Wednesday, June 27, 2007

Supply cannot meet the demand for LCD Panels and what it means for AUO

I submitted the following to today. More information detailing the supply/demand conundrum in various media outlets. One I like is

AU Optronics is the third largest thin film transistor LCD Panel manufacturer in the world. Market share for panels > 10" increased for all three market sectors: Notebook PC, LCD TV, and LCD Monitors. In panels < class="blsp-spelling-error" id="SPELLING_ERROR_0">th for mobile phones, 2nd for Digital Video Cameras, 3rd for Digital Still Cameras, and 2nd for General electronics (video game players, etc).

AUO is currently priced at 1.5x book, 1.56x sales, and 7.6x cash flow. Compared to the industry at 3.67, 3.15, and 18.9. The main factor in being valued less than their industry is their profits have not been optimal. That is what's changing. Currently, as profiled by a number of media outlets, demand for LCD panels is outstripping supply, which is leading to higher sales prices and higher margins.

Their May revenue was a record at 76.4% higher than last May. Year to date revenue (through May) is up 35.8%. This is what is leading them to publicly announce at their annual meeting that they are returning to profitability.

In terms of value, they are obviously undervalued compared to their industry. Once quarterly figures come out showing they indeed are returning to profitability, shares should increase. As revenue, margins, profit, and cash flow increase, I feel they will come closer to parity with their industry, but not become fully valued without a demonstrated consistency of earnings. In a cyclical business that is always the challenge and skepticism will remain the key obstacle in coming to full value.

The current price per ADR share (10 Taiwan shares to 1 ADR), could double without becoming overvalued fundamentally or compared to the industry based on their YTD revenues.

The catalyst is three-fold:
1) Demand for their products is higher than supply, creating higher margins and revenues.
2) YTD revenue growth is 35.8%
3) Higher revenues and margins are returning AUO to profitability

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