is under GM pressure for a pure module maker. The firm has finalised a few M&A deals since 2014, but their effect still needs time to be proved. Overall its growth exposure and execution scores are both below average in our coverage.

Figure 45: An overview of covered companies' businesses (2016E): Luxshare shows uptrends in market share 2016E No.1 business No.2 business Major clients revenue 2 yrs Mkt share 2 yrs Mkt share Major competitors Name % of rev Name % of rev No.1 No.2 Rmb bn CAGR trend CAGR trend Luxshare 13.1 connector 60.3% 12.0% ↑ accessory 31.5% 63.6% ↑ Apple Lenovo Hon Hai, Foxlink BYDE 22.6 metal casing 41.7% 14.8% → ODM 25.4% 6.9% → Huawei Samsung FIH, Flextronics, Everwin GoerTek 17.0 accessory 47.0% 23.2% ↑ acoustic comp 36.0% 3.3% → Apple Sony AAC, Knowles, Merry, Foxlink, Foster Lens Tech 21.0 cover lens 69.8% 8.2% → glass parts 27.0% 17.8% → Apple Samsung Biel, Xingxing O-film 26.7 touch panel 60.0% -0.5% → HCM 29.2% 35.3% ↑ Huawei Lenovo TPK, Lite-on, Sunny, Q Tech Source: Company data, Credit Suisse estimates Armed with the growth exposures and company execution scores, we try to reflect these Analysis on key businesses factors in our forecasts for 2015-17E. We have fully factored in the near-term specs suggests Luxshare is best upgrade opportunities given their better visibility, while leaving some upside room for long- poised with uptrends in both term IoT opportunities if the markets ramp up faster than our expectations. its top two businesses

■ Within the space, we see Luxshare is in a clear uptrend with share gains in its top two businesses: connector and cables. We estimate the company maintains a stable share structure in its current Apple businesses (power cable and Lightning cable) against Hon Hai and Foxlink, but is penetrating into more categories at Apple's external cable supply chain, and grasping new market opportunities like Type C.

■ For BYDE, we expect the company to grow in line with industry demand for its top two businesses. For metal casing, some share loss at Samsung will be offset by gains in the China smartphone camp. ODM will recover from the 2015E difficulty (losing Nokia being made up by new orders from Lenovo).

■ GoerTek's acoustic component enters into a stable share stage, especially at Apple against AAC and Knowles. But we see margin pressure in this area due to players' effort to defend their shares. On the other hand, it is gaining share in the accessory market due to its better exposure to hot products such as game accessories, HMD, and wearables.

China Components Sector 19 11 September 2015

■ ,Lens Tech will maintain basically stable shares at top clients, Apple and Samsung, while slowly gaining a small share in China high-end smartphones. We believe the market structure is not going to change dramatically before any major technology changes such as sapphire cover lens for phones. With that said, the company could enjoy relatively high market growth in the glass parts business driven by camera, fingerprint, and wearables demand.

■ For O-film, we expect it to maintain its TP share in the Chinese market, but at the cost of margins given the current fierce competitive environment. Share gains at HCM could help top line growth, but GM pressure is also a concern in this segment.

Figure 46: A summary of covered companies' projects Time Company Activity 07/24/2015 GoerTek Acquired Mobvoi's 12.5% equity at US$20 mn, to explore Chinese voice search technology and wearable device OS 07/14/2015 O-film Signed MOU with China Mobile IoT Co. Ltd , a subsidiary of the top China telecom operator to penetrate into the telematics business 07/10/2015 O-film Announced its plan to acquire 100% equity of Shenzhen Temobi Sci&Tech, a wholly owned subsidiary of controlling shareholder, at a cost not exceeding Rmb550 mn for key technologies in video stream processing 06/02/2015 Lens Announced Rmb6 bn share placement plan for expansion projects re the production of camera, fingerprint and wearable cover lens and 3D glass 12/18/2014 GoerTek US$41.5 mn acquisition of Dynaudio's 83% equity, to penetrate into car audio business 12/09/2014 GoerTek Issuance of Rmb2.5 bn convertible bonds, to finance expansion projects re production of wireless and car audios, wearable and MEMS censor 12/03/2014 O-film Acquired usage rights for MEMS imaging technology from DOC at US$39.5 mn 08/28/2014 O-film Acquired 30% equity of weke.com at a cost of Rmb36 mn from SCG to explore smart city business 05/29/2014 Luxshare Announced share placement for the following projects: (1) ICT-LANTO's 40% minority interest at Rmb600 mn; (2) Rmb560 mn to fund FPC technology upgrade and capacity expansion; (3) Rmb507 mn to fund the structural parts expansion project 04/05/2014 USI Announced share placement plan to raise Rmb2.3 bn to finance the production of SiP modules for Apple Watch Source: Company data, Credit Suisse research OUTPERFORM on Luxshare; UNDERPERFORM on O-film Among the five stocks, we prefer Luxshare while we are cautious on O-film, for the OUTPERFORM on following reasons: Luxshare and UNDERPERFORM on O- For Luxshare (TP Rmb35.5, based on sector average 2017E P/E of 19.7x and 20% film. premium for the highest growth and ROE among sector), our recommendation is based on:

■ We see Luxshare as owning a well-structured product portfolio for near-term and long- term growth, with the highest exposure to key driver areas (47.2%), especially a 23.3% exposure to long-term drivers (as near-term drivers are mostly factored into our estimates). The company also has a very solid track record in business operation and M&As.

■ We expect strong 43.9% NI CAGR for 2015-17E, driven by its Apple business and Type C cables, which have been prepared for years.

■ Now trading below sector average, with highest growth among our coverage. Although its 2015E P/E of 37.1x seems demanding, its 2017E P/E drops to 18.9x, below the sector average, due to its strong growth from Apple business, Type C, and operating leverage.

China Components Sector 20 11 September 2015

For O-film (TP Rmb15.2, based on sector average 2017E P/E of 19.7x and 10% discount for lower growth and ROE), our cautious stance comes from:

■ It has a big exposure to the highly competitive TP business (60% for 2016E) which is facing huge pricing pressure. For the 29.2% exposure to optical, it consists of mainly HCM manufacture which is also under GM pressure without too many barriers.

■ It started to invest in a few small companies for auto-electronics, which is a good long- term opportunity, but considering the company's limited M&A experience in history, we believe the progress still needs time to be proved.

■ Lastly on the valuation side, the stock has outperformed CSI300 index YTD by 41% due to the market enthusiasm on auto electronics. However, we do not believe the investment in auto electronics is going to fetch returns any time soon, and the stock is currently trading at the highest P/E among our coverage, with low net income CAGR and the lowest ROE for 2015-17E. Among the three Neutral stocks, we need to explain our stance on BYDE (TP HK$5, based on historical average P/E of 9x):

■ On the one hand, BYDE's share price has corrected by about two-thirds from the June peak, and is now only trading at 9.6x 2016E P/E. Samsung's metal casing revenue was over Rmb2 bn in 1H15, which was a pretty impressive number in our view.

■ However, profitability emerged as a new concern after the 1H results, because: (1) although China smartphone metal casing orders overall are rising, Samsung orders seemed to decline from Jul/Aug. (2) Rmb2 bn capex in 1H15 will lead to more depreciation pressure on earnings from 2H. (3) Nokia ODM & plastic casing businesses is fading out, which will put further pressure on the assembly business margin.

■ Last, our 2015-17E EPS is 30-41% below Bloomberg consensus, and we believe the street still has high assumptions on Samsung's metal casing adoption rates and BYDE's GM. Therefore, even if these numbers pick up in 2H15, we believe it will be really hard to drive the share price up as the bar is already high there.

China Components Sector 21 11 September 2015

Figure 47: Comp sheet Mkt TP Current Po. NI Div cap price up/ P/E (x) P/B (x) ROE(%) CAGR yld Company Ticker Rating US$mn (lc) (lc) down 15E 16E 17E 15E 16E 17E 15E 16E 17E 15-17E 15E A-share Luxshare 002475.SZ O 5,562 35.5 28.42 25% 37.1 25.7 18.9 6.5 5.3 4.3 19.0% 22.7% 25.0% 43.9% 0.4% GoerTek 002241.SZ N 6,272 23.5 26.20 -10% 26.5 23.6 20.9 4.1 3.6 3.1 16.8% 16.2% 15.9% 5.0% 0.4% Lens Tech 300433.SZ N 7,001 59.0 66.30 -11% 29.7 24.0 22.1 5.1 4.3 3.6 18.6% 19.4% 17.8% 19.7% 0.4% O-film 002456.SZ U 3,523 15.2 21.80 -30% 31.2 25.7 25.4 3.5 3.1 2.8 11.8% 12.9% 11.7% 9.0% 0.6% Jinlong 300032.SZ NR 2,803 NA 26.44 NM 28.6 19.1 14.7 7.6 5.5 4.1 26.4% 28.7% 28.0% 65.1% 1.0% Everwin 300115.SZ NR 2,663 NA 30.55 NM 34.2 24.0 17.6 5.8 4.8 3.8 17.0% 19.9% 21.7% 45.7% 0.3% Sunwoda 300207.SZ NR 2,176 NA 22.00 NM 40.5 24.9 18.1 7.7 6.2 4.8 19.1% 24.8% 26.6% 21.4% 0.6% Deren 002055.SZ NR 1,639 NA 23.20 NM 61.0 37.5 25.0 6.2 5.4 4.5 10.2% 14.4% 18.0% 57.3% 0.3% Sunway 300136.SZ NR 2,174 NA 23.27 NM 70.1 36.9 23.0 13.2 9.8 6.8 18.9% 26.6% 29.7% 63.5% 0.2% Average 39.9 26.8 20.6 6.6 5.3 4.2 17.5% 20.6% 21.6% 36.7% 0.5% Median 34.2 24.9 20.9 6.2 5.3 4.1 18.6% 19.9% 21.7% 43.9% 0.4% Off-shore BYDE 0285.HK N 1,390 5.0 4.78 5% 11.3 8.1 7.3 0.9 0.8 0.7 7.8% 10.1% 10.2% 10.6% 1.1% AAC 2018.HK O 7,613 41.4 39.53 5% 18.0 15.5 13.1 4.7 3.9 3.2 27.7% 27.6% 27.1% 16.9% 2.3% Sunny 2382.HK N 2,044 11.6 11.88 -3% 17.6 14.8 11.9 3.5 2.9 2.5 21.3% 21.8% 22.8% 24.4% 1.9% Catcher 2474.TW O 7,923 431.0 337.50 28% 12.1 11.6 10.9 2.4 2.0 1.8 20.5% 18.7% 17.4% 9.8% 2.1% Largan 3008.TW O 11,688 4,000.0 2,830.00 41% 16.8 13.7 12.3 6.1 4.7 3.7 41.7% 38.6% 33.6% 16.8% 2.4% Casetek 5264.TW O 1,475 190.0 141.00 35% 10.7 9.1 7.5 1.6 1.5 1.3 15.3% 16.9% 18.7% 9.1% 5.9% Average 14.4 12.1 10.5 3.2 2.6 2.2 22.4% 22.3% 21.6% 14.6% 2.6% Median 14.5 12.7 11.4 2.9 2.5 2.1 20.9% 20.3% 20.8% 13.7% 2.2% Note: Priced as of 9 September 2015. Source: Wind consensus for NR stocks, Credit Suisse estimates. AAC/Sunny/ Catcher/ Largan/ Casetek are covered by Pauline Chen.

Figure 48: Summary of revenue and EPS forecast—CS vs consensus CS Consensus CS vs consensus Company Ticker 2015E 2016E 2017E 2015E 2016E 2017E 2015E 2016E 2017E Revenue, Rmb bn Luxshare 002415.SZ 9.9 13.1 16.7 10.6 14.8 19.7 -6.6% -11.4% -15.0% Lens Tech 300433.SZ 18.3 21.0 22.7 18.8 24.8 29.7 -2.6% -15.3% -23.5% GoerTek 002241.SZ 14.9 17.0 19.4 16.9 19.1 21.8 -12.3% -11.4% -11.2% O-film 002456.SZ 22.7 26.7 29.8 23.3 28.6 34.2 -2.4% -6.4% -12.8% BYDE 0285.HK 20.3 22.6 24.4 22.3 24.7 26.5 -8.7% -8.6% -8.1% EPS, Rmb Luxshare 002415.SZ 0.77 1.10 1.50 0.82 1.22 1.81 -6.3% -9.8% -16.7% Lens Tech 300433.SZ 2.23 2.76 3.00 2.85 4.38 5.37 -21.6% -36.9% -44.1% GoerTek 002241.SZ 0.99 1.11 1.26 1.31 1.55 1.73 -24.1% -28.3% -27.3% O-film 002236.SZ 0.70 0.85 0.86 0.88 1.23 1.50 -20.4% -30.8% -42.9% BYDE 0285.HK 0.35 0.49 0.54 0.56 0.70 0.76 -37.6% -30.2% -28.3% Source: Wind, Bloomberg, Credit Suisse estimates

China Components Sector 22 11 September 2015

Figure 49: Luxshare—NTM P/E band Figure 50: : GoerTek—NTM P/E band

50 50

45 45 40 40 35 +1 SD: 32.8X +1 SD: 36.1X 30 Average: 27.3X 35 Average:31.6X 25 30 20 -1 SD: 21.8X 25 -1 SD:27.1X 15 10 20 5

15 0 15-Sep-10 15-Jun-11 15-Mar-12 15-Dec-12 15-Sep-13 15-Jun-14 15-Mar-15 May-08 May-09 May-10 May-11 May-12 May-13 May-14 May-15

Source: Thomson Reuters Source: Thomson Reuters

Figure 51: : Lens Tech—NTM P/E band Figure 52: O-film—NTM P/E band

70 80

70 60 60 +1 SD: 49.0X 50 50 +1 SD: 44.6X Average: 38.3X 40 40

30 30 Average:28.6X -1 SD: 27.6X 20 20 10 -1 SD: 12.7X

10 0 18-Mar 2-Apr 17-Apr 2-May17-May1-Jun 16-Jun 1-Jul 16-Jul 31-Jul15-Aug30-Aug 3-Aug-10 3-May-11 3-Feb-12 3-Nov-12 3-Aug-13 3-May-14 3-Feb-15

Source: Thomson Reuters Source: Thomson Reuters

Figure 53: BYDE—NTM P/E band

14 +1 SD: 11.9X

10 Average: 9X

6 -1 SD: 6.0X

31-Jul-08 31-Jul-09 31-Jul-10 31-Jul-11 31-Jul-12 31-Jul-13 31-Jul-14 31-Jul-15 (2)

Source: Thomson Reuters

China Components Sector 23 11 September 2015 Investment risks We see the four factors below as potential risks to our industry view and therefore will Four key downside risks keep a close watch on them: identified for our investment thesis. ■ A further weakening global smartphone demand: A few industry headwinds, such as lack of star products, dual-SIM phones, and penetration saturation in key regions, could driver further downside risk for global smartphone demand.

■ Pricing pressure: Although the overall current industry internal environment is positive for components as smartphone brand companies are trying to differentiate their products through hardware specs upgrades, the supply chain, especially for overcapacity and low entry barrier businesses, is facing huge pricing pressure both from key clients and competition.

■ Execution risks on new businesses: As investing into new businesses becomes a new tide for the supply chain, we believe execution risks become a more important factor that we need to closely monitor. Most A-share companies lack experience in M&As and handling a tough macro environment.

■ FX risk: As a sector that is deeply involved in the global supply chain, most of our companies' overseas sales are recognised in USD. Therefore forex changes between RMB and USD could be risks to top line and competencies. Overall, a depreciation of the RMB is positive for supply chain companies, as their pricing is locked against the USD for a certain period, and the depreciation could bring higher competency vs. other regions' suppliers.

China Components Sector 24 11 September 2015 Appendix

Figure 54: Global fabless and semi inventory days Inventory Days 100

30 1Q95 1Q97 1Q99 1Q01 1Q03 1Q05 1Q07 1Q09 1Q11 1Q13 1Q15

Fabless Semis ex intel

Source: Company data, Credit Suisse estimates

Figure 55: US semis—2Q15 results review, 3Q15 guidance Sales Bberg 2Q15 revs. QoQ 3Q15 revs. QoQ Inventory days (US$ mn) Ticker Actual Cons. Guidance* Cons. 1Q15 2Q15 TXN TXN US 2.60% 3.40% 1.50% 6.40% 124 126 SNDK SNDK US -7.10% -10.20% n.a. 17.70% 85 98 XLNX XLNX US -3.20% -1.80% -4.00% 3.50% 124 127 QCOM QCOM US -15.40% -15.20% -10.80% 5.90% 66 60 MLNX MLNX US 11.20% 7.60% 2.70% 3.30% 113 121 LLTC LLTC US 2.00% 3.60% -9.50% 2.30% 105 100 AMD AMD US -8.50% -7.70% 6.20% 10.80% 89 108 FCS FCS US -0.10% 4.40% 2.80% 3.30% 100 111 INTC INTC US 3.20% 2.10% 8.40% 8.00% 80 89 Source: Bloomberg, Company data, Credit Suisse estimates. * Midpoint

Figure 56: Life cycles of auto electronics segments

Source: Deloitte Another look at execution records after financing New business investments need financing support. In the A-share market, fund raising, especially equity placement, is generally seen as a strong catalyst for share prices, as retail investors tilt towards believing such projects would succeed. In our view, funding resources are just a necessary, but not a sufficient, condition for business success. New business investment obviously belongs to the high risk domain compared with ongoing

China Components Sector 25 11 September 2015 businesses. Therefore we should be more cautious while picking stocks. While the future is always fraught with uncertainty, we think a track record helps us make better judgement calls on listcos' success possibilities. Luxshare and GoerTek, for example, are two very good cases, with one good at organic growth (capex for new projects) and one good at M&As.

Figure 57: Luxshare's expansion through M&As

45 40 Rmb120 mn acquisition of 35 Shuangying Rmb95 mn acquisition of Rmb580 mn acquisition of Shuobo's 25% equity 30 60% LANTO Kunshan 25 Rmb168 mn acquisition Rmb98 mn acquisition of Rmb53 mn acquisition 20 of Shuobo's 75% equity 55% Fujian Yuanguang of Speed Tech's 13.7% equity 15 Rmb65 mn acquisition of Speed Tech's 6.98% 10 equity 5 Rmb121 mn acquisition of Rmb60 mn acquisition of Rmb75 mn acquisition of Dongguan Zhanyi Suzhou Toyoshima Ke'er Tong's 75% equity

Jun-15 Jun-11 Jun-12 Jun-13 Jun-14

Sep-12 Sep-10 Sep-11 Sep-13 Sep-14

Dec-10 Dec-11 Dec-12 Dec-13 Dec-14

Mar-13 Mar-12 Mar-14 Mar-15 Mar-11 Source: Company data, Credit Suisse research

Figure 58: GoerTek used placements for fast capacity expansion

50 Rmb149 mn acquisition 45 of AKM (FPC) 40 Issued Rmb2.5 bn CB 35

30 Rmb120 mn JV with 3607.TW 25

20 Rmb521 mn share placements for microphone/speaker capacity Rmb258 mn acquisition 15 of 83% Dynaudio Rmb124 mn acquisition of 10 12.5% Mobvoi Inc.

5 Rmb2.3 bn share placements for speaker,MEMS microphone and 0 3D glasses May-08 Nov-08 May-09 Nov-09 May-10 Nov-10 May-11 Nov-11 May-12 Nov-12 May-13 Nov-13 May-14 Nov-14 May-15

Source: Company data, Credit Suisse research

China Components Sector 26 11 September 2015

Asia Pacific / China Electronic Components & Connectors

Luxshare Precision Industry

Co., Ltd (002475.SZ / 002475 CH) Rating OUTPERFORM INITIATION Price (09 Sep 15, Rmb) 28.42

Target price (Rmb) 35.50¹ Upside/downside (%) 24.9 Mkt cap (Rmb mn) 35,465 (US$ 5,562) Solid portfolio and strong growth Enterprise value (Rmb mn) 35,641 Number of shares (mn) 1,247.90 ■ Initiate with OUTPERFORM. We initiate coverage on Luxshare with an Free float (%) 25.7 OUTPERFORM rating and a Rmb35.5 target price, implying 25% potential 52-week price range 39.7 - 18.0 ADTO - 6M (US$ mn) 78.5 upside. We believe Luxshare is one of the best quality names in our

components coverage, with a well-diversified business matrix, and strong *Stock ratings are relative to the coverage universe in each growth drivers in the sector transition cycle. analyst's or each team's respective sector. ¹Target price is for 12 months. ■ Three reasons for our positive view. (1) Well-diversified portfolio for long-term success: We believe Luxshare owns the best business matrix in

Research Analyst our components coverage, including a clear echelon for the connector Sam Li market and horizontal expansion into accessories, FPC, and auto parts, 852 2101 6775 given its solid execution track record. (2) Strong growth in Apple and Type [email protected] C: We expect a 32% revenue CAGR over 2015-17E, driven by Apple

business and Type C upgrade, which look very impressive amid a slowdown in the industry cycle. (3) Attractive valuation: The stock trades at 25.7x 2016E P/E vs its historical average of 32x and the A-share peers average of 26.8x, with the highest growth (43.9% earnings CAGR over 2015-17E) and ROE (average 22.3%). ■ Catalysts: (1) Mass adoption of Type C at major clients in the PC and smart device markets in the next 12 months. (2) Launch of next-generation wearable products at key clients in 1H16. (3) Achieving the strongest quarterly earnings results within our components coverage. ■ Valuation. Our target price of Rmb35.5 is based on the A-share sector average 2017E P/E of 19.7x and a 20% premium for its sector-high earnings growth and ROE. Key downside risks: Further weakening in global smartphone demand, pricing pressure, execution risks on new businesses, and FX risk.

Share price performance Financial and valuation metrics

Year 12/14A 12/15E 12/16E 12/17E Price (LHS) Rebased Rel (RHS) Revenue (Rmb mn) 7,295.9 9,860.7 13,141.5 16,717.6 40 180 EBITDA (Rmb mn) 1,087.9 1,290.2 1,853.4 2,511.8 30 EBIT (Rmb mn) 877.3 1,064.3 1,546.4 2,114.1 20 130 Net profit (Rmb mn) 630.0 955.6 1,377.4 1,876.3 10 0 80 EPS (CS adj.) (Rmb) 0.80 0.77 1.10 1.50 Sep-13 Jan-14 May-14 Sep-14 Jan-15 May-15 Change from previous EPS (%) n.a. Consensus EPS (Rmb) n.a. 0.82 1.22 1.81 The price relative chart measures performance against the EPS growth (%) 28.9 -4.3 44.1 36.2 Shanghai Shenzhen CSI300 index which closed at 3399.31 on P/E (x) 35.5 37.1 25.7 18.9 09/09/15 On 09/09/15 the spot exchange rate was Rmb6.38/US$1 Dividend yield (%) 0.30 0.30 0.43 0.58 EV/EBITDA (x) 32.8 27.6 19.2 14.0 Performance over 1M 3M 12M P/B (x) 5.1 6.5 5.3 4.3 Absolute (%) -24.5 -25.3 26.9 — ROE (%) 18.2 19.0 22.7 25.0

Relative (%) -7.7 10.7 -12.1 —

Net debt/equity (%) 3.7 3.0 2.3 Net cash Source: Company data, Thomson Reuters, Credit Suisse estimates.

China Components Sector 27 11 September 2015 Focus charts and table

Figure 59: Well diversified non-PC businesses Figure 60: Apple and Type C should be near-term drivers Rmb bn Rmb mn 18 18,000

16 16,000 9%

14 32% CAGR 14,000 2015-17E 7% 12 12,000 39%

10 10,000 5% 41% 8 8,000 39% 6 6,000 35%

4 4,000 27%

2 2,000

0 0 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E 2013 2014 2015E 2016E 2017E PC Connector Consumer Electronics Other Connector Others Apple Type C

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Figure 61: We expect margins to rise in 2016/17E Figure 62: Now trading below historical average

25% 50

45 20%

40 15% +1 SD: 36.2X 35 Average:31.6X 10% 30

5% 25 -1 SD:27.1X

20 0% 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E 15 GM OPM NPM 15-Sep-10 15-Jun-11 15-Mar-12 15-Dec-12 15-Sep-13 15-Jun-14 15-Mar-15

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Figure 63: Luxshare leads in growth and ROE among global peers, while margins still have room to grow Revenue P/E EV/EBITDA Company Ticker GM OPM NPM ROE Div yield (US$ mn) (x) (x) 2014 2015E 2016E 2Y CAGR 2016E 2016E 2016E 2016E 2016E 2016E 12MF Luxshare 002475.SZ 1184.3 1563.7 1999.8 29.9% 22.9% 11.8% 10.5% 22.7% 25.7 19.2 0.4% Hirose 6806.T 1246.7 1143.6 1026.9 -9.2% 44.9% 24.8% 17.1% 7.5% 22.6 7.3 1.8% JAE 6807.T 1593.7 1738.7 1718.5 3.8% 25.3% 14.9% 10.5% 20.6% 8.3 3.1 1.8% Hon Hai 2317.TW 139014.4 145618.7 145100.3 2.2% 7.6% 5.3% 3.6% 15.4% 8.3 3.6 6.4% Foxlink 2392.TW 3004.4 3292.1 3819.6 12.8% 10.6% 1.8% 2.1% 7.0% 12.0 6.5 5.3% TE connectivity TEL.N 13912.0 12392.0 12847.7 -3.9% 34.1% 16.6% 12.2% 16.8% 13.4 10.3 2.0% Amphenol APH.N 5345.5 5611.0 6090.2 6.7% 32.0% 20.0% 13.9% 26.8% 23.1 13.2 1.0% Mean 6.0% 25.3% 13.6% 10.0% 16.7% 16.2 9.0 2.7% Median 3.8% 25.3% 14.9% 10.5% 16.8% 13.4 7.3 1.8% Source: Company data, Bloomberg, Credit Suisse estimates

China Components Sector 28 11 September 2015 Solid portfolio and strong growth We initiate coverage on Luxshare with an OUTPERFORM rating and a Rmb35.5 target price, implying 25% potential upside. We believe the company possesses a well-prepared product portfolio for near-term and long-term growth, solid execution track record, and attractive valuation, and therefore has the most potential to become a long-term winner within the sector. A well-diversified business matrix Luxshare, in our view, is one of the best quality names in our coverage, with a strong and We believe Luxshare well-diversified business portfolio. Thanks to the founder's long-term vision, the company possesses the best has built up a clear echelon in the US$50 bn-plus connector market, from consumer business portfolio and solid electronics to telecoms and auto. It has also successfully expanded into adjacent areas execution track record in our such as accessories, FPC, and auto parts. Its legacy PC connector business is a cash components coverage cow and has outperformed the market all along, while the non-PC businesses represent new engines for achieving high growth in the industry's transition cycle, in our view. Luxshare also has a solid M&A track record in our A-share coverage. After its IPO in 2010, the company has undertaken a series of acquisitions to enter Apple's supply chain, telecoms connector, auto connector, FPC, and auto parts markets, while a few of these investments (such as Apple business and telecoms connectors) have already become important business drivers. This makes Luxshare stand out in the current M&A wave in our A-share coverage universe, in our view. Apple and Type C should drive outperformance In the non-PC space, Apple business and Type C connector/cable are two key mid-term Apple business and Type C drivers of Luxshare's growth (contributing 38%/43.7%/44.2% to total revenue for upgrade are the major mid- 2015/16/17E), in our view. The company has been growing its business with Apple ever term drivers since it acquired Lanto in 2011, and has become a full line supplier of external cables to Apple in 2014. Therefore, we believe Luxshare could be a major beneficiary if Apple further expands its product portfolio in the future. On the other hand, Luxshare is one of the few industry first movers in Type C (USB3.0) standard and is now ramping up the supply of fast-charging cables to Chinese smartphone makers. We believe mass adoption of the full version (with higher ASP) could kick off in 2016/17E, and Luxshare could be a major beneficiary of the trend for its leading position and strong client portfolios. Potentially a long-term winner; OUTPERFORM We forecast a strong 44% net income CAGR for Luxshare over 2015-17E, driven by Strong growth and ROE: Apple, Type C, and operating leverage. At the same time, Luxshare's ROE will rise to 25% OUTPERFORM rating with in 2017 (from 18.4% in 2014), by our estimate, the highest in our component sector TP of Rmb35.5 coverage. We initiate coverage on Luxshare with an OUTPERFORM rating and a Rmb35.5 TP, which is based on A-share components sector's average 2017E P/E of 19.7x and at a 20% premium for its sector-high growth and ROE. Key investment risks: Further weakening of global smartphone demand, pricing pressure, execution risks on new businesses, and FX risk.

China Components Sector 29 11 September 2015

Luxshare Precision Industry Co. 002475.SZ / 002475 CH Price (09 Sep 15): Rmb28.42, Rating: OUTPERFORM, Target Price: Rmb35.50, Analyst: Sam Li Target price scenario Key earnings drivers 12/14A 12/15E 12/16E 12/17E Scenario TP %Up/Dwn Assumptions PC connectors 3,326 3,180 3,279 3,358 Upside Other connectors 3,970 6,680 9,862 13,360 Central Case 35.50 24.91 — — — — Downside — — — —

— — — — Income statement (Rmb mn) 12/14A 12/15E 12/16E 12/17E Per share data 12/14A 12/15E 12/16E 12/17E Sales revenue 7,296 9,861 13,142 16,718 Shares (wtd avg.) (mn) 788 1,248 1,248 1,248 Cost of goods sold 5,597 7,638 10,127 12,833 EPS (Credit Suisse) 0.80 0.77 1.10 1.50 SG&A 822 1,158 1,468 1,770 DPS(Rmb) (Rmb) 0.08 0.08 0.12 0.17 Other operating exp./(inc.) (210.6) (225.9) (306.9) (397.6) BVPS (Rmb) 5.52 4.36 5.34 6.68 EBITDA 1,088 1,290 1,853 2,512 Operating CFPS (Rmb) 0.41 0.85 0.94 1.37 Depreciation & amortisation 210.6 225.9 306.9 397.6 Key ratios and valuation 12/14A 12/15E 12/16E 12/17E EBIT 877 1,064 1,546 2,114 Growth(%) Net interest expense/(inc.) 51.7 4.3 1.8 1.1 Sales revenue 58.9 35.2 33.3 27.2 Non-operating inc./(exp.) 16.4 19.9 29.1 37.8 EBIT 77.3 21.3 45.3 36.7 Associates/JV — — — — Net profit 85.4 51.7 44.1 36.2 Recurring PBT 842 1,080 1,574 2,151 EPS 28.9 (4.3) 44.1 36.2 Exceptionals/extraordinaries 21.8 70.2 58.2 58.2 Margins (%) Taxes 125.1 166.4 240.4 325.7 EBITDA 14.9 13.1 14.1 15.0 Profit after tax 739 984 1,392 1,883 EBIT 12.0 10.8 11.8 12.6 Other after tax income — — — — Pre-tax profit 11.5 11.0 12.0 12.9 Minority interests 108.6 28.2 14.1 7.1 Net profit 8.6 9.7 10.5 11.2 Preferred dividends — — — — Valuation metrics (x) Reported net profit 630 956 1,377 1,876 P/E 35.5 37.1 25.7 18.9 Analyst adjustments — — — — P/B 5.15 6.52 5.32 4.25 Net profit (Credit Suisse) 630 956 1,377 1,876 Dividend yield (%) 0.30 0.30 0.43 0.58 Cash flow (Rmb mn) 12/14A 12/15E 12/16E 12/17E P/CF 69.7 33.5 30.4 20.8 EBIT 877 1,064 1,546 2,114 EV/sales 4.89 3.61 2.71 2.10 Net interest — — — — EV/EBITDA 32.8 27.6 19.2 14.0 Tax paid (125.1) (166.4) (240.4) (325.7) EV/EBIT 40.6 33.5 23.0 16.6 Working capital (518.9) (132.1) (502.5) (534.4) ROE analysis (%) Other cash & non-cash items 87.6 291.9 363.4 454.8 ROE 18.2 19.0 22.7 25.0 Operating cash flow 321 1,058 1,167 1,709 ROIC 16.7 16.1 19.7 22.8 Capex (983) (986) (1,051) (1,087) Asset turnover (x) 0.75 0.90 1.01 1.08 Free cash flow to the firm (662.2) 71.6 115.6 622.2 Interest burden (x) 0.96 1.01 1.02 1.02 Disposals of fixed assets — — — — Tax burden (x) 0.86 0.86 0.85 0.85 Acquisitions (54.4) — — — Financial leverage (x) 1.95 1.87 1.83 1.77 Divestments — — — — Credit ratios Associate investments — — — — Net debt/equity (%) 3.65 3.02 2.34 (3.48) Other investment/(outflows) (731.9) — — — Net debt/EBITDA (x) 0.17 0.14 0.09 (0.12) Investing cash flow (1,769) (986) (1,051) (1,087) Interest cover (x) 17 249 876 1,996 Equity raised 2,011 — — — Source: Company data, Credit Suisse estimates Dividends paid (38.3) (66.6) (105.1) (151.5) Net borrowings 998.5 — — — 12MF P/E multiple Other financing cash flow (64.0) — — — 70 Financing cash flow 2,907 (67) (105) (152) 60 Total cash flow 1,458 5 10 471 Adjustments 24.0 — — — 50 Net change in cash 1,482 5 10 471 40

Balance sheet (Rmb mn) 12/14A 12/15E 12/16E 12/17E 30 Cash & cash equivalents 2,242 2,247 2,258 2,728 Current receivables 2,286 2,732 3,641 4,631 20 Inventories 1,161 1,192 1,525 1,898 10 Other current assets 283.0 283.0 283.0 283.0 0 Current assets 5,972 6,454 7,707 9,540 2010 2011 2012 2013 2014 Property, plant & equip. 2,065 2,833 3,586 4,283 Investments 113.5 133.4 162.5 200.2 Intangibles 928.1 920.1 912.0 903.7 12MF P/B multiple Other non-current assets 613.1 613.1 613.1 613.1 Total assets 9,692 10,954 12,980 15,541 9 Accounts payable 1,754 2,099 2,839 3,667 8 Short-term debt 2,139 2,139 2,139 2,139 7 Current provisions — — — — 6 Other current liabilities 514.6 553.2 599.6 654.5 5 Current liabilities 4,407 4,791 5,577 6,460 4 Long-term debt 284.4 284.4 284.4 284.4 3 Non-current provisions — — — — 2 Other non-current liab. 35.7 35.7 35.7 35.7 1 Total liabilities 4,727 5,111 5,897 6,781 0 Shareholders' equity 4,592 5,443 6,668 8,338 2010 2011 2012 2013 2014 Minority interests 372.2 400.4 414.5 421.6 Source: IBES Total liabilities & equity 9,692 10,954 12,980 15,541

China Components Sector 30 11 September 2015 A well-diversified business matrix Luxshare is a leading connector supplier in China, especially in the consumer electronics A well-diversified business market. Since it was founded in 2004, the company has focused on the connector matrix for near-term and business—perhaps because of its founder's prior experience in Foxconn's cable long-term growth is a key department. However, we note that Luxshare has been focusing on its long-term business feature for Luxshare ever since it went public in 2010. Therefore, the company has built up an impressive business portfolio among its China components sector peers, which we view as a key differentiating factor in the industry transition cycle.

Figure 64: Luxshare revenue breakdown—gradually diversified business portfolio Rmb bn 18

16 32% CAGR 14 2015-17E

0 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E PC Connector Consumer Electronics Other Connector Auto Connector Telecom Connector

Source: Company data, Credit Suisse estimates For its core connector business, Luxshare currently owns a well-structured echelon Luxshare owns a well- compared with only a PC connector business before the IPO—this positions it well in the structured connector global US$50 bn-plus connector market vs other CE-focused peers. While the company business, thanks to its continues to see growth in its legacy PC business—through its strong client base and M&As after IPO product portfolio upgrades—it has already entered the consumer electronics connector, telecoms connector, and auto connector markets through a series of acquisitions. In the global connector market, we find that Luxshare has expanded its TAM over four times in a short period of five years, from a 15% segment (computing) to a 12% one (CE), and further to another 37% market (auto + telecom). The acquisition of CE connector business (Lanto) in 2011 had brought in the Apple business to Luxshare; it now accounts for c.40% of the firm's total revenue. And the addition of telecoms and auto connector businesses (acquired Ke'ertong, Yuanguang, and SuK) provides a very good strategic block for its long-term growth, in our view.

Figure 65: Auto and telecoms are bigger markets than CE… Figure 66: …and Luxshare is prepared

2014 Global connector market breakdown Luxshare 2015 revenue breakdown forecast

Computing Others 15.7% Military/aero 14.6% 6.1% Consumer 12.3% Computing Telecom 15.0% 32% Consumer 51% Industrial 14.2% Others 2% Auto 22.2% Auto Telecom 6% 8%

Source: Bishop & Associates, Credit Suisse estimates Source: Company data, Credit Suisse estimates

China Components Sector 31 11 September 2015

Besides the connector business, Luxshare has been proactively expanding into Luxshare has expanded into complementary areas and has made very impressive achievements. We believe there are complementary businesses, two reasons for this move: (1) the cable assembly market is over twice as big as the such as cable and connector market; and (2) supplying a final integrated product such as cable or accessory accessories… could provide Luxshare more power and know-how through the supply chain. Luxshare's cable and accessory products are mainly for Apple, including MacBook power cable, the Lightning cable, and the Watch wireless charger. It chose Apple as the starting point because of Apple's big volumes and high quality standards. With the success of the Apple business, it is now starting to explore other clients for Type C cables. On the other hand, to diversify its skillset in accessories, it also developed FPC, auto parts, acoustic, antenna, and casing segments, to serve its major business. Given its continued exploration into connector and complementary areas, we believe Luxshare now owns probably the best business matrix within our components coverage, especially against the volatile industry backdrop. Our key driver exposure analysis shows Luxshare could have the highest business exposure to near-term and long-term key growth areas (see Figure 1).

Figure 67: Robust product portfolio built through M&As Sector Subsector 2011 2012 2013 2014

Computer Bo Shuo

Consumer Lanto Speed Tech Connectors Communication Ke’er Tong

Auto Yuan Guang SuK GmbH

FPC Shuang Ying Complements Accessory Toyoshima

Source: Company releases While Luxshare scores high marks on building its business franchise through M&As, the …while internal execution company is very strong on the internal operations and execution front. An example would and management are also be the company's legacy PC connector business: although the PC market has been in strong recession for years, Luxshare has been continuously outperforming the industry by: (1) maintaining or growing shares in key clients, which are also gaining share in the global PC market, such as Lenovo and Apple; and (2) pushing product upgrades with R&D. For example, upgrading USB2.0 to USB3.0 could lift ASP by almost three times. Another example is the expansion of the Apple business, which we explain in detail later, on page 34.

China Components Sector 32 11 September 2015

Figure 68: Luxshare PC connector revenue has Figure 69: …as major PC clients (Lenovo and Apple) have outperformed the PC industry… gained share

100% 80%

80% 60%

60% 40%

40% 20%

7% 7% 20% 5% 6% 0% 5% 4% 5% 21% 21% 3% 3% 4% 14% 17% 18% 6% 7% 7% 8% 10% -20% 0% 2008 2009 2010 2011 2012 2013 2014 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E

Luxshare PC Connector YoY Global PC Revenue YoY Lenovo Apple Others

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Figure 70: Portfolio and execution help Luxshare gain Figure 71: Product upgrades helped PC connector GM market share in the global connector market improve in 2011-14

US$ mn 25% 1800 6.0% 24.6% 24.3% 25%

1500 5.0% 24% 23.6% 23.3% 1200 4.0% 24% 22.9% 23% 900 3.0% 23% 22.2%

600 2.0% 22% 21.7%

22% 300 1.0% 21%

0 0.0% 21% 2010 2011 2012 2013 2014 2015E 20% Luxshare revenue Luxshare market share 2011 2012 2013 2014 2015E 2016E 2017E

Source: Company data, Bishop & Associates, Credit Suisse estimates Source: Company data, Credit Suisse estimates

China Components Sector 33 11 September 2015 Apple and Type C should drive outperformance Given its well-established business portfolio and solid execution, we believe Luxshare is best poised within our coverage for the slow tech cycle. Among the various segments, we expect the Apple business and Type C upgrade to be the two major mid-term drivers in supporting the company's outperformance in the 2015-17E cycle. When Luxshare acquired Lanto in 2011, Lanto only supplied one product (an iPad internal We expect the Apple cable) to Apple. But Luxshare has expanded the range to MacBook power cable, the business to contribute Lightning cable, and the Watch wireless charger in only four years—especially the 39%/41%/39% to total Lightning cable and the Watch charger; we view these two as key milestones that imply revenue in 2015/16/17… Luxshare could become a full-line provider for Apple's external cables, because: (1) the Lightning cable is Apple's No. 1 external cable by volume, and it definitely needs a very stable supply capability with high quality standards; and (2) the Watch wireless charger, as a key accessory for Apple's first wearable product with new technology, also proves Luxshare's leading position in technology and expertise (it is now the exclusive supplier for the charger). Therefore, as we believe product category expansion might be a key trend for the Apple ecosystem in the future, we see Luxshare becoming a major beneficiary of the trend, as a full-line external cable supplier. We expect its Apple business to contribute 39%/41%/39% of total revenue in 2015/16/17 vs 35% in 2014, supported by share gains in Lightning, launch of second-generation of wearables, and more projects in accessories (such as earphone and watch belt).

Figure 72: The development of the Apple business Figure 73: Apple revenue as a percentage of total growth RMB mn 100% 2,000 1859 90% 1,800 27% 35% 39% 39% 1,600 80% 41% 1,400 70% 1154 1,200 60% 1,000 924 50% 781 800 40% 600 30% 400 20% 200 10% 0 0% iPad internal cable Mac power cable lightning Watch wireless 2013 2014 2015E 2016E 2017E 2011 2013 2014 charger 2015E Others % Apple %

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

China Components Sector 34 11 September 2015

Figure 74: Wearables 2Q15 top five vendors—Apple/Xiaomi on the rise Vendor 2Q15 shipment 2Q15 market share 2Q14 shipment Fitbit 4.4 24.3% 1.7 Apple 3.6 19.9% 0 Xiaomi 3.1 17.1% 0 Garmin 0.7 3.9% 0.5 Samsung 0.6 3.3% 0.8 Others 5.7 31.5% 2.6 Total 18.1 100.0% 5.6 Source: IDC Another major driver, the Type C cable, is the next generation USB cable under the …while Type C should USB3.1 standard. Type C cable is an upgrade to the existing Type A/B technologies and contribute another has achieved technological breakthroughs, featuring: 5%/7%/9% to total revenue...

■ Smaller and thinner in size, similar to Apple's Lightning. Such design is in line with consumers' desire for smaller mobile devices.

■ Symmetric and reversible design, with both ends' socket identical to each other. Consumers no longer need to identify which end/direction to use when charging devices with Type C cable.

■ Supportive of USB 3.1 standard, which allows a transmission speed of 10Gbps (double that of USB3.0), with maximum power supply up to 100W. A Type C charging cable will enable a 15-inch laptop to be charged in the same way as a smartphone.

■ The European Commission has set up a regulation in 2009, encouraging smartphones sold in Europe to adopt universal charging cable. The European Parliament has passed a regulation on universal charger in March 2014. If the regulation is approved by the Council of Europe, mobile device manufactures will have to abide by it in 2017. We believe Type C cable is fully compatible to EU's standards for universal charger. We have noticed a trend of fast charging cables in the China smartphone space since 2015. The fast charging cable is a simplified version of Type C, with the same appearance but lower data throughput; therefore, it sells at a much lower price (Rmb15 by our estimates). We view Luxshare as one of the key suppliers in the market, and believe the market will evolve into full version Type C cables (ASP above Rmb40) from 2016, led by key global brands. A third-party research firm, ReportLinker, projects the global external electronic cable market to grow 15.3% to US$8.3 bn in 2015E, and then 27.7% to US$10.6 bn in 2016E, due to the data provider's projection of a quick penetration of Type C USB and Thunderbolt interface.

Figure 75: Type C on MacBook Figure 76: Type C on Lumia phone

Source: Company data Source: Company data

China Components Sector 35 11 September 2015

Figure 77: A collection of China smartphones with fast charging or Type C Company Xiaomi OPPO ZTE Meizu LeTV Model name Xiaomi Note R7 AXON Pro MX5 Le Max

Image

Date of release Jan,2015 May,2015 Aug,2015 Jul,2015 Jul,2015 Operating System Android 4.4 Android 4.4 Android 5.1 Android 5.0 Android 5.0 Pixels 1920x1080 1920x1080 2560x1440 1920x1152 2560x1440 RAM 3GB 3GB 4GB 3GB 4GB Storage 16GB 16GB 32GB 16GB 32GB Display 5.7'' 5.5'' 6'' 5.5'' 6.33" Camera 13MP+4MP 13MP+8MP 13MP+5MP 20.7MP+5MP 21MP+4MP Battery 3000mAh 3000mAh 3200mAh 3150mAh 3400mAh CPU Speed 2.5GHz 2GHz 2.3GHz 2.2GHz 2.0GHz Processor Chip 801 810 801 MT6795 810 Multi-core Quad Octa Quad Octa Octa Dual SIM Yes Yes Yes Yes Yes Metal casing/Fingerprint No/No Yes/No Yes/Yes Yes/Yes Yes/Yes Sale Price 1999 2,699 2,998 1,999 2,999 Source: Company data, Credit Suisse research

Figure 78: Apple Type C contribution to total revenue… … Figure 79: ...should help lift non-PC GM Rmb mn 25.00% 23.2% 18,000 22.7% 21.9% 22.2% 21.7% 16,000 9% 19.1% 20.00% 14,000 7% 15.9% 12,000 39% 15.00% 10,000 5% 41% 8,000 39% 10.00% 6,000 35%

4,000 27%

2,000 5.00%

0 2013 2014 2015E 2016E 2017E 0.00% Others Apple Type C 2011 2012 2013 2014 2015E 2016E 2017E

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

China Components Sector 36 11 September 2015 Potentially a long-term winner; OUTPERFORM We expect a 32% CAGR for Luxshare's top line over 2015-17E, mainly driven by its non- Strong top line and PC business, while the PC connector business should basically stay flat. Within the non- operating leverage should PC business, Apple and Type C are the major drivers, achieving a 58% CAGR in the drive a 43.9% net income period and accounting for 55% of non-PC revenue by 2017E. CAGR over 2015-17E

Figure 80: Revenue forecasts breakdown (Rmb mn) 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E PC Connector 273.8 504.2 414.5 647.8 2,063.1 2,590.8 3,086.5 3,325.9 3,180.3 3,279.4 3,357.7 GM 22.2% 21.7% 22.9% 24.6% 24.3% 23.6% 23.3%

Other Connector 77.2 126.1 170.2 362.8 492.5 556.4 1,505.1 3,970.0 6,680.3 9,862.1 13,360.0 GM 21.9% 19.1% 15.9% 22.2% 21.7% 22.7% 23.2%

Total revenue 351.1 630.3 584.7 1,010.5 2,555.6 3,147.2 4,591.7 7,295.9 9,860.7 13,141.5 16,717.6 Growth YoY 80% -7% 73% 153% 23% 46% 59% 35% 33% 27% GM 19.2% 19.0% 21.6% 18.8% 22.1% 21.2% 20.6% 23.3% 22.5% 22.9% 23.2% Source: Company data, Credit Suisse estimates

Figure 81: Luxshare revenue forecasts Figure 82: Luxshare net income forecasts

Rmb bn Rmb bn 2.0 150% 18 160% 1.8 135% 16 140% 1.6 120% 14 120% 1.4 105% 12 100% 1.2 90% 10 80% 1.0 75% 8 60% 0.8 60% 6 40% 0.6 45% 4 20% 0.4 30% 2 0% 0.2 15% 0 -20% 0.0 0% 2007 2008 2009 2010 2011 2012 2013 2014 2015E2016E2017E 2007 2008 2009 2010 2011 2012 2013 2014 2015E2016E2017E Revenue YoY Net income YoY

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates On the margin side, Luxshare's GM declined to a trough level (19.3%) of the past five quarters in 2Q15. But we believe this was mainly due to the lower-than-expected utilisation rate of the Watch business. We think the company can gradually relieve this pressure as iPhone-related product (Lightning) volumes should come up from 3Q. For 2016 and beyond, we expect the next-generation wearable products and other new projects to help Luxshare reach a higher utilisation rate in its Kunshan factories. Therefore, we expect a GM recovery trend for the non-PC business over 2015-17E, which could offset the GM pressure at its PC business and lead the overall GM to rise slightly for the period. For OPM and NPM, as we believe that the investment peak for Apple projects has somehow gone, and that Luxshare has bought most of its minority interests into the listed company in the past two years, we expect an operating leverage, and therefore OPM/NPM should rise for the 2015-17E period.

China Components Sector 37 11 September 2015

Figure 83: We expect GM to improve in 2016/17E… Figure 84: …and OPM/NPM to rise accordingly

30% 25%

25% 20%

20% 15% 15% 10% 10%

5% 5%

0% 0% 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E

PC Connector GM Other Connector GM Overal GM GM OPM NPM

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates In addition, for the long run, we believe there is room for Luxshare's overall GM to rise, because: (1) if Luxshare could increase its auto and telecoms connector ratio in overall income, we believe it is possible to get its GM closer to market leaders such as TE Connectivity and Amphenol (at the 30%+ level); and (2) Luxshare acquired a 21% stake in Speed Tech (5457.TW, not covered) for the board connector business. If the revenue ratio from board connectors could rise in the future, we believe there could also be upside for the overall GM, since Hirose (6806.T, covered by Akinori Kanemoto), the industry leader in board connectors, has a GM of over 40%.

Figure 85: Luxshare GM still has room to improve Figure 86: While opex % is lower than global peers

50% 30%

45% 25%

40% 20% 35% 15% 30% 10% 25%

20% 5%

15% 0% 2011 2012 2013 2014 2011 2012 2013 2014

TE Connectivity Amphenol Hirose TE Connectivity Amphenol Hirose JAE Luxshare JAE Luxshare

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates Based on the revenue and margin assumptions above, we estimate a 43.9% net income CAGR over 2015-17, the strongest in our coverage. At the same time, we expect its ROE to rise to 25% in 2017E from 18.2% in 2014, which is also the highest within the coverage. Our target price of Rmb35.5 is based on the sector average 2017E P/E of 19.7x, plus 20% Initiate with OUTPERFORM premium for its highest growth and ROE. Our TP implies 32x 2016E P/E for Luxshare, for its leading business which equals to its historical average of 32x. We initiate with an OUTPERFORM rating for portfolio, strong growth, and its leading business portfolio, strong growth, and attractive valuation. valuation

China Components Sector 38 11 September 2015

Figure 87: Historical share price performance

Jun-15 Jun-11 Jun-12 Jun-13 Jun-14

Sep-12 Sep-10 Sep-11 Sep-13 Sep-14

Dec-10 Dec-11 Dec-12 Dec-13 Dec-14

Mar-13 Mar-11 Mar-12 Mar-14 Mar-15

Source: Company data

Figure 88: Now trading below the historical average Figure 89: P/B vs ROE—ROE keeps improving 50 8.0 27.0%

7.0 24.0% 45 21.0% 6.0 40 18.0% 5.0 +1 SD: 36.2X 15.0% 35 4.0 Average:31.6X 12.0% 3.0 30 9.0% 2.0 6.0% 25 -1 SD:27.1X 1.0 3.0% 20 0.0 0.0% 15-Sep-10 15-Sep-12 15-Sep-14 15-Sep-16 15 15-Sep-10 15-Jun-11 15-Mar-12 15-Dec-12 15-Sep-13 15-Jun-14 15-Mar-15 P/B ROE (RHS)

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Figure 90: Luxshare leads in growth and ROE in global peers, while margins still space to go Revenue P/E EV/EBITDA Company Ticker GM OPM NPM ROE Div yield (US$ mn) (x) (x) 2014 2015E 2016E 2Y CAGR 2016E 2016E 2016E 2016E 2016E 2016E 12MF Luxshare 002475.SZ 1184.3 1563.7 1999.8 29.9% 22.9% 11.8% 10.5% 22.7% 25.7 18.2 0.4% Hirose 6806.T 1246.7 1143.6 1026.9 -9.2% 44.9% 24.8% 17.1% 7.5% 22.6 6.7 1.9% JAE 6807.T 1593.7 1738.7 1718.5 3.8% 25.3% 14.9% 10.5% 20.6% 8.3 2.9 1.9% Hon Hai 2317.TW 139014.4 145618.7 145100.3 2.2% 7.6% 5.3% 3.6% 15.4% 8.3 3.4 6.6% Foxlink 2392.TW 3004.4 3270.5 3908.3 14.1% 10.8% 1.8% 2.1% 6.8% 12.0 6.4 5.8% TE connectivity TEL.N 13912.0 12392.0 12870.5 -3.8% 34.0% 16.6% 12.2% 16.8% 13.4 10.1 2.0% Amphenol APH.N 5345.5 5611.0 6090.2 6.7% 32.0% 20.0% 13.9% 26.9% 23.1 13.2 1.0% Mean 6.2% 25.4% 13.6% 10.0% 16.7% 16.2 8.7 2.8% Median 3.8% 25.3% 14.9% 10.5% 16.8% 13.4 6.7 1.9% Source: Company data, Credit Suisse estimates

China Components Sector 39 11 September 2015 Investment risks We see four key risks to our view on Luxshare, and therefore will keep a close watch on Four key risk factors them:

■ Weakening demand for key clients' products: Luxshare earns a sizeable portion of its revenue from several key clients. Despite the slowing global smartphone demand, these key clients have delivered stable results and outperformed the market. If demand for their products weakens together with the global trend, it might negatively affect Luxshare's top line and earnings.

■ Pricing pressure: Luxshare's gross margins have been stable over the past few years, thanks to its well-established business portfolio. However, if competition intensifies within the connector industry, or key clients choose to further diversify their suppliers, the company may face pricing pressure and overall profitability may get squeezed.

■ Execution risks on new businesses: Despite Luxshare's track record of penetrating a new market through acquisition, we still consider M&A projects overall as highly uncertain, and it calls for management's careful execution to succeed. Execution remains one of the key issues that we will closely watch out for.

■ FX risk: As most global supply-chain companies, Luxshare's overseas sales are recognised in USD, which takes up around 80% of its total revenue. Therefore, FX rate changes between RMB and USD might negatively affect both top line and competencies. Overall, RMB depreciation is positive for supply-chain companies, as their pricing is locked against the USD for a certain period, and the depreciation could bring higher competency vs other regions' suppliers.

China Components Sector 40 11 September 2015 Appendix Company background Luxshare was cofounded by Luxshare Ltd and Zixin investment. Luxshare Ltd is owned by Laichun Wang and Laisheng Wang. Ms Laichun Wang is the actual owner of the company. Zixin is jointly owned by the management team consisting of 20 key employees. Ms Laichun Wang had worked in Foxconn's cable department for ten years before she established her own business in 1997. She has over 25 years' experience in the connector industry and possesses extensive managerial experience and industry expertise. She was honoured as the vice president of Shenzhen's Electronic Industry Association. Mr Laisheng Wang, elder brother of Ms Wang, has over ten years' retailing experience by running his own business before he jointly established Luxshare.

Figure 91: Shareholding structure after IPO Laichun Wang, Foxlink Laisheng Wang

100% 100% Zixin Investment Luxshare Ltd Fugang Electric Public shareholders

5.8% 66.7% 2.3% 25.2%

Luxshare

Source: Company data

Figure 92: Current shareholding structure (1H15) Laichun Wang, Foxlink Laisheng Wang

100% 100% Zixin Investment Luxshare Ltd Fugang Electric Public shareholders

2.78% 57.75% 0.94% 38.53%

Luxshare

Source: Company data

Figure 93: Luxshare product portfolio summary Connectors

PC Connectors Other Connectors

Power USB Smartphone Telecom Auto

Source: Company data

China Components Sector 41 11 September 2015

Asia Pacific / China Electronic Components & Connectors

BYD Electronic (International)

Company Limited (0285.HK / 285 HK) Rating NEUTRAL* [V] INITIATION Price (09 Sep 15, HK$) 4.78

Target price (HK$) 5.00¹ Upside/downside (%) 4.6 Street expectations are still too high Mkt cap (HK$ mn) 10,770 (US$1,390 mn) Enterprise value (Rmb mn) 6,790 ■ Initiate with NEUTRAL. We initiate coverage on BYDE with a NEUTRAL Number of shares (mn) 2,253.20 rating and HK$5 target price, implying 5% potential upside. We see further Free float (%) 27.1 52-week price range 13.52-4.15 downside risks for street expectations on metal casing. The stock lacks ADTO - 6M (US$ mn) 10.4 catalysts in the near term, even after a recent sharp correction.

■ Expectations are still too high. Our 2015-17E EPS is 31-40% below IBES *Stock ratings are relative to the coverage universe in each analyst's or each team's respective sector. consensus due to (1) Demand uncertainty: Over 50% of BYDE's metal ¹Target price is for 12 months. casing business relies on Samsung's demand, especially the high-end. The [V] = Stock considered volatile (see Disclosure Appendix). business is of a high beta nature as Samsung prefers internal sourcing. (2) Research Analyst Profitability as a new concern: BYDE's accelerated capex (Rmb2 bn in Sam Li 1H15) against demand uncertainty, and reported disappointing GM (10.1% 852 2101 6775 [email protected] in 1H15 vs 11.7% in 1H14) in 1H results, causes us concern on future margin performance. (3) Earnings highly sensitive to two factors: Our sensitivity analysis on Samsung's mid/low-end adoption rate and metal casing GM suggests very high sensitivity for BYDE's earnings on these two factors, which keeps us from turning more positive before we have better visibility on these variables. ■ Catalysts. We see demand pick-up in Samsung's high-end models and China's smartphone flagship model launches (Huawei, Lenovo, BBK and Xiaomi) in 2H15 to be positive catalysts. However, we would rather wait for more visibility on Samsung's mid-end adoption rate and GM to become more positive. ■ Valuation. Our target price of HK$5 is based on BYDE's historical average P/E of 9x versus industry peers at 10.8x. Key risks include client concentration risk, product design changes, pricing pressure and FX risk.

Share price performance Financial and valuation metrics

Year 12/14A 12/15E 12/16E 12/17E Price (LHS) Rebased Rel (RHS) Revenue (Rmb mn) 19,832.1 20,335.2 22,620.2 24,372.6 20 400 EBITDA (Rmb mn) 1,753.7 1,870.6 2,270.8 2,392.2 15 300 EBIT (Rmb mn) 847.1 671.7 1,031.0 1,146.7 10 200 Net profit (Rmb mn) 770.4 615.8 926.2 1,032.7 5 100 EPS (CS adj.) (Rmb) 0.34 0.27 0.41 0.46 0 0 Sep-13 Jan-14 May-14 Sep-14 Jan-15 May-15 Change from previous EPS (%) n.a. Consensus EPS (Rmb) n.a. 0.56 0.70 0.76 The price relative chart measures performance against the EPS growth (%) 52.1 -20.1 50.4 11.5 MSCI CHINA F IDX which closed at 6100.57 on 09/09/15 P/E (x) 11.5 14.4 9.6 8.6 On 09/09/15 the spot exchange rate was HK$7.75/US$1 Dividend yield (%) 0.0 0.9 1.2 1.4 EV/EBITDA (x) 4.1 3.6 2.5 1.8 Performance over 1M 3M 12M P/B (x) 0.92 0.85 0.78 0.71 Absolute (%) -31.8 -57.7 -40.2 — ROE (%) 8.3 6.2 8.5 8.7

Relative (%) -21.4 -33.5 -30.0 —

Net debt/equity (%) Net cash Net cash Net cash Net cash Source: Company data, Thomson Reuters, Credit Suisse estimates.

China Components Sector 42 11 September 2015 Focus charts and tables

Figure 94: Metal casing is a major driver Figure 95: GM/OPM/NPM is slightly picking up Rmb mn 35% 30,000 10% CAGR 30% 2015-17E 25,000 25%

20,000 20%

15,000 15%

10% 10,000

5% 5,000 0% 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015E2016E2017E 0 2011 2012 2013 2014 2015E 2016E 2017E GM OPM NPM Plastic casing Metal casing

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Figure 96: Our sensitivity analysis of 2016E EPS on GM and Samsung adoption rate Samsung mid-low-end metal casing adoption rate 11% 13% 15% 17% 19% 17.5% -32.8% -24.5% -16.1% -7.7% 0.6% Metal 18.5% -26.3% -17.2% -8.0% 1.1% 10.2% casing 19.5% -19.8% -9.9% 0.0% 9.9% 19.8% GM 20.5% -13.2% -2.6% 8.0% 18.7% 29.3% 21.5% -6.7% 4.7% 16.1% 27.5% 38.9% Source: Credit Suisse estimates

Figure 97: We are 28–38% below consensus Figure 98: Now trading below historical average 0.8 26

0.7 22 0.6 18 0.5

0.4 0.76 14 0.70 +1 SD: 11.9X 0.3 0.56 0.54 0.49 10 Average: 9X 0.2 0.35 6 0.1 -1 SD: 6.0X

0.0 2 2015E 2016E 2017E

31-Jul-08 31-Jul-09 31-Jul-10 31-Jul-11 31-Jul-12 31-Jul-13 31-Jul-14 31-Jul-15 CS Consensus (2)

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Figure 99: BYDE has slower growth and much lower ROE vs industry peers Mkt cap TP Current Po. up/ P/E (x) P/B (x) ROE (%) NI Div Company Ticker Rating Price CAGR yld US$mn (lc) down 15E 16E 17E 15E 16E 17E 15E 16E 17E (lc) 15-17E 15E BYDE 0285.HK N 1,390 5.0 4.78 5% 11.3 8.1 7.3 0.9 0.8 0.7 7.8% 10.1% 10.2% 10.6% 1.1% Catcher 2474.TW O 7,923 431.0 337.50 28% 12.1 11.6 10.9 2.4 2.0 1.8 20.5% 18.7% 17.4% 9.8% 2.1% Casetek 5264.TW O 1,475 190.0 141.00 35% 10.7 9.1 7.5 1.6 1.5 1.3 15.3% 16.9% 18.7% 9.1% 5.9% Everwin 300115.SZ NR 2,663 NA 30.55 NM 33.0 23.9 17.8 5.6 4.7 3.9 17.3% 19.9% 22.4% 48.7% 0.5% Tongda 0698.HK NR 938 NA 1.27 NM 10.1 7.9 6.5 1.7 1.5 1.3 17.5% 18.9% 19.6% 20.9% 3.1% Ju Teng 3336.HK NR 510 NA 3.39 NM 4.7 4.1 3.8 0.5 0.5 0.4 10.5% 10.7% 10.7% 11.0% 4.5% Average 13.6 10.8 9.0 2.1 1.8 1.6 14.8% 15.9% 16.5% 18.3% 2.9% Median 11.0 8.6 7.4 1.7 1.5 1.3 16.3% 17.8% 18.1% 10.8% 2.6% Note: Priced as of 9 September 2015. Source: IBES, Credit Suisse estimates.

China Components Sector 43 11 September 2015 Street expectations are still too high We initiate coverage on BYDE with a NEUTRAL rating and HK$5 target price, implying 5% potential upside. We see further downside risks for street expectations on metal casing. The stock lacks catalysts in the near term, although the share has corrected two-thirds in the past two months. Disappointing performance on casing story BYDE's investment focus is now all on the metal casing business that it started in 2013. Although metal casing is Although the metal casing business is theoretically a driver for revenue and margin theoretically a positive improvements, BYDE's performance has been disappointing in the past two years. While catalyst, BYDE's client volatility and utilisation rate have been major causes for underperformance, we have performance has been some concerns on the company's strategy and execution in such a volatile environment, disappointing in the past two because of (1) Demand uncertainty: Over 50% of BYDE's metal casing business relies years on Samsung, especially the high-end Galaxy S and Note series, which have been sluggish recently. More importantly, BYDE is competing with Samsung's internal supply from the Vietnam factory. Hence, any demand fluctuations would put BYDE at a higher risk as Samsung would prioritise its own supply. (2) Profitability a new concern: Despite the sluggish demand at Samsung's high end, BYDE accelerated its capex (Rmb2 bn) in 1H15 and reported disappointing GM (10.1% in 1H15 vs 11.7% in 1H14) in its 1H results, while metal casing as % of total revenue climbed to 44% vs 20% in 1H14. This unfavourable trend puts the market's prior expectations (of overall GM improvement driven by metal casing) at danger, in our view. Ultra-high sensitivity on adoption rate and GM Since Samsung's adoption rate of metal casing in its mid-end series and the GM And its earning sensitivity on performance are the two key variables in our earnings forecasts, we implement a two uncertain factors is too sensitivity analysis on these two key factors. The analysis suggests 10% earning change high. on 2% adoption rate change, and 8% earnings elasticity on 1% GM change. Worst case (adoption rate down 4% and GM down 2% vs base case) would drag down net income close to 30% for 2016E. This high sensitivity, plus the uncertainty on the two factors, keeps us from turning more positive before we have better visibility. NEUTRAL on potential further misses We forecast 11% EPS CAGR for 2015–17E, with ROE remaining at the 8–9% level, driven Our EPS is well below street by strong growth in metal casing and recovery at ODM, but margin improvement is very consensus. Initiate with slow. We are 31–40% below IBES consensus for the three years, as we expect sluggish NEUTRAL demand at Samsung's high end, and very slow margin improvement at metal casing due to prior heavy capex. Our target price of HK$5 is based on 9X historical average P/E, below industry peers of 10.8x, which could be justified by BYDE's lower growth and ROEs. Initiate with a NEUTRAL rating. Investment risks: Client concentration risk, product design changes, pricing pressure and FX risk.

China Components Sector 44 11 September 2015

BYD Electronic (International) Company Limited 0285.HK / 285 HK Price (09 Sep 15): HK$4.78, Rating: OUTPERFORM [V], Target Price: HK$5.00, Analyst: Sam Li Target price scenario Key earnings drivers 12/14A 12/15E 12/16E 12/17E Scenario TP %Up/Dwn Assumptions Components and modules 11,477 12,532 12,972 13,443 Upside Assembly services 11,143 11,841 12,129 12,432 Central Case 5.00 4.60 — — — — Downside — — — —

— — — — Income statement (Rmb mn) 12/14A 12/15E 12/16E 12/17E Per share data 12/14A 12/15E 12/16E 12/17E Sales revenue 19,832 20,335 22,620 24,373 Shares (wtd avg.) (mn) 2,253 2,253 2,253 2,253 Cost of goods sold 17,727 18,288 20,126 21,669 EPS (Credit Suisse) 0.34 0.27 0.41 0.46 SG&A 1,258 1,375 1,463 1,557 DPS(Rmb) (Rmb) — 0.03 0.05 0.05 Other operating exp./(inc.) (907) (1,199) (1,240) (1,246) BVPS (Rmb) 4.29 4.60 5.04 5.53 EBITDA 1,754 1,871 2,271 2,392 Operating CFPS (Rmb) 0.58 1.14 0.96 1.03 Depreciation & amortisation 907 1,199 1,240 1,246 Key ratios and 12/14A 12/15E 12/16E 12/17E EBIT 847 672 1,031 1,147 valuation Net interest expense/(inc.) (99.8) (80.7) (74.1) (74.1) Growth(%) Non-operating inc./(exp.) — — — — Sales revenue 23.5 2.5 11.2 7.7 Associates/JV — — — — EBIT 31.7 (20.7) 53.5 11.2 Recurring PBT 947 752 1,105 1,221 Net profit 52.1 (20.1) 50.4 11.5 Exceptionals/extraordinaries (66.0) (29.4) (29.4) (21.7) EPS 52.1 (20.1) 50.4 11.5 Taxes 110.5 107.2 149.5 166.4 Margins (%) Profit after tax 770 616 926 1,033 EBITDA 8.8 9.2 10.0 9.8 Other after tax income — — — — EBIT 4.27 3.30 4.56 4.70 Minority interests — — — — Pre-tax profit 4.77 3.70 4.89 5.01 Preferred dividends — — — — Net profit 3.88 3.03 4.09 4.24 Reported net profit 770 616 926 1,033 Valuation metrics (x) Analyst adjustments — — — — P/E 11.5 14.4 9.6 8.6 Net profit (Credit Suisse) 770 616 926 1,033 P/B 0.92 0.85 0.78 0.71 Cash flow (Rmb mn) 12/14A 12/15E 12/16E 12/17E Dividend yield (%) — 0.89 1.24 1.38 EBIT 847 672 1,031 1,147 P/CF 6.84 3.45 4.11 3.83 Net interest — — — — EV/sales 0.36 0.33 0.25 0.18 Tax paid (110.5) (107.2) (149.5) (166.4) EV/EBITDA 4.06 3.63 2.52 1.83 Working capital (1,077) 753 (12) 36 EV/EBIT 8.4 10.1 5.6 3.8 Other cash & non-cash items 1,636 1,250 1,284 1,298 ROE analysis (%) Operating cash flow 1,296 2,568 2,154 2,314 ROE 8.33 6.15 8.52 8.67 Capex (1,960) (2,237) (1,018) (853) ROIC 10.4 7.1 10.8 12.2 Free cash flow to the firm (664) 331 1,136 1,461 Asset turnover (x) 1.18 1.18 1.20 1.19 Disposals of fixed assets — — — — Interest burden (x) 1.12 1.12 1.07 1.06 Acquisitions — — — — Tax burden (x) 0.87 0.85 0.86 0.86 Divestments — — — — Financial leverage (x) 1.74 1.66 1.66 1.64 Associate investments — — — — Credit ratios Other investment/(outflows) 95.9 — — — Net debt/equity (%) (18.0) (20.0) (27.5) (36.0) Investing cash flow (1,864) (2,237) (1,018) (853) Net debt/EBITDA (x) (0.99) (1.11) (1.38) (1.87) Equity raised — — — — Interest cover (x) (8.5) (8.3) (13.9) (15.5) Dividends paid (64.9) — (78.6) (109.6) Net borrowings — — — — Source: Company data, Credit Suisse estimates. Other financing cash flow (5.5) — — — Financing cash flow (70.4) — (78.6) (109.6) 12MF P/E multiple Total cash flow (639) 331 1,057 1,351 18 Adjustments 3.5 — — — 16 Net change in cash (635) 331 1,057 1,351 14 Balance sheet (Rmb mn) 12/14A 12/15E 12/16E 12/17E 12 Cash & cash equivalents 1,740 2,071 3,128 4,479 10 Current receivables 5,274 4,466 4,968 5,353 8 Inventories 2,439 2,068 2,166 2,272 6 Other current assets 1,395 1,395 1,395 1,395 4 Current assets 10,848 10,001 11,657 13,500 2 Property, plant & equip. 4,697 5,909 5,860 5,657 0 Investments — — — — 2010 2011 2012 2013 2014 2015 Intangibles 20.6 17.2 14.3 11.9 Other non-current assets 1,269 1,269 1,269 1,269 Total assets 16,834 17,195 18,800 20,437 12MF P/B multiple Accounts payable 5,170 4,745 5,332 5,859 Short-term debt — — — — 2.5 Current provisions — — — — Other current liabilities 1,999 2,078 2,109 2,121 2.0 Current liabilities 7,169 6,823 7,441 7,981 1.5 Long-term debt — — — — Non-current provisions — — — — 1.0 Other non-current liab. — — — — Total liabilities 7,169 6,823 7,441 7,981 0.5 Shareholders' equity 9,665 10,372 11,359 12,457 Minority interests — — — — 0.0 Total liabilities & equity 16,834 17,195 18,800 20,437 2010 2011 2012 2013 2014 2015

Source: IBES

China Components Sector 45 11 September 2015 Disappointing performance on casing story Historically, BYDE was mainly an assembly and component vendor for mobile devices with Huawei, Nokia and Motorola as major clients. Starting from 2013, due to the adoption of metal casing in HTC One, BYDE has moved its strategic focus onto metal casing and started investing heavily into the business.

Figure 100: BYDE revenue breakdown—it's all about metal casing Rmb mn 30,000 10% CAGR 2015-17E 25,000

20,000

15,000

10,000

5,000

0 2011 2012 2013 2014 2015E 2016E 2017E Plastic casing Metal casing EMS ODM

Source: Company data, Credit Suisse estimates Theoretically, metal casing is a very good opportunity for BYDE to improve its business Metal casing is theoretically mix and to lift its margin performance. The industry is in strong demand, due to the a good chance for BYDE to upgrade trends on appearance. While Apple mainly uses the TW supply chain, the rapid improve its business mix adoption rise in the Android camp including Samsung and China smartphone forms very good demand on BYDE's metal casing capacity. In addition, the metal casing business normally runs at a higher GM (c45% for Catcher, c25% for Casetek, and 23% for BYDE in 2014) vs that of BYDE's assembly business (5.4% for 2014). However, the real development of BYDE's metal casing business has been disappointing But BYDE has been missing overall in the past three years, in our view. While client volatility and utilisation rate have expectations on metal been major causes for the underperformance, we also have some concerns on the casing, due to client company's strategy and execution in such a volatile environment, because: demand and its own strategy/execution reasons, ■ Over focus on Samsung: BYDE sees Samsung as its No.1 priority client in the metal in our view casing business, which we understand is because of Samsung's potential high volume, if the adoption rate at mid-end ramps up. However, we believe that a balanced strategy between Samsung and the China smartphone camp might be better, due to the strong demand for casing in the China smartphone segment and also the uncertainty of Samsung's adoption progress. For example, Everwin (300115.SZ, Not rated) who is focused on China smartphone, reported 1H15 revenue/net income of Rmb1.8 bn/Rmb218 mn (up 95%/75% YoY) with only 3,000 CNCs.

■ Unmatched capex and demand: Related to its strategic focus on Samsung, with potentially high volume, BYDE accelerated its capex in the past two years (Rmb1 bn/Rmb2 bn/Rmb2 bn for 2013, 2014 and 1H15) and increase CNC machines to 16,000–17,000. We believe that this aggressive capex progress was not well matched with orders, and therefore caused a serious utilisation rate issue for the company, which we can see from BYDE's disappointing GM performance (the lowest among

China Components Sector 46 11 September 2015

major peers). For 1H15, the company reported blended GM of 10.1% (vs 11.7% in 1H14). We estimate that the metal casing GM has declined to 17.8% vs 27.5% in 1H14 due to heavy depreciation and utilisation pressures.

Figure 101: A collection of China's smartphone flagship models with metal casings or rims Company Xiaomi Xiaomi Huawei Huawei OPPO vivo Lenovo ZTE Meizu LeTV Model name Note Mi4 P8 Mate 7 R7 X5 Pro VIBE Shot AXON Pro MX5 Le Max

Image

Figure 102: Price corrected for Samsung high-end Figure 103: Samsung growth mainly in mid/low-end weakness HK$ 16 120

14 100

12 80

10 60

8 40 6 20 4 0

3Q12 4Q13 1Q11 2Q11 3Q11 4Q11 1Q12 2Q12 4Q12 1Q13 2Q13 3Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15

4Q15E 3Q15E 1Q16E 2Q16E 3Q16E 4Q16E 0 20-Dec-07 20-Mar-09 20-Jun-10 20-Sep-11 20-Dec-12 20-Mar-14 20-Jun-15 Samsung SP shipment, mn

Source: Company data Source: Company data, Credit Suisse estimates

China Components Sector 47 11 September 2015

Figure 104: Huawei and vivo gaining market share Figure 105: Casing companies' 1H results summary

100% Rmb mn Revenue Net income 90% 8,000 120%

80% 7,000 100% 70% 6,000 80% 60% 48% 50% 41% 43% 5,000 60% 36% 39% 40% 40% 31% 33% 26% 4,000 40% 30% 24% 3,000 20% 20% 10% 2,000 0% 0% 1,000 -20% 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 Huawei Xiaomi 0 -40% OPPO vivo Catcher Casetek Everwin Catcher Casetek Everwin Other China brands New Big Four % 1H14 1H15 YoY (RHS)

Source: IDC Source: Company data, Credit Suisse estimates Looking forward, we see two concerns on the metal casing business, of which one has Demand uncertainty and been around in the market for a while, and the other just emerged after 1H15 results: margin performance are the two major concerns on the ■ Demand uncertainty: Over 50% of BYDE's metal casing business now relies on metal casing business Samsung, especially the high-end Galaxy S and Note series, which have been sluggish recently. More importantly, BYDE is competing with Samsung's internal supply at the Vietnam factory. Hence, any demand fluctuations would put BYDE at a higher risk as Samsung would prioritise its own supply. On the other hand, we expect a steady increase in China's smartphone demand on metal casing.

■ Profitability a new concern: As we mentioned above, metal casing's GM came down to 17.8% in 1H15 from 27.5% one year ago. The Rmb2 bn capex in 1H, together with volatile demand, would lead to further pressure on margin in 2H and beyond. A summary of industry peers' 1H15 results shows that Catcher and Everwin had good top line and bottom line growth, while Casetek might have a similar yield issue on margins.

Figure 106: BYDE's increasing capex… Figure 107: …yet average sales/CNC is decreasing Rmb, mn Units Rmb mn/unit 25000 1.5 2500.0 12.0%

10.0% 20000 1.2 2000.0

8.0% 1500.0 15000 0.9 6.0% 1000.0 10000 0.6 4.0%

500.0 2.0% 5000 0.3

0.0 0.0% 0 0 2012 2013 2014 2015E 2013 2014 1H2015 2015E 2013 2014 1H2015 2015E Capex Capex to sales No. of CNC Metal Casing Sales/CNC

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

China Components Sector 48 11 September 2015

Figure 108: BYDE capex/casing sales ratio 2011–1H15 Figure 109: …yet casing GM lower than peers among the highest in peers

60% 50% 45% 50% 40% 35% 40% 30% 30% 25% 20% 20% 15% 10% 10% 5% 0% 0% 2011 2012 2013 2014 1H2015 2011 2012 2013 2014 1H2015

Catcher Casetek BYDE Catcher Casetek BYDE

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

China Components Sector 49 11 September 2015 Ultra-high sensitivity on adoption rate and GM As our analysis suggests, Samsung's demand and GM are the two key swing factors for Ultra high sensitivity on BYDE's metal casing, and thereafter overall earnings performance. We introduce a Samsung's adoption rate. sensitivity analysis to check the risk-reward on these two factors. GM is another concern for us Basically we assume that all other conditions are fixed, and set a 15% metal casing adoption rate for Samsung's mid/low-end smartphones in 2016 with a 19.5% GM for the overall metal casing business as our base case. Another key underlying assumption is that we assume Samsung's internal supply to stay at a fixed volume. Therefore, no matter whether the real adoption rate is higher or lower than our base case, BYDE would have a higher beta in Samsung's orders, which reflects market concern on the competition with Samsung's internal supply, in our view. Our test results show a very high sensitivity of BYDE's 2016E earnings on these two factors. Basically every 2% adoption rate change could affect earnings by 10%, and every 1% GM change would affect earnings by 8%. Therefore, worst case, if Samsung's mid/low-end adoption rate, no matter for demand reason or margin consideration, is 11% and BYDE's metal casing at 17.5% GM, its 2016E net income would be 33% lower than our base case of Rmb1.1 bn.

Figure 110: Our sensitivity analysis of 2016E EPS on GM and Samsung adoption rate Samsung mid-low-end metal casing adoption rate 11% 13% 15% 17% 19% 17.5% -32.8% -24.5% -16.1% -7.7% 0.6% Metal 18.5% -26.3% -17.2% -8.0% 1.1% 10.2% casing 19.5% -19.8% -9.9% 0.0% 9.9% 19.8% GM 20.5% -13.2% -2.6% 8.0% 18.7% 29.3% 21.5% -6.7% 4.7% 16.1% 27.5% 38.9% Source: Company data, Credit Suisse estimates We believe that the core of this issue is that BYDE relies too much on Samsung's demand, and has over-spent capex in the past 18 months, which put its business at risk. Although one can argue that there is also upside if things turn towards the bull case, we would rather stay cautious as we do not have much visibility on these two factors right now.

China Components Sector 50 11 September 2015 NEUTRAL on potential further misses We forecast 3%/11%/8% YoY revenue growth for 2015E/2016E/17E as:

■ We expect metal casing revenue to be Rmb8.1 bn/Rmb9.4 bn/Rmb10.7 bn (up 85%/17%/13% YoY), including sales of Rmb4.1 bn/Rmb5 bn/Rmb5.6 bn to Samsung, while others are mainly expected to come from Chinese smartphones such as Huawei and BBK.

■ EMS to grow 11%/16%/7% mainly driven by Huawei. ODM to decline 19% in 2015E due to Nokia, but to rise 8%/6% in 2016/17E driven by Lenovo.

■ At the same time, we expect plastic casing to decline at 52%/10%/9% YoY.

Figure 111: BYDE's revenue breakdown forecast Rmb mn 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E Mobile components and module 2989.9 3869.2 4684.9 6200.6 7184.4 7294.2 6286.7 9056.4 9055.7 10371.0 11477.3 12532.8 GM 32.4% 38.2% 34.6% 24.0% 20.5% 18.5% 13.0% 14.5% 17.1% 15.7% 16.8% 16.8%

Assembly service 54.1 1898.1 3870.3 4998.0 9462.8 8574.1 7804.2 7005.8 10776.4 9964 11143 11841 GM -29.0% 2.7% 2.3% 1.5% 6.3% 4.5% 4.8% 5.2% 5.2% 4.2% 4.8% 4.8%

Total revenue 3044.0 5767.3 8555.1 11198.7 16647.1 15868.3 14090.9 16062.2 19832.1 20335.2 22620.2 24372.7 Growth YoY 89.5% 48.3% 30.9% 48.7% -4.7% -11.2% 14.0% 23.5% 2.5% 11.2% 7.7% GM 31.3% 26.5% 20.0% 13.9% 12.4% 10.9% 8.4% 10.5% 10.6% 10.1% 10.9% 10.9% Source: Company data, Credit Suisse estimates

Figure 112: Revenue forecast Figure 113: Net income forecast Rmb bn Rmb mn 1,400 75% 30 100% 60% 1,200 25 80% 45% 1,000 20 60% 30% 800 15% 15 40% 600 0% 10 20% -15% 400 -30% 5 0% 200 -45%

0 -20% 0 -60% 2006 2008 2010 2012 2014 2016E 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E

Revenue YoY Net income YoY

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates On the GM side, we expect a slight improvement in the metal casing process at 18.5%/19.5%/19% for 2015E/2016E/2017E (vs 17.8% in 1H15) due to yield improvement, but it is capped by depreciation pressure. This, together with stabilised plastic casing and slightly improving assembly GMs, will drive overall GM up to 11.1% in 2017E from 10.6% in 2014. With single-digit revenue CAGR and mild GM improvement, we expect 11% net income CAGR in 2015-17E. We also expect ROE to rise to 8.7% by 2017E (still far below the historical average of 12%).

China Components Sector 51 11 September 2015

Figure 114: GM forecasts by segments Figure 115: GM/NPM/OPM forecasts 45% 35%

40% 30% 35% 25% 30%

25% 20%

20% 15% 15% 10% 10% 5% 5%

0% 0% 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015E2016E2017E 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015E2016E2017E

Mobile components and module Assembly service Overall GM OPM NPM

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates Concerns on further misses; initiate with NEUTRAL Although the stock is now trading at 8x 2016E P/E, at the low end of the historical range, Initiate at NEUTRAL for the huge gap between our estimates and consensus keeps us from turning positive on the concerns on further earning name. Our 2015–17E EPS is 31–40% below IBES consensus, which leads to our concern misses of further earnings misses. Initiate at NEUTRAL with a target price of HK$5, based on historical average of 9x and 2016E EPS of HK$0.55. The stock is trading slightly lower than regional peers' P/E of 10.5x, which we believe is justified by its slower growth and much lower ROE.

Figure 116: BYDE NTM P/E band Figure 117: P/B vs ROE trends

26 6 30%

22 5 25%

18 4 20%

14 3 15% +1 SD: 11.9X

10 Average: 9X 2 10%

6 1 5% -1 SD: 6.0X

2 0 0% 20-Dec-07 20-Jun-09 20-Dec-10 20-Jun-12 20-Dec-13 20-Jun-15 20-Dec-16

31-Jul-08 31-Jul-09 31-Jul-10 31-Jul-11 31-Jul-12 31-Jul-13 31-Jul-14 31-Jul-15 (2) P/B ROE

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

China Components Sector 52 11 September 2015

Figure 118: EPS forecasts—CS vs consensus Figure 119: Consensus came down, but is still too high

0.8 Rmb/share 0.9

0.7 0.8

0.6 0.7

0.5 0.6 0.5 0.4 0.76 0.70 0.4 0.3 0.56 0.54 0.3 0.49 0.2 0.35 0.2 0.1 0.1

0.0 0.0 2015E 2016E 2017E Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15

CS Consensus 2013 2014 2015 2016

Source: IBES, Credit Suisse estimates Source: IBES

Figure 120: BYDE has slower growth and much lower ROE vs. industry peers Mkt cap TP Current Po. up/ P/E (x) P/B (x) ROE (%) NI Div Company Ticker Rating price CAGR yld US$mn (lc) down 15E 16E 17E 15E 16E 17E 15E 16E 17E (lc) 15-17E 15E BYDE 0285.HK N 1,390 5.0 4.78 5% 11.3 8.1 7.3 0.9 0.8 0.7 7.8% 10.1% 10.2% 10.6% 1.1% Catcher 2474.TW O 7,923 431.0 337.50 28% 12.1 11.6 10.9 2.4 2.0 1.8 20.5% 18.7% 17.4% 9.8% 2.1% Casetek 5264.TW O 1,475 190.0 141.00 35% 10.7 9.1 7.5 1.6 1.5 1.3 15.3% 16.9% 18.7% 9.1% 5.9% Everwin 300115 NR 2,663 NA 30.55 NM 33.0 23.9 17.8 5.6 4.7 3.9 17.3% 19.9% 22.4% 48.7% 0.5% Tongda 0698.HK NR 938 NA 1.27 NM 10.1 7.9 6.5 1.7 1.5 1.3 17.5% 18.9% 19.6% 20.9% 3.1% Ju Teng 3336.HK NR 510 NA 3.39 NM 4.7 4.1 3.8 0.5 0.5 0.4 10.5% 10.7% 10.7% 11.0% 4.5% Average 13.6 10.8 9.0 2.1 1.8 1.6 14.8% 15.9% 16.5% 18.3% 2.9% Median 11.0 8.6 7.4 1.7 1.5 1.3 16.3% 17.8% 18.1% 10.8% 2.6% Note: Priced as of 9 September 2015 Source: IBES, Credit Suisse estimates

China Components Sector 53 11 September 2015 Investment risks We see the four factors below as potential risks to our view on BYDE and therefore will Four key risks identified keep a close watch on them:

■ Client concentration risk: BYDE's casing business is in line with the industry's opportunity of hardware upgrades, and yet it receives most revenue from several key clients. If the demand for the key clients' products is dragged down together with further weakening in global demand further downward, it might negatively affect BYDE's business performance.

■ Pricing pressure: BYDE's gross margin experienced a decline for both its plastic and metal casing business in 1H15, due to low capacity utilisation. If the competition intensifies further, BYDE might continue to face pricing pressure and a lower margin environment.

■ Capacity utilisation risk: BYDE has been actively adding its metal casing capacity through capex, to cater to smartphone brand companies' demand for hardware specs upgrades. The company might not achieve optimal operating efficiency if downstream demand for metal casing falls short of expectations or the level of competition arises within the sector.

■ FX risk: BYDE's overseas sales accounts for less than 30% of its total, a relatively small overseas exposure in our coverage. As with most global supply chain companies, BYDE's overseas sales are recognised in USD. The FX rate changes between RMB and USD might negatively affect the company's sales revenue as well as profitability. Overall, the RMB depreciation is considered positive, as BYDE's pricing is locked against the USD for a certain period, and the depreciation could bring higher competency vs the other regions' suppliers.

China Components Sector 54 11 September 2015 Appendix Company background BYDE was founded in June 2007 through the reorganisation of BYD Group's businesses. The group's handset components and modules as well as handset assembly businesses were transferred to BYDE upon the completion of the reorganisation. The company was owned by Golden Link, which is 100% owned by BYD HK. BYD HK is a wholly-owned subsidiary of BYD Co. Ltd (1211.HK, covered by Bin Wang and Mark Mao) Ms. Ke Li, executive Director and CEO of the company, graduated from Fudan University in 1992. She worked for Global Resources, a B2B media company before she joined the BYD Group in 1996. She was responsible for the marketing and sales of handset components and modules at the BYD Group from 2002 to 2006.

Figure 121: Shareholding structure after IPO Figure 122: Current shareholding structure (2014FY) BYD Co. Ltd BYD Co. Ltd 100% 100% BYD HK BYD HK 100% 100% Golden Link Gold Dragonfly Public shareholders) Golden Link Gold Dragonfly Public shareholders)

67.35% 7.65% 25% 65.76% 6.67% 27.57%

BYDE BYDE

Source: Company data Source: Company data

China Components Sector 55 11 September 2015

Asia Pacific / China Electronic Components & Connectors

GoerTek Inc.

(002241.SZ / 002241 CH) Rating NEUTRAL* [V] INITIATION Price (09 Sep 15, Rmb) 26.20

Target price (Rmb) 23.50¹ Upside/downside (%) -10.3 Awaiting new drivers Mkt cap (Rmb mn) 39,993 (US$6,272) Enterprise value (Rmb mn) 40,216 ■ Initiate with NEUTRAL. We initiate on GoerTek with a NEUTRAL rating and Number of shares (mn) 1,526.43 a target price of Rmb23.5, implying 10% potential downside. Our view is that Free float (%) 45.0 52-week price range 44.7-20.2 the company is in search of new drivers after its success in acoustic ADTO - 6M (US$ mn) 191.6 components, and therefore, we would stay on the side line before we have

better visibility on its new businesses such as auto speakers and wearables. *Stock ratings are relative to the coverage universe in each analyst's or each team's respective sector. ■ Sluggish earnings without new drivers. According to us, GoerTek is in a ¹Target price is for 12 months. transition period with sluggish earnings growth: (1) we expect 2015 earnings [V] = Stock considered volatile (see Disclosure Appendix). to decline 9% YoY due to margin pressure at its legacy acoustic component Research Analyst business and its investment in new projects; (2) for 2016 and beyond, we Sam Li believe the major new directions such as virtual reality devices and auto 852 2101 6775 [email protected] speakers are not likely to be strong enough to drive the company back to the fast lane; however, (3) the stock is only trading at 23.6x 2016E P/E currently, well below its historical average of 27.4x, which reflects the muted outlook in valuations in our view. ■ Catalysts. We see product launches of key clients in 4Q15 to be short-term catalysts for GoerTek, including Apple's new products, Oculus' consumer version glasses, and other clients' wearables. However, we believe the disappointing quarterly results would prevent us from turning more positive in the near term. ■ Valuation. Our target price of Rmb23.5 is based on A-share sector average 2017E P/E of 19.7x with a 5% discount for its slower growth. Key risks: Faster-than-expected progress at new businesses, higher-/lower-than- expected opex on new businesses, weak global smartphone demand, and FX risks.

Share price performance Financial and valuation metrics

Year 12/14A 12/15E 12/16E 12/17E Price (LHS) Rebased Rel (RHS) Revenue (Rmb mn) 12,699.0 14,855.1 16,952.1 19,379.7 60 120 EBITDA (Rmb mn) 2,511.8 2,438.5 2,632.5 2,922.8 50 100 EBIT (Rmb mn) 2,070.8 2,011.4 2,155.9 2,383.9 40 80 Net profit (Rmb mn) 1,657.4 1,511.0 1,697.0 1,918.0 30 60 EPS (CS adj.) (Rmb) 1.09 0.99 1.11 1.26 20 40 Sep-13 Jan-14 May-14 Sep-14 Jan-15 May-15 Change from previous EPS (%) n.a. Consensus EPS (Rmb) n.a. 1.30 1.55 1.73 The price relative chart measures performance against the EPS growth (%) 4.7 -9.2 12.3 13.0 Shanghai Shenzhen CSI300 index which closed at 3399.31 on P/E (x) 24.0 26.5 23.6 20.9 09/09/15 On 09/09/15 the spot exchange rate was Rmb6.38/US$1 Dividend yield (%) 0.38 0.38 0.42 0.48 EV/EBITDA (x) 16.6 16.5 14.8 12.9 Performance over 1M 3M 12M P/B (x) 4.8 4.1 3.6 3.1 Absolute (%) -16.6 -39.2 -6.3 — ROE (%) 22.6 16.8 16.2 15.9

Relative (%) -0.1 -3.0 -46.0 —

Net debt/equity (%) 19.2 2.3 Net cash Net cash Source: Company data, Thomson Reuters, Credit Suisse estimates.

China Components Sector 56 11 September 2015 Focus charts and table

Figure 123: GoerTek's revenue breakdown chart Figure 124: Major supplier of Apple's speaker and earpods Rmb mn Rmb mn 25,000 7,000 70%

6,000 60% 20,000 17% CAGR 2015-17E 51% 5,000 50% 15,000 47% 4,000 40%

10,000 3,000 30%

2,000 20% 5,000 19% 1,000 10% 3% 0 0 0% 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E 2012 2013 2014 2015E 2016E Apple Other accessory Microphone Speaker/receiver Bluetooth 3D glasses LED EarPod Speaker box Microphone Receiver YoY Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Figure 125: Margins still under pressure Figure 126: Now trading below historical average

40% 50

35% 45

30% 40 25% 35 +1 SD: 32.8X 20% 30 Average: 27.3X 15% 25 10% 20 5% -1 SD: 21.8X 15 0% 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015E2016E2017E 10

GPM OPM NPM 5

0 May-08 May-09 May-10 May-11 May-12 May-13 May-14 May-15

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Figure 127: GoerTek is now below peers on growth and ROE Mkt Current NI Div cap TP price Pot. up/ P/E (x) P/B (x) ROE (%) CAGR yld Company Ticker Rating US$ mn (lc) (lc) down 15E 16E 17E 15E 16E 17E 15E 16E 17E 15-17E 15E GoerTek 002241.SZ N 6271.6 23.5 26.20 -10% 26.5 23.6 20.9 4.1 3.6 3.1 16.8% 16.2% 15.9% 5.0% 0.4% AAC 2018.HK O 7613.0 41.4 39.53 5% 18.0 15.5 13.1 4.7 3.9 3.2 27.7% 27.6% 27.1% 16.9% 2.3% Merry 2439.TW N 253.5 55.0 44.50 24% 15.7 9.1 7.4 1.4 1.3 1.2 8.8% 14.9% 16.9% -3.7% 6.4% GGEC 002045.SZ NR 470.1 NA 7.2 NM 102.6 79.6 61.2 2.2 2.2 2.0 13.8% 25.4% 31.1% 24.8% 1.9% Knowles KN.N NR 1471.3 NA 16.7 NM 28.7 13.9 8.0 1.2 1.2 NM 3.5% 8.7% NM NA NA Average 38.3 28.4 22.1 2.8 2.4 2.4 14.1% 18.6% 22.7% 10.7% 2.8% Median 26.5 15.5 13.1 2.2 2.2 2.6 13.8% 16.2% 22.0% 11.0% 2.1% Note: Priced as of 9 September 2015. Source: Bloomberg, IBES consensus for NR stocks, Credit Suisse estimates

China Components Sector 57 11 September 2015 Awaiting new drivers We initiate coverage on GoerTek with a NEUTRAL rating and a target price of Rmb23.5, implying 10% potential downside. Although the company has a very impressive track record in the acoustic components business, we believe the increase in acoustic content trend in smartphones has slowed down, and GoerTek is in search of new business drivers since late 2014. We see the stock as lacking upside catalysts in the near term while the valuation provides support on the downside. Success in acoustic now behind us Leveraging the local talent resource, its own ODM capability, and the A-share market The big success in acoustic financing support, GoerTek has grown its revenue by 100 times in less than ten years, and components proved became a top player in the global miniature acoustic component sector. It had gained GoerTek's quality and shares from AAC (2018.HK) and Knowles (Not Rated) and became Apple's major supplier capabilities. But this has in acoustic components in five years, while also winning a major share in the earpods now slowed down assembly business at the same time, which demonstrates the company's outstanding competitiveness and execution capabilities. However, as it rose to garner a major share at clients such as Apple, and the content increase trend in smartphone slowed down, GoerTek now faces pressure on margins on its acoustic components business as industry players tend to defend their shares by price competition. New businesses not in shape yet With its solid record in capacity expansion through equity placements, GoerTek issued a New projects have good Rmb2.3 bn convertible bond (CB) by the end of 2014, with a plan to invest in auto/home potential but still need time audio, wearable, sensor, and speaker/antenna capacities. We view this CB issuance as a to ramp up due to nascent clear sign for GoerTek to look for future drivers. We see GoerTek as being in a good demand and R&D lead time position for these new projects given its solid client base in acoustic/accessory business and the strong R&D and manufacturing capability it has demonstrated historically. However, we also expect that the new projects would need a long period to become major business drivers, because of the nascent market demand and the necessary lead time in R&D. Over 2015-17, we only expect 5-17% contribution in total revenue from these new projects, and therefore the top-line CAGR would only be 15% (versus 73% in the prior eight years) over the same period. Initiate coverage with NEUTRAL on valuation support With slower revenue growth and continuous investment in new businesses, we expect a Balanced earnings growth single-digit bottom-line growth (5%) for GoerTek over 2015-17, which is much lower than and valuation. Initiate with the 66% growth in the prior eight years, and also below the A-share sector average of 20%. NEUTRAL On the other hand, we expect its ROE to be maintained at 16-17% levels, close to the average level of our coverage (15.9% for 2016E). We initiate coverage on GoerTek with a NEUTRAL rating and a target price of Rmb23.5, based on sector average 2017E P/E of 19.7x with a 5% discount for its slower growth. The stock is now trading at 23.6x 2016E P/E, which is lower than the historical average of 27.4x. We believe the current price level has largely priced in the sluggish prospects and provides some support on the downside. Investment risks: Faster-than-expected progress at new businesses, higher-/lower-than- expected opex on new businesses, weak global smartphone demand, and FX risks.

China Components Sector 58 11 September 2015

GoerTek Inc. 002241.SZ / 002241 CH Price (09 Sep 15): Rmb26.20, Rating: OUTPERFORM [V], Target Price: Rmb23.50, Analyst: Sam Li Target price scenario Key earnings drivers 12/14A 12/15E 12/16E 12/17E Scenario TP %Up/Dwn Assumptions Acoustic products 9,857 11,055 11,619 12,313 Upside Electronic accessories 2,609 3,381 4,830 6,513 Central Case 23.50 (10.31) — — — — Downside — — — —

— — — — Income statement (Rmb mn) 12/14A 12/15E 12/16E 12/17E Per share data 12/14A 12/15E 12/16E 12/17E Sales revenue 12,699 14,855 16,952 19,380 Shares (wtd avg.) (mn) 1,521 1,526 1,526 1,526 Cost of goods sold 9,216 11,059 12,737 14,659 EPS (Credit Suisse) 1.09 0.99 1.11 1.26 SG&A 1,413 1,785 2,059 2,337 DPS(Rmb) (Rmb) 0.10 0.10 0.11 0.13 Other operating exp./(inc.) (441.1) (427.1) (476.6) (538.9) BVPS (Rmb) 5.46 6.35 7.35 8.48 EBITDA 2,512 2,438 2,633 2,923 Operating CFPS (Rmb) 0.77 1.42 1.23 1.37 Depreciation & amortisation 441.1 427.1 476.6 538.9 Key ratios and valuation 12/14A 12/15E 12/16E 12/17E EBIT 2,071 2,011 2,156 2,384 Growth(%) Net interest expense/(inc.) 140.6 218.7 148.2 118.5 Sales revenue 26.4 17.0 14.1 14.3 Non-operating inc./(exp.) (1.2) 2.0 2.6 3.2 EBIT 18.6 (2.9) 7.2 10.6 Associates/JV 3.3 0.2 — — Net profit 26.8 (8.8) 12.3 13.0 Recurring PBT 1,932 1,795 2,010 2,269 EPS 4.7 (9.2) 12.3 13.0 Exceptionals/extraordinaries 73.5 4.6 9.4 13.7 Margins (%) Taxes 321.5 291.6 322.7 364.1 EBITDA 19.8 16.4 15.5 15.1 Profit after tax 1,684 1,508 1,697 1,918 EBIT 16.3 13.5 12.7 12.3 Other after tax income — — — — Pre-tax profit 15.2 12.1 11.9 11.7 Minority interests 26.9 (3.0) — — Net profit 13.1 10.2 10.0 9.9 Preferred dividends — — — — Valuation metrics (x) Reported net profit 1,657 1,511 1,697 1,918 P/E 24.0 26.5 23.6 20.9 Analyst adjustments — — — — P/B 4.80 4.13 3.56 3.09 Net profit (Credit Suisse) 1,657 1,511 1,697 1,918 Dividend yield (%) 0.38 0.38 0.42 0.48 Cash flow (Rmb mn) 12/14A 12/15E 12/16E 12/17E P/CF 34.2 18.5 21.4 19.2 EBIT 2,071 2,011 2,156 2,384 EV/sales 3.28 2.71 2.30 1.94 Net interest — — — — EV/EBITDA 16.6 16.5 14.8 12.9 Tax paid (321.5) (291.6) (322.7) (364.1) EV/EBIT 20.1 20.0 18.1 15.8 Working capital (1,074) 228 (298) (368) ROE analysis (%) Other cash & non-cash items 489.3 212.9 337.8 434.1 ROE 22.6 16.8 16.2 15.9 Operating cash flow 1,165 2,161 1,873 2,086 ROIC 19.5 16.6 17.6 18.9 Capex (1,345) (594) (509) (484) Asset turnover (x) 0.72 0.75 0.78 0.80 Free cash flow to the firm (180) 1,567 1,364 1,601 Interest burden (x) 0.93 0.89 0.93 0.95 Disposals of fixed assets — — — — Tax burden (x) 0.84 0.84 0.84 0.84 Acquisitions (224.5) — — — Financial leverage (x) 2.08 2.00 1.92 1.84 Divestments — — — — Credit ratios Associate investments — — — — Net debt/equity (%) 19.2 2.3 (8.7) (18.4) Other investment/(outflows) (110.6) — — — Net debt/EBITDA (x) 0.65 0.09 (0.38) (0.83) Investing cash flow (1,680) (594) (509) (484) Interest cover (x) 14.7 9.2 14.6 20.1 Equity raised 15.8 — — — Dividends paid (152.6) (152.6) (151.1) (169.7) Source: Company data, Suisse estimates. Net borrowings 3,442 — — — Other financing cash flow (518.5) 0.6 — — 12MF P/E multiple Financing cash flow 2,787 (152) (151) (170) 70 Total cash flow 2,271 1,415 1,213 1,431 60 Adjustments (21.4) — — — Net change in cash 2,250 1,415 1,213 1,431 50 Balance sheet (Rmb mn) 12/14A 12/15E 12/16E 12/17E 40 Cash & cash equivalents 4,756 6,171 7,384 8,815 30 Current receivables 4,216 4,681 5,341 6,106 Inventories 1,613 1,584 1,754 1,979 20 Other current assets 188.4 188.4 188.4 188.4 10 Current assets 10,773 12,624 14,668 17,089 0 Property, plant & equip. 5,121 5,379 5,519 5,603 2010 2011 2012 2013 2014 2015 Investments 122.1 124.3 126.9 130.1 Intangibles 1,203 1,112 1,004 865 Other non-current assets 538.8 538.8 538.8 538.8 12MF P/B multiple Total assets 17,758 19,778 21,857 24,226 Accounts payable 2,387 3,051 3,584 4,205 14 Short-term debt 2,833 2,833 2,833 2,833 12 Current provisions — — — — 10 Other current liabilities 409.5 407.9 426.5 448.6 Current liabilities 5,629 6,292 6,843 7,486 8 Long-term debt 3,563 3,563 3,563 3,563 6 Non-current provisions — — — — 4 Other non-current liab. 43.9 43.9 43.9 43.9 Total liabilities 9,236 9,898 10,450 11,093 2 Shareholders' equity 8,331 9,691 11,218 12,944 0 Minority interests 191.1 188.7 188.7 188.7 2010 2011 2012 2013 2014 2015 Total liabilities & equity 17,758 19,778 21,857 24,226

Source: IBES

China Components Sector 59 11 September 2015 Success in acoustic now behind us GoerTek is among the top 3 in global miniature acoustic component industry (along with AAC and Knowles), providing the full range of speaker/receiver/microphone and related accessories to major global consumer electronics brands.

Figure 128: GoerTek has grown its scale by 100 times with a very diversified portfolio Rmb mn 25,000

20,000 17% CAGR 2015-17E

15,000

10,000

5,000

0 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E

Apple Other accessory Microphone Speaker/receiver Bluetooth 3D glasses LED

Source: Company data, Credit Suisse estimates GoerTek has grown its revenue scale by 100 times in less than ten years, and became a Success in acoustic was top player in the global market, which we believe is supported by a few factors: supported by local talent, ODM capability, and A- ■ Local talent resource: GoerTek was founded and located in Weifang in Shandong share market financing province, which is one of the cradles of the Chinese acoustic industry. The technology mainly came from Japan through government-imported projects. GoerTek's Chairman, Mr. Bin Jiang, also came from the 8th Radio Factory of Weifang, a local acoustic SOE.

■ ODM capability: Besides the component business, GoerTek owns an ODM business unit from its foundation, which is good at acoustic and wireless-based accessories. The company has a global leading manufacturing base for products such as 3D glasses, Bluetooth earphones, and game accessories for international clients including Microsoft, Sony, Samsung, and Plantronics. This segment and the system level capability not only helped GoerTek's scale growth, but also helped cross sell its components.

■ A-share market funding support: Historically, GoerTek had a very good track record on capacity expansion through equity placements in the A-share market. The two rounds of placements (in 2010 and 2012; total Rmb2.8 bn) had successfully supported its miniature components ramp up and the entrance into Apple supply chain. By end- 2014, it issued a round of CBs and got Rmb2.5 bn for new businesses.

Figure 129: GoerTek has done three rounds of fund raising since IPO, with a total value of Rmb5.9 bn Funding Size Date type (Rmb mn) Activity May 2008 IPO 532 Add capacity in ECM/MEMS microphone, speaker/receiver, Bluetooth and earpod Nov 2009 Placements 521 Add capacity in MEMS microphone, speaker/receiver, earpod and LED packaging Aug 2011 Placements 2,311 Add capacity in speaker box, MEMS microphone, earpod and smart TV/game console accessory Dec 2012 CB 2,500 New investment in wireless/car audio, wearable, MEMS censor, antenna and speaker box Source: Company data

China Components Sector 60 11 September 2015

With support from the factors above, GoerTek has grasped the smartphone cycle and Three stages of success in achieved success in the miniature acoustic market, and emerged as a major supplier for miniature acoustic almost all the major global brands. components

■ ECM microphone in CE market: GoerTek's acoustic technology started at ECM (Electret Condenser Microphone) microphone, and became a leading supplier in the consumer electronics market before the financial crisis.

■ Speaker box in smartphone cycle: After the financial crisis, with the boom in global smartphone market, GoerTek's speaker/receiver business started to explode. It not only became a major supplier to iPad and then iPhone with the new "speaker box" format after AAC and Knowles, but also became a major supplier to other smartphone manufacturers such as Samsung and Nokia. At the same time, it also expanded the accessory business to these clients, such as the earpods for Apple and sound bar for Microsoft gaming consoles.

■ MEMS microphone upgrade: While GoerTek was focused on the speaker/receiver business at key clients and was thus a bit behind the new MEMS microphone market, it started to catch up in recent years. The company has grown fast to global No.3 just after Knowles and AAC, and it is a No.1 supplier of MEMS microphone to Apple (including those in earpods). In 2014, GoerTek settled an interpleader case with Knowles, which basically removed future IP concerns and built up a cooperative relationship between the two market leaders.

Figure 130: GoerTek has become global top 3 in miniature Figure 131: …and holds a major share in Apple's speaker acoustic components… box and earpods US$ mn Rmb mn 1,200 7,000 70%

1,000 6,000 60% 51% 5,000 50% 800 47% 4,000 40% 600 3,000 30% 400 2,000 20% 19% 200 1,000 10% 3% 2% 0 0 0% 2010 2011 2012 2013 2014 2015E 2016E 2017E 2012 2013 2014 2015E 2016E 2017E EarPod Speaker box Microphone AAC GoerTek Knowles Receiver YoY

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

China Components Sector 61 11 September 2015

Figure 132: GoerTek is global No.3 in MEMS mic in 2013 Figure 133: MEMS microphone ramped up from 2013 Rmb mn 2,000 160% AAC Goertek 1,600 120%

1,200 80% BSE STMicroelectronic es 800 40% Knowles Analog Devices 400 0% Wolfson Hosiden NeoMEMS 0 -40% Bosch 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E Others Microphone YoY

Source: IHS Source: Company data, Credit Suisse estimates However the acoustic business, which was the main support of GoerTek to become a But component business is US$5.8 bn market cap company, has entered a downcycle with staggered content now in a downcycle with increase in our view. Acoustic performance for applications such as music and voice margin pressure. recognition has been a key value-added part for smartphones in the past few years, and we saw tremendous content increase in smartphones over the period. But as acoustic- related applications have now entered a bottleneck period, and smartphone makers now focus more on other user-interface parts, we see the content increase as being capped for the time being, especially at key global accounts such as Apple and Samsung. China smartphone makers started to adopt speaker box from late 2014, but we do not expect this to drive up GoerTek's volume and profit in the near term, due to its limited exposure to China smartphones (16% in 2015E).

Figure 134: Component revenue growth slowing down Figure 135: Component GM under pressure

Rmb mn 45% 8,000 160% 40% 38.3% 7,000 140% 35% 6,000 120% 28.9% 30% 5,000 100% 29.8% 25% 28.9% 28.5% 27.4% 27.5%27.0% 4,000 80% 25.7%26.7% 26.5% 20% 23.5% 3,000 60% 15% 2,000 40% 10% 1,000 20% 5% 0 0% 2006 2008 2010 2012 2014 2016E 0% Component Revenue YoY 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015E2016E2017E

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

China Components Sector 62 11 September 2015 New businesses not in shape yet With its success in the acoustic component market and growth through financing, GoerTek Investment for the future issued a Rmb2.5 bn CB in 4Q14, targeting several new TAMs including auto/home audio, came a bit late and needs wearable assembly, and MEMS sensor. These initiatives, although they have high time to generate return in potential in the long run, were adopted a bit late from a strategic perspective and will our view hardly have any major contribution to the firm in the mid-term, in our view.

Figure 136: Summary of GoerTek's new investments through CB insurance (in Rmb mn unless otherwise specified) Capacity Projected Projected TAM volume Project Size (units mn/yr) 17E ∆Sales 17E∆earnings (US$ bn) Major products Wireless audio 9.2 16E: 2.5 Sound bar/headset, Integrated/Portable sound box 1,100 3,030 384 Car audio 12.5 16E:6.9 Car audio system Wearable 8.7 17E: 24.5 Smart band, watch, glasses, earplug etc. 1,011 2,478 331 MEMS sensor 500.0 17E: 4.1 Inertial censor, pressure censor Antenna 114.9 17E: 3.1 LDS antenna 711 1,676 263 Speaker box 110.0 17E: 0.8 Speaker box Source: Company data As stated in the CB prospectus, the construction period of all new projects amounts to 24 months, i.e., the planned capacity is likely to be achieved no sooner than early 2017. Given the current small wearable total shipment compared with smartphones, along with the limited visibility on the market's inflection point, we project the revenue drawn from GoerTek's new investments will contribute 17% of sales until 2017, while margin contribution would be even lower due to the heavy weight of the assembly business. The 5%/12%/17% revenue contributions over 2015-17E would mainly come from auto speaker, home speaker, and wearable assembly projects, in our view. On the profitability side, we see these projects as margin dilutive to GoerTek's current business as two-thirds of the incremental revenue comes from wearable assembly, mainly HMD (Head Mounted Device) and wrist bands for major CE brands.

Figure 137: Wearable is still a small market Figure 138: New businesses with limited contribution Units mn Rmb mn 1800 25,000

1600

1400 20,000

1200 15,000 1000

800 10,000 600

400 5,000 146.2 200 53.8 90.0 0 0 2013 2014 2015E 2015E 2016E 2017E Smartphone shipment Wearable shipment Other major business revenue Revenue from new investments

Source: Statista.com, Credit Suisse estimates Source: Company data, Credit Suisse estimates

China Components Sector 63 11 September 2015 Initiate coverage with NEUTRAL on valuation support Due to the sluggish component demand and limited contribution from new businesses, we expect GoerTek's revenue growth to slow down over 2015-17 with a 15% CAGR (versus 73% in the prior eight years).

Figure 139: GoerTek's revenue breakdown forecast Revenue mn 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E Acoustic products 150.1 633.7 988.8 1098.0 2026.3 2890.9 5629.3 8121.9 9857.0 11054.6 11618.8 12312.6 GM 38.3% 28.9% 28.9% 23.5% 27.4% 29.8% 25.7% 26.7% 28.5% 27.5% 27.0% 26.5%

Electronic accessories - - - 6.2 555.3 1108.8 1424.6 1626.8 2608.9 3381.1 4830.0 6513.3 GM - - - 23.4% 17.4% 25.2% 24.8% 25.0% 23.2% 19.0% 19.5% 20.0%

Others 11.3 11.0 23.6 22.7 63.0 77.3 199.4 300.1 233.0 419.5 503.4 553.7 GM -0.2% -10.6% 23.8% 18.4% 24.6% 5.7% 35.8% 41.7% 29.0% 25.9% 27.0% 28.0%

Total revenue 161.5 644.7 1012.4 1126.9 2644.7 4077.0 7253.2 10048.8 12699.0 14855.1 16952.1 19379.7 Growth YoY 299.3% 57.0% 11.3% 134.7% 54.2% 77.9% 38.5% 26.4% 17.0% 14.1% 14.3% GM 35.6% 28.3% 28.8% 23.4% 25.2% 28.1% 25.8% 26.9% 27.4% 25.6% 24.9% 24.4% Source: Company data, Credit Suisse estimates

Figure 140: GoerTek's revenue forecast Figure 141: GoerTek's net income forecast Rmb mn Rmb mn 2,500 200% 25 150%

20 120% 2,000 150%

15 90% 1,500 100%

10 60% 1,000 50%

5 30% 500 0%

0 0% 0 -50% 2006 2008 2010 2012 2014 2016E 2006 2008 2010 2012 2014 2016E Revenue YoY Net income YoY

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates On the margins side, we expect a GM downtrend in 2015-17, due to pressure on the legacy components segment and the dilution from new wearable assemblies. On the other hand, we expect GoerTek to continue its R&D investment for future projects, and therefore estimate a slightly higher opex ratio for the period.

China Components Sector 64 11 September 2015

Figure 142: Overall GM down as acoustic declined Figure 143: OPM/NPM also declined due to investments

45% 40%

40% 35%

35% 30% 30% 25% 25% 20% 20% 15% 15%

10% 10%

5% 5%

0% 0% 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015E2016E2017E 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015E2016E2017E Acoustic products Electronic accessories Overall GPM OPM NPM

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates With slower revenue growth and continuous investment in new businesses, we expect Slow revenue growth and only a single-digit bottom-line growth (5%) for GoerTek over 2015-17E, which is much rising opex ratio lead to a lower than the 66% growth in prior eight years and also below the A-share sector average 5% NI CAGR in 2015-17E of 20%. On the other hand, we expect its ROE to remain at 16-17% levels, close to the average level of our coverage (15.9% for 2016E). We initiate coverage on GoerTek with a NEUTRAL rating and a target price of Rmb23.5, Initiate with NEUTRAL based on sector average 2017E P/E of 19.7X with 5% discount for its slower growth. The stock is now trading at 23.6x 2016E P/E, which is lower than the historical average of 27.4x. We believe the current price level has largely priced in the sluggish prospects and provides some support on the downside.

Figure 144: GoerTek used placements for fast capacity expansion

50 Rmb149 mn acquisition 45 of AKM (FPC) 40 Issued Rmb2.5 bn CB 35

30 Rmb120 mn JV with 3607.TW 25

20 Rmb521 mn share placements for microphone/speaker capacity Rmb258 mn acquisition 15 of 83% Dynaudio Rmb124 mn acquisition of 10 12.5% Mobvoi Inc.

5 Rmb2.3 bn share placements for speaker,MEMS microphone and 0 3D glasses May-08 Nov-08 May-09 Nov-09 May-10 Nov-10 May-11 Nov-11 May-12 Nov-12 May-13 Nov-13 May-14 Nov-14 May-15

Source: Company data, Credit Suisse estimates

China Components Sector 65 11 September 2015

Figure 145: GoerTek's NTM P/E band Figure 146: GoerTek's P/B versus ROE trends

50 12 30% 45 10 25% 40

35 +1 SD: 32.8X 8 20% 30 Average: 27.3X 6 15% 25

20 4 10% -1 SD: 21.8X 15 2 5% 10

5 0 0% 22-May-08 22-Nov-09 22-May-11 22-Nov-12 22-May-14 22-Nov-15 0 May-08 May-09 May-10 May-11 May-12 May-13 May-14 May-15 P/B ROE (RHS)

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Figure 147: GoerTek is now below peers on growth and ROE Mkt Current NI Div cap TP Price Pot up/ P/E P/B ROE CAGR yld Company Ticker Rating US$ mn (lc) (lc) down 15E 16E 17E 15E 16E 17E 15E 16E 17E 15-17E 15E GoerTek 002241.SZ N 6271.6 23.5 26.20 -10% 26.5 23.6 20.9 4.1 3.6 3.1 16.8% 16.2% 15.9% 5.0% 0.4% AAC 2018.HK O 7613.0 41.4 39.53 5% 18.0 15.5 13.1 4.7 3.9 3.2 27.7% 27.6% 27.1% 16.9% 2.3% Merry 2439.TW N 253.5 55.0 44.50 24% 15.7 9.1 7.4 1.4 1.3 1.2 8.8% 14.9% 16.9% -3.7% 6.4% GGEC 002045.SZ NR 470.1 NA 7.2 NM 102.6 79.6 61.2 2.2 2.2 2.0 13.8% 25.4% 31.1% 24.8% 1.9% Knowles KN.N NR 1471.3 NA 16.7 NM 28.7 13.9 8.0 1.2 1.2 NM 3.5% 8.7% NM NA NA Average 38.3 28.4 22.1 2.8 2.4 2.4 14.1% 18.6% 22.7% 10.7% 2.8% Median 26.5 15.5 13.1 2.2 2.2 2.6 13.8% 16.2% 22.0% 11.0% 2.1% Note: Priced as of 9 September 2015 Source: Wind and IBES consensus for NR stocks, Credit Suisse estimates

China Components Sector 66 11 September 2015 Investment risks We see the four factors described below as potential risks to our view on GoerTek and Four key risks identified therefore will keep a close watch on them:

■ Faster-than-expected progress at new businesses. Although we expect limited contribution from new businesses, there is a chance that these new TAMs ramp up quicker than our expectations, due to major technology breakthrough or knockout products.

■ Higher-/lower-than expected opex on new businesses. The latest investments, unlike existing business expansion, involve penetration into new markets and are therefore more volatile in nature. If opex is higher than expected, it may drag down the profitability of the company. We will closely follow up with the company's execution in the new businesses.

■ A weakening global smartphone demand. GoerTek's top line has witnessed solid growth, thanks to several key clients' stable results despite a weakening global market environment. However, if global demand for smartphones continue to soften in the future, it may negatively affect both GoerTek's top line and earnings.

■ FX risk: Like most global supply chain companies, GoerTek's overseas sales are recognised in USD, which takes up around 80% of total revenues. FX rate fluctuations between RMB and USD might negatively affect both top line and competencies of the company. Overall, a depreciation of the RMB is positive for GoerTek, as its pricing is locked against the USD for a certain period, and the depreciation could bring higher competency versus other regions' suppliers.

China Components Sector 67 11 September 2015 Appendix Company background The actual promoter of the company, Mr. Bin Jiang, set up Yilida Acoustic Co. Ltd in 2001, which is the predecessor of GoerTek. In 2007, GoerTek was established through restructuring of Yilida, which is jointly owned by the Jiang brothers, management team and Yi Run, a venture capital company. Mr. Bin Jiang, founder of the company, graduated from Beihang University and was an MBA of Tsinghua University. He has over 25 years' experience in the acoustics industry. He is a council member of China's Electronic Component Association and the deputy director of the association's acoustic division. Mr. Long Jiang, brother of Bin Jiang, graduated from Tsinghua University and earned his PhD in strategic management from the University of Maryland. He worked as an engineer and marketing executive before he joined GoerTek in 2005.

Figure 148: Shareholding structure after IPO

Bin Jiang Long Jiang 92.59% 7.41% Yi Run Capital Yong Zhen Electronic Yi Tong Gong Management Public shareholders

0.75% 0.92% 25.5% 33.75% 6.06% 8.02% 25%

GoerTek

Source: Company data

Figure 149: Current shareholding structure (1H2015)

Bin Jiang Long Jiang 17.60% 3.29% GoerTek Group Public shareholders

26.03% 53.08%

GoerTek

Source: Company data

China Components Sector 68 11 September 2015

Asia Pacific / China Electronic Components & Connectors

Lens Technology Co., Ltd

(300433.SZ / 300433 CH) Rating NEUTRAL* [V] INITIATION Price (09 Sep 15, Rmb) 66.30

Target price (Rmb) 59.00¹ Upside/downside (%) -11.0 Profitability still a concern Mkt cap (Rmb mn) 44,644 (US$7,001 mn) Enterprise value (Rmb mn) 49,363 ■ Initiate with NEUTRAL. We initiate coverage on Lens Tech with a NEUTRAL Number of shares (mn) 673.36 rating and an Rmb59 target price, implying 11% potential downside. We see Free float (%) 10.0 52-week price range 143.6-33.1 margin sustainability of its current portfolio to be the major concern for mid- ADTO - 6M (US$ mn) 98.9 term earnings growth, and therefore would stay on the side line for now.

■ Margin still under pressure. Although we expect 28% bottom-line growth for *Stock ratings are relative to the coverage universe in each analyst's or each team's respective sector. 2015E, recovering from the 2014 trough, we believe Lens Tech's GM will still ¹Target price is for 12 months. face pressure in the foreseeable future. (1) Margin stabilised: 1H15 GM [V] = Stock considered volatile (see Disclosure Appendix). stabilised with tablet cover lens GM back to positive numbers, and opex ratio Research Analyst declining YoY, which basically implied that worst is over. (2) But far from Sam Li historical level: However, 1H15 GM of 20.8% and OPM of 8.2% were still 852 2101 6775 [email protected] much lower than the historical average. We believe the pressure came from pricing and yield issues, which might be a continuous issue in 2015/16E. (3) Low visibility of major tech upgrades: Although the industry keeps investing in new materials like sapphire and ceramics, we see the adoption of these materials for handset cover lens is not likely for near-term generations. ■ Catalysts. We see a few product launches at key clients in 2H15, and the potential approval from CSRC on placement to be the positive catalysts for Lens Tech. However, we believe that GM pressure on earnings will hold us from turning really positive on fundamentals. ■ Valuation. Our target price of Rmb59 is based on the 2017E P/E A-share sector average of 19.7x, while Lens Tech's growth and ROE (19.7% CAGR and 18.6% average for 2015-17E) are close to sector average. Key risks: Client concentration risk, product design changes, pricing pressure, and FX risk.

Share price performance Financial and valuation metrics

Year 12/14A 12/15E 12/16E 12/17E Price (LHS) Rebased Rel (RHS) Revenue (Rmb mn) 14,497.0 18,335.9 20,968.5 22,746.0 140 400 EBITDA (Rmb mn) 2,789.0 3,379.2 4,235.6 4,930.6 300 EBIT (Rmb mn) 1,352.0 1,669.0 2,104.9 2,298.1 90 200 Net profit (Rmb mn) 1,176.9 1,503.6 1,859.4 2,019.0 100 EPS (CS adj.) (Rmb) 1.94 2.23 2.76 3.00 40 0 Mar-15 Jul-15 Change from previous EPS (%) n.a. Consensus EPS (Rmb) n.a. 2.85 4.38 5.37 The price relative chart measures performance against the EPS growth (%) -51.9 15.1 23.7 8.6 Shanghai Shenzhen CSI300 index which closed at 3399.31 on P/E (x) 34.2 29.7 24.0 22.1 09/09/15 On 09/09/15 the spot exchange rate was Rmb6.38/US$1 Dividend yield (%) 0.0 0.34 0.42 0.45 EV/EBITDA (x) 17.9 14.6 11.4 9.4 Performance over 1M 3M 12M P/B (x) 5.4 5.1 4.3 3.6 Absolute (%) -21.9 -44.7 — — ROE (%) 17.3 18.6 19.4 17.8 Relative (%) -5.5 -8.4 — — Net debt/equity (%) 72.0 53.8 33.4 12.6

Source: Company data, Thomson Reuters, Credit Suisse estimates.

China Components Sector 69 11 September 2015 Focus charts and tables

Figure 150: Lens Tech major business revenue Figure 151: Apple contributes more than 50% revenue breakdown

Rmb bn 100% 25 90% 17% CAGR 80% 20 2015-17E 70% 60% 15 50% 40% 10 30% 61% 58% 57% 48% 53% 50% 20% 5 10% 0% 0 2012 2013 2014 2015E 2016E 2017E 2011 2012 2013 2014 2015E 2016E 2017E Phone cover glass Tablet cover glass Other major business revenue Apple Samsung China OEM Others

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Figure 152: GM/OPM/NPM slightly improves Figure 153: Lens Tech NTM P/E band

35% 70

30% 60

25% +1 SD: 49.0X 50 20% Average: 38.3X 15% 40

10% 30 -1 SD: 27.6X 5% 20 0% 2011 2012 2013 2014 2015E 2016E 2017E 10 GM OPM NPM 18-Mar 2-Apr 17-Apr 2-May17-May1-Jun 16-Jun 1-Jul 16-Jul 31-Jul15-Aug30-Aug

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Figure 154: Lens Tech's earning growth, ROE, and P/E all close to sector average Mkt Current Po. NI Div cap TP Price up/ P/E (x) P/B (x) ROE (%) CAGR yld Company Ticker Rating US$mn (lc) (lc) down 15E 16E 17E 15E 16E 17E 15E 16E 17E 15-17E 15E Luxshare 002475.SZ O 5,562 35.5 28.42 25% 37.1 25.7 18.9 6.5 5.3 4.3 19.0% 22.7% 25.0% 43.9% 0.4% GoerTek 002241.SZ N 6,272 23.5 26.20 -10% 26.5 23.6 20.9 4.1 3.6 3.1 16.8% 16.2% 15.9% 5.0% 0.4% Lens Tech 300433.SZ N 7,001 59.0 66.30 -11% 29.7 24.0 22.1 5.1 4.3 3.6 18.6% 19.4% 17.8% 19.7% 0.4% O-film 002456.SZ U 3,523 15.2 21.80 -30% 31.2 25.7 25.4 3.5 3.1 2.8 11.8% 12.9% 11.7% 9.0% 0.6% BYDE 0285.HK N 1,390 5.0 4.78 5% 14.4 9.6 8.6 0.9 0.8 0.7 6.1% 8.5% 8.7% 10.3% 1.1% Average 27.8 21.7 19.2 4.0 3.4 2.9 14.5% 15.9% 15.8% 17.6% 0.6% Median 29.7 24.0 20.9 4.1 3.6 3.1 16.8% 16.2% 15.9% 10.3% 0.4% Note: Priced as of 9 September 2015. Source: Credit Suisse estimates.

China Components Sector 70 11 September 2015 Profitability still a concern We initiate coverage on Lens Tech with a NEUTRAL rating and an Rmb59 target price, implying 11% potential downside. We see margin sustainability as a major mid-term issue for the cover lens sector leader, and therefore would stay on the side line for the stock. Lens Tech is a leading glass-based cover lens vendor for mobile devices. With a leading share in global leading brands such as Apple and Samsung, Lens Tech has grown into a sector leader with Rmb14.5 bn revenue and Rmb43 bn mkt cap. Margin collapsed in 2014 The company experienced a margin collapse in 2014, with GM/OPM down to 22.4%/9.3% Lens Tech's margins (vs 31.7%/22.5% in 2013), due to several headwinds: (1) Yield issue for iPhone6 as collapsed in 2014 due to iPhone6's cover glass changed to 2.5D design from the old 1D design, while we estimate several headwinds that the ASP did not rise accordingly with the manufacturing difficulty. (2) Weak Samsung demand: Samsung's weak handset shipments in 2H14 dragged Lens Tech's revenue from Samsung down to Rmb2.5 bn in 2014 (vs. Rmb4.8 bn in 2013). (3) Heavy investment for sapphire: The company spent Rmb5.3 bn capex in 2014 and expanded its headcount by 26K for sapphire applications such as fingerprint, camera cover lens, and the potential iPhone cover lens. (4) Negative GM for tablet business in 2H14: Xiaomi tablet lamination order led to negative gross margin for the tablet segment in 2H14. GM outlook not encouraging Due to the low base in 2014, we expect 28% earnings growth for 2015E based on: (1) Margins stabilised in 1H15 strong top-line growth, especially in 1H due to Apple's strong iPhone shipment; (2) mild but we see limited further GM recovery (vs. 2H14) on better yields and lower lamination revenue of tablet, and (3) upsides which will cap slowdown in opex expansion, especially the R&D spending on new technologies (opex earnings growth for 2016 ratio of 13.1% vs. 13%/9.2% for 2014/13). However, the margin recovery was very twisted in 1H15, and showed a high correlation with the utilisation rate. Its 1Q15 GM was encouraging (23.2% vs 20% in 2H14), but 2Q15 declined to 18.4% with lower volume. For 2016, we expect another 110 bp GM improvement for the major business, which is still far from its historical 30%+ level, mainly driven by yield improvements and higher percentage of other products (mainly sapphire). We see further upside is capped because: (1) Low visibility of major tech upgrades: Although the industry keeps investing in new materials like sapphire and ceramics, we see the adoption of these materials for handset cover lens to be unlikely for near-term generations. (2) Slowing down shipment growth at key clients: CS analysts forecast only single-digit smartphone shipment growth for Apple and Samsung in 2016. (3) Pricing and yield issues to last: Overall, we see the minor design changes (to 2.5D/3D) as not enough to drive up ASP and GM. NEUTRAL on sector average performance With the decelerating revenue growth and mild GM improvement, we expect a 20% net Sector average growth and income CAGR for Lens Tech in 2015-17E, which is close to the A-share sector average of ROE, with reasonable 20%. On the other hand, we expect its ROE to maintain at the 18-19% level, also close to valuation. Initiate with the average of our coverage. NEUTRAL We initiate on the stock with a NEUTRAL rating and a target price of Rmb59, based on 2017E P/E sector average of 19.7x. The stock was listed only six months ago, so it lacks a reliable trading history. We believe the current price level has largely priced in the sector average performance, and therefore we stay Neutral on the stock. Investment risks: Client concentration risk, product design changes, pricing pressure, and FX risk.

China Components Sector 71 11 September 2015

Lens Technology Co. 300433.SZ / 300433 CH Price (09 Sep 15): Rmb66.30, Rating: NEUTRAL [V], Target Price: Rmb59.00, Analyst: Sam Li Target price scenario Key earnings drivers 12/14A 12/15E 12/16E 12/17E Scenario TP %Up/Dwn Assumptions Smartphone cover lens 9,314 10,978 12,475 13,228 Upside Tablet cover lens 2,151 2,120 2,158 2,093 Central Case 59.00 (11.01) Others 2,638 4,726 5,669 6,558 Downside — — — —

— — — — Income statement (Rmb mn) 12/14A 12/15E 12/16E 12/17E Per share data 12/14A 12/15E 12/16E 12/17E Sales revenue 14,497 18,336 20,969 22,746 Shares (wtd avg.) (mn) 606.6 673.4 673.4 673.4 Cost of goods sold 11,257 14,259 16,022 17,236 EPS (Credit Suisse) 1.94 2.23 2.76 3.00 SG&A 1,889 2,408 2,842 3,212 DPS(Rmb) (Rmb) — 0.22 0.28 0.30 Other operating exp./(inc.) (1,437) (1,710) (2,131) (2,633) BVPS (Rmb) 12.2 13.0 15.5 18.2 EBITDA 2,789 3,379 4,236 4,931 Operating CFPS (Rmb) — — 0.70 2.37 Depreciation & amortisation 1,437 1,710 2,131 2,633 Key ratios and valuation 12/14A 12/15E 12/16E 12/17E EBIT 1,352 1,669 2,105 2,298 Growth(%) Net interest expense/(inc.) 98.9 81.3 45.4 45.4 Sales revenue 8.6 26.5 14.4 8.5 Non-operating inc./(exp.) (0.37) 0.35 0.27 0.36 EBIT (55.0) 23.4 26.1 9.2 Associates/JV (0.58) (0.30) — — Net profit (51.8) 27.8 23.7 8.6 Recurring PBT 1,252 1,588 2,060 2,253 EPS (51.9) 15.1 23.7 8.6 Exceptionals/extraordinaries 109.2 133.1 128.4 122.8 Margins (%) Taxes 185.1 217.1 328.2 356.3 EBITDA 19.2 18.4 20.2 21.7 Profit after tax 1,176 1,504 1,860 2,020 EBIT 9.3 9.1 10.0 10.1 Other after tax income — — — — Pre-tax profit 8.6 8.7 9.8 9.9 Minority interests (0.57) 0.16 0.55 0.55 Net profit 8.12 8.20 8.87 8.88 Preferred dividends — — — — Valuation metrics (x) Reported net profit 1,177 1,504 1,859 2,019 P/E 34.2 29.7 24.0 22.1 Analyst adjustments — — — — P/B 5.42 5.09 4.28 3.64 Net profit (Credit Suisse) 1,177 1,504 1,859 2,019 Dividend yield (%) — 0.34 0.42 0.45 Cash flow (Rmb mn) 12/14A 12/15E 12/16E 12/17E P/CF 2.94811 667,841, 95 28 EBIT 1,352 1,669 2,105 2,298 EV/sales 32540883.45 388,078,2.69 2.30 2.03 Net interest — — — — EV/EBITDA 01E+1617.9 14.6015 11.4 9.4 Tax paid (185.1) (217.1) (328.2) (356.3) EV/EBIT 37.0 29.6 22.9 20.1 Working capital 35.6 (207.8) (93.0) (23.8) ROE analysis (%) Other cash & non-cash items (1,202) (1,244) (1,216) (325) ROE 17.3 18.6 19.4 17.8 Operating cash flow — — 468 1,593 ROIC 10.7 11.0 12.9 13.9 Capex (5,293) (2,384) (2,516) (2,502) Asset turnover (x) 0.79 0.92 0.95 0.93 Free cash flow to the firm (5,293) (2,384) (2,048) (910) Interest burden (x) 0.93 0.95 0.98 0.98 Disposals of fixed assets — — — — Tax burden (x) 0.86 0.87 0.85 0.85 Acquisitions — — — — Financial leverage (x) 2.46 2.27 2.12 1.99 Divestments — — — — Credit ratios Associate investments — — — — Net debt/equity (%) 72.0 53.8 33.4 12.6 Other investment/(outflows) (0.13) — — — Net debt/EBITDA (x) 1.92 1.40 0.82 0.31 Investing cash flow (5,293) (2,384) (2,516) (2,502) Interest cover (x) 13.7 20.5 46.3 50.6 Equity raised — — — — Dividends paid — — (150.4) (185.9) Source: Company data, Credit Suisse estimates. Net borrowings 2,981 — — — Other financing cash flow (150.9) — — — 12MF P/E multiple Financing cash flow 2,830 — (150) (186) 45 Total cash flow (2,463) (2,384) (2,198) (1,095) 40 Adjustments 37.6 — — — 35 Net change in cash (2,425) (2,384) (2,198) (1,095) 30 Balance sheet (Rmb mn) 12/14A 12/15E 12/16E 12/17E 25 Cash & cash equivalents 1,529 2,151 3,382 5,322 20 Current receivables 2,700 3,219 3,681 3,993 15 Inventories 2,054 1,940 2,092 2,203 10 Other current assets 906.0 906.0 906.0 906.0 5 Current assets 7,188 8,216 10,061 12,424 0 Property, plant & equip. 9,447 10,141 10,548 10,440 Mar-15 Apr-15 May-15 Jun-15 Jul-15 Aug-15 Investments 10.8 10.9 11.1 11.5 Intangibles 731.6 711.6 690.3 667.7 Other non-current assets 860.2 860.2 860.2 860.2 12MF P/B multiple Total assets 18,238 19,939 22,170 24,403 Accounts payable 3,308 3,505 4,026 4,426 4.0 Short-term debt 6,586 6,586 6,586 6,586 3.5 Current provisions — — — — 3.0 Other current liabilities 148.0 298.4 334.0 349.9 2.5 Current liabilities 10,042 10,390 10,946 11,362 2.0 Long-term debt 285.0 285.0 285.0 285.0 Non-current provisions — — — — 1.5 Other non-current liab. 493.0 493.0 493.0 493.0 1.0 Total liabilities 10,820 11,168 11,724 12,140 0.5 Shareholders' equity 7,411 8,764 10,437 12,254 0.0 Minority interests 7.6 7.7 8.3 8.8 Mar-15 Apr-15 May-15 Jun-15 Jul-15 Aug-15 Total liabilities & equity 18,238 19,939 22,170 24,403

Source: IBES

China Components Sector 72 11 September 2015 Margin collapsed in 2014 Lens Tech is one of the market pioneers who introduced the glass based cover lens Industry pioneer to introduce solution from the watch to the handset industry. The company now provides the full range glass based solution for of cover lenses for smartphones, tablets, wearables, and other applications such as cover lens in smartphone camera and fingerprint. With a leading share in global leading brands such as Apple and Samsung, Lens Tech has grown into a sector leader with Rmb14.5 bn revenue and Rmb43 bn market cap.

Figure 155: Lens Tech major business revenue breakdown Rmb bn 25 17% CAGR 2015-17E 20

0 2011 2012 2013 2014 2015E 2016E 2017E Phone cover glass Tablet cover glass Other major business revenue

Source: Company data, Credit Suisse estimates Since its preceding factory's foundation in 2003, Chairlady Ms Qunfei Zhou introduced the Over 50% of revenue is glass-based solution from the watch industry to the handset market. Motorola V3 in 2004 from Apple, which is a client was its first major win in global handset brands. The real boom of this business came from concentration risk the launch of first generation of iPhone in 2007, which also adopted a glass-based cover lens. Thereafter, Lens Tech has been a major supplier for Apple's products. And we estimate that Apple's business now accounts for over 50% of its total revenue, which forms a high client concentration risk, in our view.

Figure 156: Apple/Samsung/China SPs are major clients Figure 157: …and Apple as more than 50% revenue

Rmb mn 100% 25,000 30% 90% 80% 20,000 24% 70% 60% 15,000 18% 50% 40% 10,000 12% 30% 61% 58% 57% 48% 53% 50% 20% 5,000 6% 10%

0 0% 0% 2012 2013 2014 2015E 2016E 2017E 2012 2013 2014 2015E 2016E 2017E Apple Samsung Huawei/Xiaomi Others YoY Apple Samsung China OEM Others

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

China Components Sector 73 11 September 2015

In 2014, Lens Tech encountered a major margin collapse for several reasons, which drove 2014 was a tough year. its GM/OPM down to 22.4%/9.3% from 31.7%/22.5% in 2013.

■ Yield issue for iPhone6: Since iPhone6's cover glass changed to 2.5D design from the old 1D design, Lens Tech had serious yield issues in 2H14, as the processing became more complicated and new hires were still in the training process. On the other side, we estimate the ASP did not rise accordingly with the manufacturing difficulty.

■ Weak Samsung demand: Samsung is Lens Tech's No.2 client with 36% revenue contribution back in 2013. So when Samsung's handset business slowed down (2/3/4Q14 shipment down 7%/4%/10% YoY), Lens Tech also suffered from the weak demand. And we see revenue from Samsung declined to Rmb2.5 bn in 2014 (vs. Rmb4.8 bn in 2013).

■ Heavy investment for sapphire: To prepare for several applications with sapphire material, including fingerprint and camera cover lens, and the potential iPhone cover lens in our view, Lens Tech increased its capex in 2014 (total capex Rmb5.3 bn) and increased the headcount of labourers in its manufacturing facility (headcount up 26K), which generated heavy depreciation and expense pressure for the company.

■ Negative GM for tablet business in 2H14: Lens Tech was requested by Xiaomi to provide lamination service for the tablet TP (together with display) but it had serious yield issues and negative gross margin for the business in 2H14.

Figure 158: Revenue YoY rebounded after a difficult 2014 Figure 159: GM stabilised in 1H15

90% 35% 84% 80% 30% 33% 31% 70% 30% 25% 60% 56% 24% 50% 20% 19% 40% 15% 18%

30% 10% 20% 20% 5% 10% 7% 0% 0% 2012 2013 2014 2015H1 2011 2012 2013 1H2014 2H2014 1H2015

Source: Company data Source: Company data

China Components Sector 74 11 September 2015 GM outlook not encouraging Due to the low base in 2014, we are expecting 28% earnings growth for 2015E based on: 1H15 margins stabilised but (1) Strong top-line growth, especially in 1H due to Apple's strong iPhone shipment; (2) the recovery process seems mild GM recovery (vs. 2H14) on better yields and lower lamination revenue of tablet, and very twisted (3) slowdown in opex expansion especially the R&D spending on new technologies (opex ratio of 13.1% vs 13%/9.2% for 2014/13).

Figure 160: Apple quarterly shipments YoY slow down Figure 161: Increasing opex/sales under control in 1H15

Units mn 14% 80 160% 13.0%

70 140% 12% 12.5% 60 120%

50 100% 10% 9.2% 40 80% 8.7% 8.3% 30 60% 8% 20 40%

10 20% 6%

0 0%

2Q10 3Q10 4Q10 1Q11 2Q11 3Q11 4Q11 1Q12 2Q12 3Q12 4Q12 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15

1Q10 4%

3Q15E 4Q15E iPhone shipment YoY 2011 2012 2013 2014 1H2015 Source: Company data, Credit Suisse estimates Source: Company data However, the margin recovery was very twisted in 1H15, and showed a high correlation with the utilisation rate. Its 1Q15 GM was encouraging (23.2% vs. 20% in 2H14) but 2Q15 declined to 18.4% level, which we believe was correlated with the iPhone shipment seasonality. For 2016, we expect another 110 bp GM improvement for the major business in 2016, We see several headwinds which is still far from its historical 30%+ level, mainly driven by yield improvements and on GM to cap earnings higher percentage of other products (mainly sapphire). We see that further upside is upside for 2016 capped because: (1) Low visibility of major tech upgrades: Although the industry keeps investing in new materials such as sapphire and ceramics, we see the adoption of these materials for handset cover lens is unlikely for near-term generations. (2) Slowing down shipment growth at key clients: Credit Suisse analysts' forecast only single-digit smartphone shipment growth for Apple and Samsung in 2016. (3) Pricing and yield issues to last: Overall, we see that the minor design changes (to 2.5D/3D) are not enough to drive up ASP and GM, especially under a highly concentrated client structure.

Figure 162: Increasing revenue contribution from Figure 163: A snapshot of Apple Watch sapphire glass sapphire

100% 5% 8% 12% 90% 19% 27% 28% 30% 80% 70% 60% 50% 40% 30% 20% 10% 0% 2011 2012 2013 2014 2015E 2016E 2017E

Phone cover glass Tablet cover glass Other major business revenue

Source: Company data, Credit Suisse estimates Source: Apple.com

China Components Sector 75 11 September 2015 NEUTRAL on sector average performance We forecast 26%/14%/8% YoY revenue growth for 2015-17E, mainly driven by:

■ Volume recovery at Samsung, share gains in China smartphones, plus a slight increase in iPhone shipments, which would support the handset cover lens unit growing at a 12% CAGR for the period.

■ The 'Others' segment (non-handset, non-tablet) could outperform with a 35% CAGR, driven by wearable volume growth and content increase on sapphire/ceramic materials.

■ At the same time, we expect tablet cover lens revenue to basically remain flat, due to weak tablet market demand.

Figure 164: Lens Tech revenue breakdown forecast Rmb mn 2011 2012 2013 2014 2015E 2016E 2017E Phone cover glass 4,014 8,155 10,304 9,314 10,978 12,475 13,228 GM 29.5% 31.3% 31.5% 24.4% 23.1% 23.5% 23.0%

Tablet cover glass 1,730 1,988 1,380 2,151 2,746 3,116 3,307 GM 38.8% 22.0% 21.9% 2.2% 8.0% 10.0% 10.5%

Other major revenue 271 908 1,537 2,638 4,226 5,094 5,914 GM 39.8% 38.7% 36.2% 20.0% 26.0% 28.0% 29.0%

Others 15 113 130 394 512 666 866 GM 100.0% 100.0% 98.3% 99.8% 100.0% 100.0% 100.0%

Total revenue 6,030 11,163 13,352 14,497 18,462 21,352 23,316 Growth YoY 85.1% 19.6% 8.6% 27.3% 15.7% 9.2% GM 32.8% 30.9% 31.7% 22.4% 23.6% 25.0% 25.6% Source: Company data, Credit Suisse estimates

Figure 165: Revenue forecast Figure 166: Net income forecast Rmb bn Rmb bn 25 100% 3.0 90%

2.5 65% 20 80%

2.0 40% 15 60%

1.5 15% 10 40% 1.0 -10%

5 20% 0.5 -35%

0 0% 0.0 -60% 2011 2012 2013 2014 2015E 2016E 2017E 2011 2012 2013 2014 2015E 2016E 2017E Revenue YoY Net income YoY

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

China Components Sector 76 11 September 2015

As we stated before, we expect a mild GM recovery in 2015-17E, but it is still far from the historical level. At the same time, the opex ratio would still increase due to the continuing spend on new processing and materials.

Figure 167: Historical and forecast GM by segment Figure 168: Historical and forecast GM,NPM,OPM

45% 35% 40% 30% 35% 25% 30%

25% 20% 20% 15% 15% 10% 10% 5% 5% 0% 2011 2012 2013 2014 2015E 2016E 2017E 0% 2011 2012 2013 2014 2015E 2016E 2017E Phone cover glass Tablet cover glass Other major revenue Overall GM GM OPM NPM

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates With decelerating revenue growth and mild GM improvement, we expect a 20% net income CAGR for Lens Tech in 2015-17E, which is close to the A-share sector average of 20%. On the other hand, we expect its ROE to maintain at 18-19%, also close to the average of our coverage universe. We initiate on the stock with a NEUTRAL rating and a target price of Rmb59, based on Initiate with NEUTRAL for sector average 2017E P/E of 19.7x. The stock was listed only six months ago, so it lacks sector average performance. reliable trading history. We believe the current price level has largely priced in the sector average performance, and therefore are neutral on the stock.

Figure 169: Lens Tech NTM P/E band 70

+1 SD: 49.0X 50

Average: 38.3X 40

30 -1 SD: 27.6X

10 18-Mar 2-Apr 17-Apr 2-May17-May1-Jun 16-Jun 1-Jul 16-Jul 31-Jul15-Aug30-Aug Source: Company data, Credit Suisse estimates

Figure 170: Lens Tech's earning growth, ROE, and P/E all close to sector average Mkt Current Po. NI Div cap TP Price up/ P/E(x) P/B(x) ROE(%) CAGR yld Company Ticker Rating US$mn (lc) (lc) down 15E 16E 17E 15E 16E 17E 15E 16E 17E 15-17E 15E Luxshare 002475.SZ O 5,562 35.5 28.42 25% 37.1 25.7 18.9 6.5 5.3 4.3 19.0% 22.7% 25.0% 43.9% 0.4% GoerTek 002241.SZ N 6,272 23.5 26.20 -10% 26.5 23.6 20.9 4.1 3.6 3.1 16.8% 16.2% 15.9% 5.0% 0.4% Lens Tech 300433.SZ N 7,001 59.0 66.30 -11% 29.7 24.0 22.1 5.1 4.3 3.6 18.6% 19.4% 17.8% 19.7% 0.4% O-film 002456.SZ U 3,523 15.2 21.80 -30% 31.2 25.7 25.4 3.5 3.1 2.8 11.8% 12.9% 11.7% 9.0% 0.6% BYDE 0285.HK N 1,390 5.0 4.78 5% 14.4 9.6 8.6 0.9 0.8 0.7 6.1% 8.5% 8.7% 10.3% 1.1% Average 27.8 21.7 19.2 4.0 3.4 2.9 14.5% 15.9% 15.8% 17.6% 0.6% Median 29.7 24.0 20.9 4.1 3.6 3.1 16.8% 16.2% 15.9% 10.3% 0.4% Note: Priced as of 9 September 2015. Source: Credit Suisse estimates.

China Components Sector 77 11 September 2015 Investment risks We see the four factors below as potential risks to our view on Lens and therefore will Four key risks identified keep a close watch on them:

■ Client concentration risk: Lens derives the majority of its revenue from a few key clients. If key clients' performance is dragged down by a further weakening of the global smartphone market, or they choose to diversify their suppliers, it might squeeze Lens' revenue base and profitability.

■ Product design risk: Lens' gross margin suffered in 2014, due to an increasing mix of full lamination products and sapphire design not utilised in iPhone. If the percentage of full lamination in product mix continues to rise per clients' request, or TP/cover lens makers start to offer full lamination products, it might increase the level of competition within the industry and squeeze Lens' gross margin.

■ Execution risks on new investments: Lens was listed in March 2015, with relatively few new project execution records compared to our other coverage. Lens has announced its placements plan to invest in sapphire and 3D curved glass projects in Jun 15, and we need to closely follow up with management's execution to see whether the company can succeed in its upcoming projects.

■ Forex risk: Lens' overseas sales account for more than 90% of the total, with the biggest overseas exposure in our coverage. FX rate fluctuations between the RMB and USD could be risks to both its top line and competencies. Overall a depreciation of the RMB is positive for Lens, as its pricing is locked against the USD for certain period, and the depreciation could bring higher competency vs. other regions' suppliers.

China Components Sector 78 11 September 2015 Appendix Company background The company's chairlady, Ms Qunfei Zhou established Lech Tech (Shenzhen) in 2003, to engage in glass-based solution for watch. Lens Ltd, the predecessor of the listco, was founded in December 2006. In March 2011, Lens Tech was established by Lens Tech (HK) and Qunxin investment. Lens Tech (HK) is 100%-owned by Ms Zhou, the actual owner of the company. Qunxin investment is jointly owned by Qunfei Zhou, Junlong Zheng, husband of Qunfei and Qiaobing Rao, deputy general manager of the company. Ms. Qunfei Zhou started her career by working in a Shenzhen-based watch glass processing factory and went to adult night school for education. She established her business in 1993 with Rmb20,000 and seven of her relatives, printing characters and graphs on watch glass. In 1997, she shifted her business focus towards watch glass production and focused on mobile phone cover lens business since 2003.

Figure 171: Shareholding structure after IPO

Qunfei Zhou Junlong Zheng Qiaobing Rao 100% 85.0% 14.7% 0.2%

Lens Tech (HK) Qunxin Investment Management Public shareholders

81.184% 7.921% 0.891% 10.004%

Lens Tech

Source: Company data

China Components Sector 79 11 September 2015

Asia Pacific / China IT Hardware (Technology - Components TW (Asia))

Shenzhen O-film Tech Co., Ltd

(002456.SZ / 002456 CH) Rating UNDERPERFORM* [V] INITIATION Price (09 Sep 15, Rmb) 21.80

Target price (Rmb) 15.20¹ Upside/downside (%) -30.3 TP business still under pressure Mkt cap (Rmb mn) 22,467 (US$ 3,525 Enterprise value (Rmb mn) 23,597mn) ■ Initiate with UNDERPERFORM. We initiate coverage on O-film with an Number of shares (mn) 1,030.61 UNDERPERFORM rating and a target price of Rmb15.2, implying 30% Free float (%) 60.2 52-week price range 54.0-18.1 potential downside. We believe the company's major touch panel (TP) ADTO - 6M (US$ mn) 218.0 business is now under huge pressure and therefore caps any upside in new

areas for the near term. *Stock ratings are relative to the coverage universe in each analyst's or each team's respective sector. ■ TP headwinds to cap upside. Overall, we expect a continue headwind on ¹Target price is for 12 months. O-film's major TP business to cap any upsides in other new areas: (1) TP [V] = Stock considered volatile (see Disclosure Appendix). still accounts for c70% of the company's total revenue, which is under huge Research Analysts pressure due to several industry headwinds including the end of screen size Sam Li upgrade, negative technology changes, and a fierce competitive landscape, 852 2101 6775 [email protected] (2) its secondary segment, HCM (Handset Camera Module), is also under industry margin pressure despite the fast revenue growth, and (3) other new businesses, including fingerprint, software, and auto cameras, although they will show a 95% CAGR in 2015-17E, will only constitute 13% of the total revenue by 2017E, with limited contribution to earnings. ■ Catalysts. We see potential new initiations or fund raisings on future projects such as auto electronics to act as positive catalysts in the retail oriented A-share market. However, we believe the disappointing quarterly earnings results will keep reminding investors of the real fundamentals. ■ Valuation. Our TP of Rmb15.2 is based on a sector average 2017E P/E of 19.7x and at a 10% discount to O-film's lower growth and ROE. Key upside risks: China smartphone demand, positive technology tailwind to the film- based TP solution, milder-than-expected competition on TP/HCM businesses, and faster-than-expected progress in new businesses.

Share price performance Financial and valuation metrics

Year 12/14A 12/15E 12/16E 12/17E Price (LHS) Rebased Rel (RHS) Revenue (Rmb mn) 19,482.3 22,707.7 26,732.3 29,846.6 60 140 EBITDA (Rmb mn) 1,335.4 1,287.4 1,405.5 1,410.4 40 EBIT (Rmb mn) 1,031.6 921.9 991.1 962.8 90 20 Net profit (Rmb mn) 681.5 720.0 874.0 883.7 EPS (CS adj.) (Rmb) 0.87 0.70 0.85 0.86 0 40 Sep-13 Jan-14 May-14 Sep-14 Jan-15 May-15 Change from previous EPS (%) n.a. Consensus EPS (Rmb) n.a. 0.88 1.23 1.50 The price relative chart measures performance against the EPS growth (%) -44.6 -19.6 21.4 1.1 Shanghai Shenzhen CSI300 index which closed at 3399.31 on P/E (x) 25.1 31.2 25.7 25.4 09/09/15 On 09/09/15 the spot exchange rate was Rmb6.37/US$1 Dividend yield (%) 0.60 0.48 0.59 0.59 EV/EBITDA (x) 17.9 18.3 17.0 16.6 Performance over 1M 3M 12M P/B (x) 3.9 3.5 3.1 2.8 Absolute (%) -28.6 -55.6 -14.7 — ROE (%) 15.0 11.8 12.9 11.7 Relative (%) -11.8 -19.7 -53.7 — Net debt/equity (%) 23.9 17.6 19.7 12.0

Source: Company data, Thomson Reuters, Credit Suisse estimates.

China Components Sector 80 11 September 2015 Focus charts and table

Figure 172: Strong revenue growth history Figure 173: TP % expected to fall but still 50-70% Rmb bn 100% 35 90%

30 15% CAGR 80% 2015-17E 70% 25 60% 20 50% 90% 89% 40% 15 83% 67% 30% 71% 10 60% 43% 43% 20% 53% 5 10% 14% 0% 0% 0 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E TP Traditional business Camera module Others TP Traditional business Camera module Others

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Figure 174: GM/OPM/NPM all under pressure Figure 175: Now trading below its historical average 35% 80

30% 70

25% 60

20% 50 +1 SD: 44.6X

15% 40

10% 30 Average:28.6X 5% 20

0% 10 -1 SD: 12.7X 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E 0 GM OPM NPM 3-Aug-10 3-May-11 3-Feb-12 3-Nov-12 3-Aug-13 3-May-14 3-Feb-15 Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Figure 176: O-film is at lower growth and ROE, while trading higher than regional peers Mkt TP Current Po. P/E P/B ROE NI Div cap price up/ (x) (x) (%) CAGR yld Company Ticker Rating US$ mn (lc) (lc) down 15E 16E 17E 15E 16E 17E 15E 16E 17E 15-17E 15E Sunny 2018.HK O 7,613 41.4 39.53 5% 18.0 15.5 13.1 4.7 3.9 3.2 27.7% 27.6% 27.1% 16.9% 2.3% TPK 3673.TW O 1,000 215.0 92.40 133% 47.4 6.1 5.5 0.7 0.6 0.6 1.4% 10.3% 10.5% 174.2% 4.8% SEMCO 009150.KS N 4,110 58,000 65,500 -11% 23.6 15.9 14.8 1.0 1.0 0.9 4.4% 6.3% 6.5% -13.4% 1.1% O-film 002456.SZ U 3,523 15.2 21.80 -30% 31.2 25.7 25.4 3.5 3.1 2.8 11.8% 12.9% 11.7% 9.0% 0.6% Changxin 300088.SZ NR 1,520 NA 16.80 NM 34.1 19.9 16.0 3.6 3.1 2.7 10.5% 15.8% 16.8% 31.4% 0.7% Laibao 002106.SZ NR 1,820 NA 16.44 NM 552.6 400.1 NM 2.9 2.8 NM 0.5% 0.7% NM NM 0.1% Truly 0732.HK NR 750 NA 2.00 NM 5.3 4.8 4.6 0.7 0.6 0.6 13.4% 13.2% 13.7% -4.4% 5.1% Q Tech 1478.HK NR 179 NA 1.36 NM 5.0 4.6 4.0 0.8 0.8 0.7 17.9% 16.8% 17.0% 21.5% 4.1% Lite-On 2301.TW NR 2,261 37.0 31.00 NM 10.6 9.2 8.5 1.0 0.9 0.9 9.1% 10.3% 10.7% 10.3% 7.6% Primax 4915.TW NR 558 NA 41.35 NM 10.1 8.5 7.3 1.8 1.6 1.3 17.9% 19.0% 18.3% 17.2% 5.5% Average 73.8 51.0 11.0 2.1 1.9 1.5 11.5% 13.3% 14.7% 29.2% 3.2% Median 20.8 12.3 8.5 1.4 1.3 0.9 11.1% 13.0% 13.7% 16.9% 3.2% Note: Priced as of 9 September 2015. Source: Wind/IBES consensus for NR stocks, Credit Suisse estimates

China Components Sector 81 11 September 2015 TP business still under pressure We initiate coverage on O-film with an UNDERPERFORM rating and a target price of Rmb15.2, implying 30% potential downside. We believe the company's major driver for the past three years, the TP business, has now become the main headwind for its earnings and, therefore, caps any upsides in new areas in the near term. Solid record in colour filter, TP and HCM Leveraging on its low-price tactic, bundle sales strategy, and A-share market financing O-film has achieved a series support, O-film has grown its revenue scale by over 100 times in seven years and has of successes in colour filter, become the leader in colour filter, TP, and HCM segments in the China smartphone TP and HCM markets market sequentially. Especially, over the past three years, the company has grasped on to the film-based low-cost TP solution opportunity in the China smartphone camp and has grown to become an Rmb20 bn revenue company (vs Rmb618 mn in 2010). The success in TP not only expanded its revenue scale but also built up a solid client base and has provided several sales opportunities for new products. Industry headwinds for TP business Having said that, the prior success has become a burden in the following cycle in our view. However, the big success in We see that the TP industry has entered into a stage of decline owing to various industry TP has now become a headwinds: (1) The smartphone screen size upgrades have come to an end as all major headwind for O-film models have a size of 5-6" now, (2) new technology solutions such as in-cell and thinner GG solution are gaining share in high-end segments, and (3) the integration of touch and display has introduced new competitors into the market. The TP business still accounts for c70% of O-film's total revenue and gross profit, which we believe acts as a heavy burden on its earnings performance. UNDERPERFORM owing to TP headwinds With slower revenue growth and margin pressure, we expect only single-digit bottom-line Initiate with growth (9%) for O-film in 2015-17E, which is much lower than the 56% during the prior UNDERPERFORM. Our seven years, and also below the A-share sector average of 20%. On the other hand, we estimates are 20-43% below expect its ROE to be the lowest among our coverage (average 12% for 2015-17E). consensus We initiate coverage on O-film with an UNDERPERFORM rating and a target price of Rmb15.2, based on a sector average 2017E P/E of 19.7x, a 10% discount for its slowest growth, and for being the lowest ROE among our A-share components coverage. Our EPS estimates are 20-43% below consensus for 2015-17E. The stock is now trading at 25.7x 2016E P/E, which is lower than the historical average of 28.6x, which we believe is justified by the slowing down growth vs its history. Investment risks: China smartphone demand, positive technology tailwind for the film- based TP solution, milder-than-expected competition on TP/HCM businesses, and faster- than-expected progress in new businesses.

China Components Sector 82 11 September 2015

Shenzhen O-film Tech Co. 002456.SZ / 002456 CH Price (09 Sep 15): Rmb21.80, Rating:: [V], Target Price: Rmb15.20, Analyst: Sam Li Target price scenario Key earnings drivers 12/14A 12/15E 12/16E 12/17E Scenario TP %Up/Dwn Assumptions Touch screen (Rmb mn) 16,110 16,030 16,030 15,869 Upside Camera module (Rmb 2,869 5,595 8,393 10,239

Central Case 15.20 (30.28) mn) Downside

Income statement (Rmb mn) 12/14A 12/15E 12/16E 12/17E Per share data 12/14A 12/15E 12/16E 12/17E Sales revenue 19,482 22,708 26,732 29,847 Shares (wtd avg.) (mn) 784 1,031 1,031 1,031 Cost of goods sold 17,145 20,137 23,772 26,646 EPS (Credit Suisse) 0.87 0.70 0.85 0.86 SG&A 1,306 1,649 1,969 2,238 DPS(Rmb) (Rmb) 0.13 0.11 0.13 0.13 Other operating exp./(inc.) (303.8) (365.5) (414.5) (447.6) BVPS (Rmb) 5.65 6.24 6.96 7.69 EBITDA 1,335 1,287 1,406 1,410 Operating CFPS (Rmb) (0.28) 1.46 0.87 1.45 Depreciation & amortisation 303.8 365.5 414.5 447.6 Key ratios and valuation 12/14A 12/15E 12/16E 12/17E EBIT 1,032 922 991 963 Growth(%) Net interest expense/(inc.) 342.6 241.1 153.0 122.4 Sales revenue 114 17 18 12 Non-operating inc./(exp.) 92.1 158.1 178.8 185.7 EBIT 23.0 (10.6) 7.5 (2.9) Associates/JV — — — — Net profit 19.3 5.6 21.4 1.1 Recurring PBT 781 839 1,017 1,026 EPS (44.6) (19.6) 21.4 1.1 Exceptionals/extraordinaries — — — — Margins (%) Taxes 99.6 119.0 142.9 142.4 EBITDA 6.85 5.67 5.26 4.73 Profit after tax 681.5 720.0 874.0 883.7 EBIT 5.30 4.06 3.71 3.23 Other after tax income — — — — Pre-tax profit 4.01 3.69 3.80 3.44 Minority interests — — — — Net profit 3.50 3.17 3.27 2.96 Preferred dividends — — — — Valuation metrics (x) Reported net profit 681.5 720.0 874.0 883.7 P/E 25.1 31.2 25.7 25.4 Analyst adjustments — — — — P/B 3.86 3.49 3.13 2.84 Net profit (Credit Suisse) 681.5 720.0 874.0 883.7 Dividend yield (%) 0.60 0.48 0.59 0.59 Cash flow (Rmb mn) 12/14A 12/15E 12/16E 12/17E P/CF (77.4) 15.0 25.2 15.1 EBIT 1,032 922 991 963 EV/sales 1.22 1.04 0.89 0.78 Net interest — — — — EV/EBITDA 17.9 18.3 17.0 16.6 Tax paid (99.6) (119.0) (142.9) (142.4) EV/EBIT 23.1 25.6 24.1 24.3 Working capital (1,418) 456 (332) 236 ROE analysis (%) Other cash & non-cash items 265.0 242.9 376.3 434.2 ROE 15.0 11.8 12.9 11.7 Operating cash flow (221) 1,502 892 1,490 ROIC 15.2 10.7 10.6 9.5 Capex (1,061) (1,135) (1,069) (895) Asset turnover (x) 1.38 1.53 1.64 1.72 Free cash flow to the firm (1,282) 367 (177) 595 Interest burden (x) 0.76 0.91 1.03 1.07 Disposals of fixed assets — — — — Tax burden (x) 0.87 0.86 0.86 0.86 Acquisitions — — — — Financial leverage (x) 2.43 2.30 2.27 2.19 Divestments — — — — Credit ratios Associate investments — — — — Net debt/equity (%) 23.9 17.6 19.7 12.0 Other investment/(outflows) (334.3) — — — Net debt/EBITDA (x) 1.04 0.88 1.01 0.68 Investing cash flow (1,396) (1,135) (1,069) (895) Interest cover (x) 3.01 3.82 6.48 7.87 Equity raised 1,962 — — — Dividends paid (86.0) (103.1) (108.7) (132.2) Source: Company data, Credit Suisse estimates. Net borrowings 716.2 — — — Other financing cash flow 39.6 — — — 12MF P/E multiple Financing cash flow 2,632 (103) (109) (132) 70 Total cash flow 1,015 264 (286) 463 60 Adjustments (7.2) — — — Net change in cash 1,008 264 (286) 463 50 Balance sheet (Rmb mn) 12/14A 12/15E 12/16E 12/17E 40 Cash & cash equivalents 2,375 2,639 2,353 2,816 30 Current receivables 3,453 3,161 3,735 3,761 Inventories 2,928 2,788 3,256 3,285 20 Other current assets 837.4 837.4 837.4 837.4 10 Current assets 9,593 9,425 10,182 10,699 0 Property, plant & equip. 3,522 4,323 5,005 5,477 2010 2011 2012 2013 2014 2015 Investments — 38.3 102.3 179.1 Intangibles 258.5 227.1 199.6 175.4 Other non-current assets 782.6 782.6 782.6 782.6 12MF P/B multiple Total assets 14,156 14,796 16,272 17,314 Accounts payable 4,085 4,109 4,820 5,110 10 Short-term debt 1,921 1,921 1,921 1,921 9 Current provisions — — — — 8 7 Other current liabilities 442.8 448.4 471.9 473.4 6 Current liabilities 6,448 6,479 7,213 7,505 5 Long-term debt 1,848 1,848 1,848 1,848 4 Non-current provisions — — — — 3 Other non-current liab. 40.1 40.1 40.1 40.1 2 Total liabilities 8,336 8,366 9,100 9,392 1 Shareholders' equity 5,820 6,430 7,171 7,921 0 Minority interests — — — — 2010 2011 2012 2013 2014 2015 Total liabilities & equity 14,156 14,796 16,272 17,314

Source: IBES

China Components Sector 83 11 September 2015 Solid record in colour filter, TP and HCM O-film, founded in 2002, is well known as an aggressive contender in the China smartphone component market for its impressive achievements in multiple sub-sectors such as colour filter, touch panel, and camera module. Through continuous breakthroughs in new TAMs, especially in the TP market, the company has grown its revenue scale over 100 times in seven years, and now does bundle sales to major China smartphone brands.

Figure 177: Strong revenue growth history Figure 178: Market share gains in both TP and HCM

Rmb bn 30% 35

25% 30 15% CAGR 2015-17E 25 20%

20 15%

15 10% 10 5% 5

0% 0 2011 2012 2013 2014 2015E 2016E 2017E 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E TP Traditional business Camera module Others TP market share HCM market share

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates We note that O-film has passed through three major stages during the period with an Three stage successes in aggressive track record: colour filter, TP and HCM

■ Colour filter before 2010: O-film started its business in the colour filter (for handset or digital cameras) market with an expertise in optical, which is a very niche market with a total value of only a few billion RMB. It focused on low-end markets and became part of the global top 3 in terms of volume.

■ Film-based touch panel during 2011-2014: Historically, O-film has had some knowledge in legacy resistive touch panels which are film based. When the industry was mainly focused on GG (glass over glass) solution for capacitive TP, introduced by Apple in 2010/11, O-film, to differentiate, chose the film-based solution as a breakthrough point. Mostly due to diligence, and a bit of luck, film-based solution became mainstream for Chinese smartphones, owing also to its cost and thickness advantages over glass-based solutions (film is much cheaper and thinner than glass). Supported by the mega trend of touch functionality, O-film's revenue kept growing by over 100% every single year between 2011 and 2014, and the company became No.1 in the China market.

■ HCM from 2013: After the great success in TP, O-film chose HCM as the next growth engine for two reasons: (1) Its expertise in optical since foundation, (2) HCM being another major value component after TP in a smartphone. Leveraging on its established client base in China, it rapidly grew its business with Rmb588 mn/Rmb2.9 bn in revenue in 2013/14. We expect the HCM unit to contribute 25%/31%/34% of O- film's total revenue during 2015E/16E/17E.

China Components Sector 84 11 September 2015

Figure 179: O-film's TP business ramps up quickly Figure 180: …with HCM sharing the strong momentum Rmb mn Rmb mn 12,000 40,000

35,000 10,000

30,000 8,000 25,000

20,000 6,000

15,000 4,000 10,000 2,000 5,000

0 0 2009 2010 2011 2012 2013 2014 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E O-film's TP business TPK Wintek O-film's HCM business Sunny Truly

Source: Company data, Credit Suisse estimates Source: Company data, Bloomberg, Credit Suisse estimates

Figure 181: TP's strong historical growth with increasing Figure 182: HCM's slower growth after aggressive full lamination mix expansion with a shift to 13MP Rmb mn Rmb mn 18,000 35% 12,000 400%

15,000 30% 10,500 350%

25% 9,000 300% 12,000 7,500 250% 20% 9,000 6,000 200% 15% 6,000 4,500 150% 10% 69% 3,000 100% 60% 3,000 5% 1,500 43% 50% 0 0% 0 22% 0% 2010 2011 2012 2013 2014 2015E 2016E 2017E 2013 2014 2015E 2016E 2017E TP Revenue Full lamination Revenue TP GM 13MP Rev 8MP Rev 5MP and below Rev YoY

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates Besides the HCM business, O-film has also started investing in several new areas from 2014, including in fingerprint, image processing software, smart city projects, and auto electronics (including auto camera). We see that most of these initiatives either have a small TAM vs the current TP and HCM markets or need long development progress—for example, for auto electronics. Fingerprint is the only visible income source and we estimate Rmb600 mn/Rmb1.2 bn/Rmb1.8 bn in revenue during 2015E/15E/17E from the segment, at 2-6% of the firm's total revenue.

Figure 183: A summary of O-film's recent investments Size Date (Rmb mn) Activity Aug 2015 36 Investment in Smart City by acquiring a 30% equity in Weike from SCG Jul 2015 550 Acquired 100% equity in Temobi, which is targeting smart city projects Jun 2015 50 Acquired 16.7% equity in Autolinked, a vehicle remote diagnosis system developer and operator Jun 2015 15 Acquired 20% equity in Shenzhen Zhuoying Technology, which focuses on R&D in ADAS and car-based video filming equipment Aug 2014 5,235 Investments in TP/HCM capacity expansion, LCD display module and censor technology R&D (Rmb4 bn raised through placement) Apr 2014 311 Acquired patents related to MEMS-based image forming technology from Optics Corporation Source: Company data, Credit Suisse estimates

China Components Sector 85 11 September 2015 Industry headwinds for TP business Although O-film has been aggressively investing in new areas over the past two years, we Our cautious stance comes still hold a cautious view on its earnings performance in 2015/16E, owing to its high from the downside in TP exposure to TP, which is exposed to huge industry headwinds currently. business We see that the TP industry has entered into a stage of decline owing to various industry headwinds:

■ Size upgrade comes to an end: In the past few years of cycle, the smartphone screen size has increased from 2-3" to the current 5-6"—this acted as a strong driver for the TP ASP (normally US$1 for every 1'' size increase). However, according to us, this upgrade cycle has now come to an end as major models are already in the size range of 5-6".

■ Alternative solutions: As smartphones become thinner and thinner, new integrated solutions (to combine display and TP) such as in-cell and on-cell have emerged and are gaining share in the high-end segments in the China market. This is especially true of the in-cell solution that Apple has adopted for its recent iPhone models. Besides, the Taiwan-based industry leader TPK (3673.TW, covered by Credit Suisse analyst Thompson Wu) has been developing a thinner GG solution.

■ New competitors emerge: The integration trend of touch and display has also introduced new competitors into the market. Some display names have already tapped into the TP market, including Innolux, which released Inno Touch in August 2013; AU Optronics, which released an AMOLED touchscreen in October 2013; and JDI, which released its LCD module with in-cell touch in March 2015. In addition, the Chinese display maker, BOE, has announced its Rmb5.4 bn placement plan for TP production line in April 2014. Overall, we estimate that the TP business will still account for 70%/60%/50% of O-film's total revenue in 2015E/16E/17E, which we believe acts as a heavy burden on its earnings performance.

Figure 184: TP ASP and GM under pressure Figure 185: In-cell as headwind for TPK Rmb US$ mn Resistive screen Apple shifted 100 30% 6,000 24% upgrade to Capacitive to in-cell touch 25.8% 93.3 5,000 20% 80 24% 21.3% 70.4 78.9 4,000 16% 60 68.0 18% 66.7 17.6% 59.8 3,000 12% 12.9% 40 12% 44.6 12.3% 2,000 8% 11.2% 10.3% 9.3% 20 29.9 6% 1,000 4%

0 0% 0 0% 2010 2011 2012 2013 2014 2015E 2016E 2017E 2009 2010 2011 2012 2013 2014 2015E TP ASP TP GM (RHS) Revenue GM

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

China Components Sector 86 11 September 2015

Figure 186: Major TP players had sluggish revenue Figure 187: Declining GMs for most industry players

US$ mn 60.0% 7,000

50.0% 6,000

40.0% 5,000

30.0% 4,000

20.0% 3,000

10.0% 2,000

0.0% 1,000

-10.0% 0 2009 2010 2011 2012 2013 2014 2011 2012 2013 2014 O-film TPK Wintek Nissha Printing Laibo O-film TPK Wintek Laibo

Source: IBES, Bloomberg, Credit Suisse estimates Source: IBES, Bloomberg, Credit Suisse estimates

Figure 188: Display makers tapped into TP business Company Date Activity JDI March 2015 Mass production of WQHD (1440x2560) high resolution LCD module with in-cell touch JDI April 2014 Conducting test run of "pixel eyes", proprietary in-cell integrated touch-functionality LCD modules BOE April 2014 Announced placement plan to raise Rmb5.4 bn for TP production line AU Optronics April 2014 Released 5.7-inch AMOLED touchscreen AU Optronics October 2013 Unveiled In-Cell Multi-Touch Panel Technologies and a 0.68mm Ultra-Thin Mobile Device Panel Innolux August 2013 Launched its integrated touchscreen LCD Inno Touch Source: Company releases Besides the pressure on the TP business, we see O-film's HCM business, although in HCM segment is also under high-growth mode, is also under margin pressure due to industry competition and the margin pressure. slowing pixel upgrades. With the top-two units (in sales) in a GM downtrend, we do not see reasons to turn positive on the name for the time being.

Figure 189: HCM GM will come down Figure 190: Sunny's HCM GM also under pressure Rmb Units mn 400 20% 30 12% 28.0 28.3 28.5 27.7 11.3% 11.2% 25 23.2 10% 320 16% 10.7% 10.3%

20 8% 240 12%

15 6% Low Capacity Utilization 160 8% 5.4% at kick-off 10 4%

80 45% 4% 5 2% 37% 27% 16% 0 0% 0 0% 0% 0% 0% 4% 0% 2013 2014 2015E 2016E 2017E 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E HCM ASP HCM GM 13MP 8MP 5MP and below Overall GM

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

China Components Sector 87 11 September 2015 UNDERPERFORM owing to TP headwinds We forecast 15% revenue CAGR for 2015-17E based on the following assumptions: Although we expect 15% top-line CAGR, the quality is ■ We assume that TP revenue will basically remain flat for the period, but mostly low because full lamination % will rise to offset ASP declines. As a result, TP GM will decline, owing to mix change, from 12.3% in 2014 to 9.3% in 2017E.

■ We expect HCM revenue to maintain a strong 53% CAGR, driven by share gains in the China smartphone camp and product mix improvements. However, we also expect GM to slide by 100 bp, despite the scale effect.

■ As far as other legacy and new businesses are concerned, as we stated before, fingerprint will be the only meaningful growing part, in addition to a few hundred million Rmb contribution from software. This part will show an above 100% CAGR but will only account for 12.5% of the total revenue by 2017E.

Figure 191: Although we expect 15% revenue CAGR, the quality is low (Rmb mn) 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E Traditional business 148.8 187.7 206.0 331.0 377.9 326.8 286.4 158.6 - - - GM 32.8% 27.0% 24.4% 19.7% 14.2% 9.2% 5.7% 4.4% - - -

Touch screen - 33.1 161.4 264.7 839.3 3,530.9 8,124.4 16,110.2 16,029.6 16,029.6 15,869.3 GM - 30.2% 28.4% 25.8% 12.9% 21.3% 17.6% 12.3% 11.2% 10.3% 9.3%

Camera module ------588.0 2,869.3 5,595.2 8,392.8 10,239.2 GM ------5.4% 11.3% 11.2% 10.7% 10.3%

Others 4.6 9.9 5.5 22.5 28.0 73.9 103.0 344.2 1082.8 2309.9 3738.1 GM 51.3% 41.6% 48.4% 29.9% 33.7% 7.8% 9.3% 6.3% 13.7% 17.8% 18.1%

Total revenue 153.4 230.7 372.9 618.2 1,245.2 3,931.7 9,101.8 19,482.3 22,707.7 26,732.3 29,846.6 Growth YoY 50.3% 61.7% 65.8% 101.4% 215.8% 131.5% 114.0% 16.6% 17.7% 11.7% GM 33.3% 28.1% 26.5% 22.6% 13.8% 20.0% 16.3% 12.0% 11.3% 11.1% 10.7% Source: Company data, Credit Suisse estimates

Figure 192: Revenue growth to come down quickly Figure 193: Net income also at single-digit CAGR Rmb bn Rmb mn 30 150% 1000 120%

25 125% 800 80%

20 100% 600 40% 15 75%

400 0% 10 50%

200 -40% 5 25%

0 0% 0 -80% 2007 2008 2009 2010 2011 2012 2013 2014 2015E2016E2017E 2007 2008 2009 2010 2011 2012 2013 2014 2015E2016E2017E

Revenue YoY Net income YoY

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

China Components Sector 88 11 September 2015

With the GM pressure at the TP and HCM segments partly offset by the high growth of fingerprint and software (with higher than average GMs), we expect O-film's overall GM to decline from 12% in 2014 to 10.7% by 2017E. While we expect the company to continue to invest in new areas, its opex ratio is not coming down for the next three years. All in all, we expect a declining trend for GM/OPM/NPM for 2015-17E.

Figure 194: TP/HCM GM will come down Figure 195: GM/OPM/NPM slightly down

60% 35%

50% 30%

25% 40%

20% 30% 15% 20% 10% 10% 5% 0% 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E 0% 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E 2017E Traditional business Touch screen Camera module Others Overall GM OPM NPM

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates Therefore, we expect only a single-digit bottom-line growth (9%) for O-film in 2015-17E, which is much lower than the 56% during the past seven years, and also below the A- share sector average of 20%. On the other hand, its ROE of 11-12% is also below the coverage average. We initiate coverage with UNDERPERFORM and a target price of Rmb15.2, based on the Initiate coverage with sector average 2017E P/E of 19.7x and at a 10% discount for its slower growth and lower UNDERPERFORM ROE. The stock is now trading close to its historical average of 28.6x. We believe there is further downside with the disappointing earnings ahead.

Figure 196: Now trading below its historical average Figure 197: P/B vs ROE trends 80 9 27%

8 24% 70 7 21% 60 6 18% 50 +1 SD: 44.6X 5 15%

40 4 12% 3 9% 30 Average:28.6X 2 6% 20 1 3%

10 -1 SD: 12.7X 0 0% 3-Aug-10 3-Aug-11 3-Aug-12 3-Aug-13 3-Aug-14 3-Aug-15 3-Aug-16 3-Aug-17 0 3-Aug-10 3-May-11 3-Feb-12 3-Nov-12 3-Aug-13 3-May-14 3-Feb-15 P/B ROE

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

China Components Sector 89 11 September 2015

Figure 198: O-film is at lower growth and ROE, while trading higher than regional peers Mkt Current Po. NI Div cap TP price up/ PE(x) P/B (x) ROE (%) CAGR yld Company Ticker Rating US$ mn (lc) (lc) down 15E 16E 17E 15E 16E 17E 15E 16E 17E 15-17E 15E Sunny 2018.HK O 7,613 41.4 39.53 5% 18.0 15.5 13.1 4.7 3.9 3.2 27.7% 27.6% 27.1% 16.9% 2.3% TPK 3673.TW O 1,000 215.0 92.40 133% 47.4 6.1 5.5 0.7 0.6 0.6 1.4% 10.3% 10.5% 174.2% 4.8% SEMCO 009150.KS N 4,110 58,000 65,500 -11% 23.6 15.9 14.8 1.0 1.0 0.9 4.4% 6.3% 6.5% -13.4% 1.1% O-film 002456.SZ U 3,523 15.2 21.80 -30% 31.2 25.7 25.4 3.5 3.1 2.8 11.8% 12.9% 11.7% 9.0% 0.6% Changxin 300088.SZ NR 1,520 NA 16.80 NM 34.1 19.9 16.0 3.6 3.1 2.7 10.5% 15.8% 16.8% 31.4% 0.7% Laibao 002106.SZ NR 1,820 NA 16.44 NM 552.6 400.1 NM 2.9 2.8 NM 0.5% 0.7% NM NM 0.1% Truly 0732.HK NR 750 NA 2.00 NM 5.3 4.8 4.6 0.7 0.6 0.6 13.4% 13.2% 13.7% -4.4% 5.1% Q Tech 1478.HK NR 179 NA 1.36 NM 5.0 4.6 4.0 0.8 0.8 0.7 17.9% 16.8% 17.0% 21.5% 4.1% Lite-On 1478.HK NR 2,261 37.0 31.00 NM 10.6 9.2 8.5 1.0 0.9 0.9 9.1% 10.3% 10.7% 10.3% 7.6% Primax 4915.TW NR 558 NA 41.35 NM 10.1 8.5 7.3 1.8 1.6 1.3 17.9% 19.0% 18.3% 17.2% 5.5% Average 73.8 51.0 11.0 2.1 1.9 1.5 11.5% 13.3% 14.7% 29.2% 3.2% Median 20.8 12.3 8.5 1.4 1.3 0.9 11.1% 13.0% 13.7% 16.9% 3.2% Note: Priced as of 9 September 2015. Source: Wind/IBES consensus for NR stocks, Credit Suisse estimates

China Components Sector 90 11 September 2015 Investment risks We note four factors as potential risks to our view on O-film and therefore will keep a close watch on them:

■ China smartphone demand turnaround: O-film mainly supplies Chinese smartphone brands and we project that the short-term growth momentum for Chinese smartphones will remain sluggish. If demand from China recovers faster than our expectation, it may contribute to O-film's top-line growth.

■ Positive technology tailwind to film-based TP solution: Although we have observed that in-cell and on-cell are gaining share in China's high-end market, some issues such as yield rate remain for integrated solutions. If film-based TP can improve its performance through technology upgrade, it is entirely possible that film-based solution can gain back some shares.

■ Milder-than-expected competition on TP/HCM businesses: Given the already low margin environment, industry players may be willing to explore new opportunities rather than compete intensively for market share in TP/HCM business, very similar to O-film's recent move. This may alleviate the overall margin decline and work positively for O-film's bottom line.

■ Faster-than-expected progress in new investments: We expect limited revenue contribution from new businesses, yet it is possible that some of the new TAMs may ramp up faster, due to major technology breakthrough or knockout products. This will work positively for O-film's top-line and profitability.

China Components Sector 91 11 September 2015 Appendix Company background O-film was founded in October 2007 by O-film Holding, Yu Gao (China), Cowin Capital and Shenzhen Capital. Yu Gao (China) is 100% owned by Gaoxiao Cai, the brother of the company's actual owner, Rongjun Cai. Both Cowin Capital and Shenzhen Capital are financial investors. Rongjun Cai graduated from Shantou University and worked for Eastman Kodak Company as an engineer and head of the technology department. He worked as general manager of O-film Ltd, the predecessor of O-film, in 2002. He has around 20 years of experience in the optoelectronic film components industry and has been honoured as a member of the film industry committee of The Chinese Optical Society.

Figure 199: Shareholding structure after IPO

Rongjun Cai Lihua Cai Gaoxiao Cai 99.04% 0.96% 100%

Cowin Capital Shenzhen Capital O-film Holding Heng Tai An Yu Gao (China) Public shareholders

7.03% 11.04% 27.27% 10.91% 18.75% 25%

Ofilm

Source: Company data

Figure 200: Current shareholding structure (1H2015)

Rongjun Cai Lihua Cai Gaoxiao Cai 99.04% 0.96% 100%

Shenzhen Capital O-film Holding Heng Tai An Yu Gao (China) Public shareholders

1.49% 20.32% 2.09% 12.08% 64.02%

Ofilm

Source: Company data

China Components Sector 92 11 September 2015

Companies Mentioned (Price as of 09-Sep-2015) AAC Technologies Holdings Inc (2018.HK, HK$48.05) Advanced Micro Devices, Inc. (AMD.OQ, $1.85) Aisidi (002416.SZ, Rmb9.42) Alcatel-Lucent (ALU.N, $3.42) Amphenol Corporation (APH.N, $50.61) BYD Electronic (International) Company Limited (0285.HK, HK$4.78, NEUTRAL[V], TP HK$5.0) BioElectronics (BIEL.PK, $8.0E-4) Casetek Holdings Limited (5264.TW, NT$141.0) Catcher Technology (2474.TW, NT$337.5) Cheng Uei Precision Industry Co. (2392.TW, NT$47.25) Coolpad Group Limited (2369.HK, HK$1.17) Deren (002055.SZ, Rmb23.2) EWPT (300115.SZ, Rmb30.55) Flextronics International (FLEX.OQ, $10.81) Foster Electric (6794.T, ¥2,344) GoerTek Inc. (002241.SZ, Rmb26.2, NEUTRAL[V], TP Rmb23.5) HTC Corp (2498.TW, NT$53.9) Hisense Electric Co., Ltd (600060.SS, Rmb15.61) Hon Hai Precision (2317.TW, NT$85.5) Japan Aviation Electronics Industry (6807.T, ¥2,038) Jinlong Mach&Ele (300032.SZ, Rmb26.44) Ju Teng Intl (3336.HK, HK$3.39) Largan Precision (3008.TW, NT$2830.0) Lenovo Group Ltd (0992.HK, HK$6.85) Lens Technology Co., Ltd (300433.SZ, Rmb66.3, NEUTRAL[V], TP Rmb59.0) Linear Technology Corp. (LLTC.OQ, $40.35) Lite-On Technology (2301.TW, NT$31.0) Luxshare Precision Industry Co., Ltd (002475.SZ, Rmb28.42, OUTPERFORM, TP Rmb35.5) Meizu (Unlisted) Mellanox Technologies Ltd. (MLNX.OQ, $41.45) Merry Electronics Co. Ltd (2439.TW, NT$44.5) Microsoft Corporation (MSFT.OQ, $43.07) Motorola Solutions (MSI.N, $68.3) Nokia (NOKIA.HE, €5.885) Plantronics (PLT.N, $52.28) Primax (4915.TW, NT$41.35) Q Technology (1478.HK, HK$1.36) QUALCOMM Inc. (QCOM.OQ, $54.32) SLC (002106.SZ, Rmb16.44) Samsung Electro-Mechanics (009150.KS, W65,500) Samsung Engineering Co Ltd (028050.KS, W27,500) SanDisk Corp. (SNDK.OQ, $54.52) Shenzhen O-film Tech Co., Ltd (002456.SZ, Rmb21.8, UNDERPERFORM[V], TP Rmb15.2) Sony (6758.T, ¥3,114) Speed Tech (5457.TWO, NT$27.05) Sunny Optical Technology Group Co., Limited (2382.HK, HK$14.44) Sunway (300136.SZ, Rmb23.27) Sunwoda (300207.SZ, Rmb22.0) TE Connectivity (TEL.N, $59.61) TPK Holdings (3673.TW, NT$92.4) Telling Holding (000829.SZ, Rmb9.26) Texas Instruments Inc. (TXN.OQ, $47.61) Tianyu Info (300205.SZ, Rmb14.25) Token Sciences (300088.SZ, Rmb16.8) Tongda Group (0698.HK, HK$1.27) Truly International (0732.HK, HK$2.0) Xilinx (XLNX.OQ, $41.59) ZTE Corporation (000063.SZ, Rmb17.23)

Disclosure Appendix Important Global Disclosures I, Sam Li, certify that (1) the views expressed in this report accurately reflect my personal views about all of the subject companies and securities and (2) no part of my compensation was, is or will be directly or indirectly related to the specific recommendations or views expressed in this report. The analyst(s) responsible for preparing this research report received Compensation that is based upon various factors including Credit Suisse's total revenues, a portion of which are generated by Credit Suisse's investment banking activities As of December 10, 2012 Analysts’ stock rating are defined as follows: Outperform (O) : The stock’s total return is expected to outperform the relevant benchmark*over the next 12 months. Neutral (N) : The stock’s total return is expected to be in line with the relevant benchmark* over the next 12 months. Underperform (U) : The stock’s total return is expected to underperform the relevant benchmark* over the next 12 months.

China Components Sector 93 11 September 2015

*Relevant benchmark by region: As of 10th December 2012, Japanese ratings are based on a stock’s total return relative to the analyst's coverage universe which consists of all companies covered by the analyst within the relevant sector, with Outperforms representing the most attractive, Neutrals the less attractive, and Underperforms the least attractive investment opportunities. As of 2nd October 2012, U.S. and Canadian as well as European ratings are based on a stock’s total return relative to the analyst's coverage universe which consists of all companies covered by the analyst within the relevant sector, with Outperforms representing the most attractive, Neutrals the less attractive, and Underperforms the least attractive investment opportunities. For Latin Ame rican and non-Japan Asia stocks, ratings are based on a stock’s total return relative to the average total return of the relevant country or regional benchmark; prior to 2nd October 2012 U.S. and Canadian ratings were based on (1) a stock’s absolute total return potential to its current share price and (2) the relative attractiveness of a stock’s total return potential within an analyst’s coverage universe. For Australian and New Zealand stocks, the expected total return (ETR) calculation includes 12-month rolling dividend yield. An Outperform rating is assigned where an ETR is greater than or equal to 7.5%; Underperform where an ETR less than or equal to 5%. A Neutral may be assigned where the ETR is between -5% and 15%. The overlapping rating range allows analysts to assign a rating that puts ETR in the context of associated risks. Prior to 18 May 2015, ETR ranges for Outperform and Underperform ratings did not overlap with Neutral thresholds between 15% and 7.5%, which was in operation from 7 July 2011. Restricted (R) : In certain circumstances, Credit Suisse policy and/or applicable law and regulations preclude certain types of communications, including an investment recommendation, during the course of Credit Suisse's engagement in an investment banking transaction and in certain other circumstances.

Volatility Indicator [V] : A stock is defined as volatile if the stock price has moved up or down by 20% or more in a month in at least 8 of the past 24 months or the analyst expects significant volatility going forward.

Analysts’ sector weightings are distinct from analysts’ stock ratings and are based on the analyst’s expectations for the fundamentals and/or valuation of the sector* relative to the group’s historic fundamentals and/or valuation: Overweight : The analyst’s expectation for the sector’s fundamentals and/or valuation is favorable over the next 12 months. Market Weight : The analyst’s expectation for the sector’s fundamentals and/or valuation is neutral over the next 12 months. Underweight : The analyst’s expectation for the sector’s fundamentals and/or valuation is cautious over the next 12 months. *An analyst’s coverage sector consists of all companies covered by the analyst within the relevant sector. An analyst may cover multiple sectors.

Credit Suisse's distribution of stock ratings (and banking clients) is:

Global Ratings Distribution Rating Versus universe (%) Of which banking clients (%) Outperform/Buy* 55% (33% banking clients) Neutral/Hold* 30% (40% banking clients) Underperform/Sell* 12% (33% banking clients) Restricted 3% *For purposes of the NYSE and NASD ratings distribution disclosure requirements, our stock ratings of Outperform, Neutral, and Underperform most closely correspond to Buy, Hold, and Sell, respectively; however, the meanings are not the same, as our stock ratings are determined on a relative basis. (Please refer to definitions above.) An investor's decision to buy or sell a security should be based on investment objectives, current holdings, and other individual factors.

Credit Suisse’s policy is to update research reports as it deems appropriate, based on developments with the subject company, the sector or the market that may have a material impact on the research views or opinions stated herein. Credit Suisse's policy is only to publish investment research that is impartial, independent, clear, fair and not misleading. For more detail please refer to Credit Suisse's Policies for Managing Conflicts of Interest in connection with Investment Research: http://www.csfb.com/research-and- analytics/disclaimer/managing_conflicts_disclaimer.html Credit Suisse does not provide any tax advice. Any statement herein regarding any US federal tax is not intended or written to be used, and cannot be used, by any taxpayer for the purposes of avoiding any penalties.

Price Target: (12 months) for BYD Electronic (International) Company Limited (0285.HK) Method: Our target price of HK$5.00 for BYD Electronic is based on BYDE's own historical average NTM P/E of 9x.

Risk: Key risks to our target price of HK$5.00 for BYD Electronic Inc are client concentration risk, product design changes, pricing pressure and forex risk.

Price Target: (12 months) for GoerTek Inc. (002241.SZ) Method: Our target price of Rmb23.5 for GoerTek Inc is based on the sector average 2017E P/E of 19.7x with 5% discount.

Risk: Risks to our target price of Rmb23.5 for GoerTek Inc are: faster-than-expected progress at new businesses, higher-/lower-than-expected opex on new businesses, weak global smartphone demand, and FX risks. Price Target: (12 months) for Lens Technology Co., Ltd (300433.SZ) Method: Based on sector average 2017E P/E of 19.7X.

China Components Sector 94 11 September 2015

Risk: Client concentration risks on Apple and Samsung, product design changes, pricing pressure, and FX risk.

Price Target: (12 months) for Luxshare Precision Industry Co., Ltd (002475.SZ) Method: Our target price of Rmb35.5 for Luxshare Precision Industry is based on the A-share components sector's average 2017E P/E of 19.7x and at a 20% premium for its sector-high growth and ROE. Risk: Key investment risks to our target price of Rmb35.5 for Luxshare Precision Industry are: further weakening of global smartphone demand, pricing pressure, execution risks on new businesses, and FX risk.

Price Target: (12 months) for Shenzhen O-film Tech Co., Ltd (002456.SZ) Method: Our target price of Rmb15.2 for Shenzhen O-film Tech is based on the sector average 2017E P/E of 19.7x with a 10% discount for lower growth and ROE.

Risk: Key risks to our target price of Rmb15.2 for Shenzhen O-film Tech are: China smartphone demand, positive technology tailwind to the film-based TP solution, milder-than-expected competition on TP/HCM businesses, and faster-than-expected progress in new businesses

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China Components Sector 95 11 September 2015

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TC2189 China Components Sector 96