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Difficulty: Moderate
1) How does Nanofilm make money?
2) Historical revenue and profit growth
3) P/E and dividend yield
4) Nanofilm’s P/E vs competitors
5) Our biggest concern: Customer concentration risk
Appendix 1: Description of Nanofilm’s three business units
Appendix 2: Other risks worth highlighting
Appendix 3: Recap of IPO details
The InvestQuest’s View:
The Good: The company has a solid track record with an established customer base. We should see buying support from retail investors in the short-term, as only S$10m of IPO shares were allocated in the retail offering. Over the longer-term, Nanofilm’s valuation may benefit from a “scarcity premium”, given the lack of mid-large cap tech-related stock alternatives listed in Singapore.
The Bad: Lofty valuations and customer concentration risk are our main worries. Nanofilm’s current price implies a P/E of 47x, more than twice that of its listed competitors, despite having a similar historical earnings growth profile. We expect dividend yield to be an uninspiring 0.5% for 2021, one-third that of its peers. Lastly, having more than 50% of sales coming from a single end-customer is a big risk and should be reflected in the company’s valuations.
Would we invest? No, not at the current price. We believe that Nanofilm’s current valuation premium is excessive and we see longer-term downside risk, particularly after the stock has rallied 16% in the first two days of trading.
1) How does Nanofilm make money?
Nanofilm has three business units
Nanofilm’s main business involves “coating”, which generates around 80% of the company’s revenues. Coating is the act of depositing a layer of material onto an object’s surface, with the aim of enhancing the surface’s durability and/or looks. Nanofilm has named this business unit “Advanced Materials”.
As we were researching on “physical vapor deposition (PVD) coating”, we chanced upon this video by Nanofilm’s competitor Kobelco which I found instructive as an introductory primer. Do note that Nanofilm’s coating process is proprietary and will be different from the video.
Secondly, Nanofilm offers nanofabrication services, which involves making really small precision components. They have named this business unit “Nanofabrication”.
Lastly, Nanofilm sells turnkey equipment systems. Nanofilm is able to design and manufacture customized equipment & software, which can be integrated into the manufacturing lines of their customers. This business unit is called “Industrial Equipment”.
A more detailed description of the three above-mentioned business units may be found in Appendix 1.
Nanofilm’s competitive strengths
There are two main ones in our view, one is process-related and the other is material-related. Details as follows:
Process-related: Proprietary Coating Technology (FCVA)
- FCVA vacuum coating is capable of deposition at room temperature (vs conventional coating technologies that typically require high temperatures). There are two benefits to this.
- Allows the coating to be performed on a wider variety of materials such as plastics, rubber and ceramics, where conventional technologies are less successful
- Environmentally-friendly
- Other benefits of FCVA coating technology include superior adhesion, high density, high hardness and the ability to achieve good uniformity in the surface coating. These qualities prolong the durability and lifespan of products, while enhancing the product’s attractiveness and saleability.
Materials-related: Proprietary Advanced Materials Patents
- TAC-ON: A diamond-like material that adds product durability when used as a coat. Can be deposited on surfaces at low temperatures when FCVA technologies are used.
- iTAC: A derivative of TAC-ON. Able to extend the life of the piston ring by more than five times compared to other diamond-like carbon materials.
- MiCC: Able to prolong the service life of industrial tools.
2) Historical revenue and profit growth
Geographical sales exposure
As of 1H2020, bulk of Nanofilm’s revenues are derived from China, with the remainder split between Japan and Singapore (see pie chart below)
Historical sales and profit growth have been steady
Revenue and profit growth have been relatively steady for Nanofilm over the past few years. We highlight the compounded annual growth rates across different metrics below, from 2017 to 2019.
- Revenue: +17%
- Adjusted EBITDA: +15%
- Net Profit: +13%
In addition, net profit margins have also been steady at the 24% level since 2018. We note that margins have been slightly higher in the most recent trailing 12-months period (2H2019 to 1H2020) at 25.5%.
The below charts illustrate the above-mentioned information.
3) P/E and dividend yield
Historical P/E and Dividend Yield
Nanofilm’s revenues for the past 12-months (2H2019 to 1H2020) was S$165.5m (2019 actual: S$142.9m).
Net profits for the past 12-months was S$42.2m (2019 actual: S$34.5m). This would imply an EPS of S$0.064 on the enlarged post-IPO share base, or a trailing P/E of 47x based on the stock’s closing price of S$3.01 on 2 Nov 2020.
Dividends paid out in 2020 amounted to S$9.6m, which would imply a dividend yield of 0.5%, based on the share’s closing price of S$3.01 on 2 Nov 2020, and post-IPO enlarged share base.
Estimated Forward P/E and Dividend Yield
According to research firm Frost & Sullivan, the total addressable market (TAM) for Advance Materials, Nanoproducts and Component Manufacturing is forecasted to grow at a compounded annual growth rate (CAGR) of 7.5%, 11.0% and 4.6% respectively, from 2020 to 2023.
For the period between 2H2020 to 1H2021, Nanofilm’s revenues could hit S$177.4m, if we assume that the above growth rates are applied to Nanofilm’s business units.
Net profits could be S$46.2m (2019 actual: S$34.5m), if we assume that Nanofilm’s net profit margin remains unchanged at 25.5% (the current trailing 12-month net margin), and that the company no longer has to pay the 2% coupon on its S$50m convertible bonds (which would have been converted to shares). This would translate to an earnings per share of S$0.0702, or 42.9x forward P/E (based on the share’s closing price of S$3.01 on 2 Nov 2020).
2021 dividend yield could be 0.5%, as the company intends to distribute 20% of net profit after tax (excluding exceptional items) for FY 2021. This would imply S$0.0140 dividend per share (S$0.0702 * 20%), or 0.5% yield based on the share’s closing price of S$3.01 on 2 Nov 2020.
On the surface, a 42.9x P/E and 0.5% dividend yield does not look particularly compelling, unless the company is in a high growth market and able to make supernormal profits due to certain competitive strengths. Let’s next see what Nanofilm’s competitors are trading at…
4) Nanofilm’s P/E vs competitors
Nanofilm has identified key competitors within its three business units as follows:
Advanced Materials
- OC Oerlikon
- Vitalink
- Zhenghe
Nanofabrication
- Sunny Optical
- AAC Technologies
- AMS AG
- Largan Precision
- Nissei Technology
- NIL Technology
- Genius Electronic Optical
- Hamamatsu Photonics
Industrial Equipment
- Oerlikon Balzers
- IHI Hauzer
- Techno Coating
- Kobelco
- Kolzer SRL
- ULVAC
- Applied Materials
- Lam Research
- Tokyo Electron
- Mustang Vacuum Systems
We have included some of the key financial data and stock information on Nanofilm’s listed peers in the table below. We are keen to find out what the pace of growth has been like for these peers versus their current valuation multiples. If the average peer has had faster revenue and profit growth, while trading at a cheaper P/E multiple compared to Nanofilm, it would make less sense to invest in Nanofilm.
We make the following observations for Nanofilm:
- Annualized revenue growth of 17.4% has been faster than the peer median / average of 7.9% and 14.0% respectively.
- Annualized net profit growth of 13.2% has been in-line with the peer median / average of 13.3% and 14.1% respectively.
- Trailing P/E multiple of 47x is much more expensive than the peer median / average of 18.2x and 21.6x respectively.
- Forward P/E multiple of 42.9x is much more expensive than the peer median / average of 16.9x and 18.9x respectively.
- Dividend yield at 0.5% is low compared to the peer median / average of 1.6% and 1.8% respectively.
*For Nanofilm, the 2017-2019 revenue growth and net profit CAGR is used.
5) Our biggest concern: Customer concentration risk
Apart from the risk that new technologies render Nanofilm’s proprietary processes obsolete, the other biggest operational risk in our view is Nanofilm’s customer concentration risk.
As of 1H2020, Nanofilm’s top five customers accounted for approximately 81.9% of the firm’s total revenues. The concentration risk is skewed particularly to their largest end-customer, which accounts for approximately half of the firm’s revenue.
Due to confidentiality agreements, Nanofilm is unable to disclose who the largest customer is but they did describe this customer as “a global technology company that designs, develops and sells consumer electronics, computer software and online services”.
Our best guess is that Nanofilm’s largest customer would either be Apple, Xiaomi or Samsung Electronics. We were initially concerned that this largest customer could have been Huawei but since Huawei is already mentioned in their list of disclosed customers (see table below), we can safely exclude it.
| Key Customer | Approximate Length of Relationship |
| Fuji Xerox | 14 Years |
| Nikon | 13 Years |
| Canon | 13 Years |
| Sunny Optical | 12 Years |
| TPR | 11 Years |
| Riken | 10 Years |
| Ricoh | 10 Years |
| Microsoft | 5 Years |
| Huawei | 4 Years |
| AAC Technologies | 4 Years |
| Anqing TP Goetze Piston Ring | 3 Years |
| CYPR | 3 Years |
Note that although Nanofilm is the sole provider of certain products and nanotechnology solutions to some of their major end-customers, the company generally does not have exclusive arrangements with these end-customers.
The InvestQuest’s View:
The Good: The company has a solid track record with an established customer base. We should see buying support from retail investors in the short-term, as only S$10m of IPO shares were allocated in the retail offering. Over the longer-term, Nanofilm’s valuation may benefit from a “scarcity premium”, given the lack of mid-large cap tech-related stock alternatives listed in Singapore.
The Bad: Lofty valuations and customer concentration risk are our main worries. Nanofilm’s current price implies a P/E of 47x, more than twice that of its listed competitors, despite having a similar historical earnings growth profile. We expect dividend yield to be an uninspiring 0.5% for 2021, one-third that of its peers. Lastly, having more than 50% of sales coming from a single end-customer is a big risk and should be reflected in the company’s valuations.
Would we invest? No, not at the current price. We believe that Nanofilm’s current valuation premium is excessive and we see longer-term downside risk, particularly after the stock has rallied 16% in the first two days of trading.
Appendix 1: Description of Nanofilm’s three business units
Quoting from Nanofilm’s IPO Prospectus:
“Under our Advanced Materials BU, we provide advanced materials through surface solution services based on our vacuum coating technologies and processes. Our surface solution services involve the use of our Filtered Cathodic Vacuum Arc (“FCVA”) (and FCVA-hybrid with physical vapour deposition (“PVD”)) and PVD coating equipment to deposit our advanced materials on key components of our customers’ end-products, enabling our customers to achieve their desired functional and/or decorative improvements for their end-products.
Our Nanofabrication BU is a manufacturer and supplier of nanoproducts, which are used by our customers as components for the smooth functioning and performance of certain parts of their end-products, due to their nanoscale and/or nanofeatures. We utilise our nanofabrication technology and software to fabricate nanoproducts which are designed to fit the specific size and shape requirements specified by our customers as well as to provide the required functional properties to their end-products.
Under our Industrial Equipment BU, we manufacture and sell turnkey equipment systems ranging from coating equipment to auxiliary equipment such as cleaning lines to automation systems which are installed at our customers’ production lines. We provide our customers with not just the physical equipment, but also customised operating software for our systems and training, as well as spare-parts, customer service and other forms of after-sales support.”
Appendix 2: Other risks worth highlighting
Lease terms for production facilities
Nanofilm currently operate four production facilities situated in Singapore, Shanghai and Yizheng in China, and Hai Duong in Vietnam. In addition, a new Shanghai Plant 2 is expected to commence operations by the first quarter of 2021.
The existing leases for the Singapore Plant and Yizheng Plant expire on 31 December 2021 and 28 February 2022, respectively. In addition, the lessors to the Singapore Plant and Osaka Plant have the right to unilaterally terminate the leases, with 3 months and 6 months written notice respectively. In such circumstances, Nanofilm may not be able to or may decide not to renew our lease and would have to terminate their operations at that location, which will result in a loss of revenue from the facility.
Credit risk lies with contract manufacturers
Nanofilm typically operates like a sub-contractor, hence the firm’s credit risk lies with the contract manufacturers, rather than the end-customer (such as Canon or Microsoft). Nanofilm does not have a contractual right against the end-customer to claim for payment for products and services.
Nanofilm Founder Dr Shi Xu retains shareholder veto power
Dr Shi Xu is expected to have an interest in excess of 50% of the total issued share capital post-IPO. This offers him veto power with respect to any shareholder action or approval requiring a majority vote, including but not exclusive to an acquisition scenario.
Escalation of trade disputes between US-China
The U.S. government imposed various actions regarding trade with China, including levying various tariffs on imports from China, and may impose additional actions in the future.
As bulk of Nanofilm’s revenues are derived from China, demand for the company’s products and services may be adversely impacted by further escalation of such policies.
Appendix 3: Recap of IPO details
Key Details of the IPO
- Number of shares offered: 77,236,200 shares
- IPO price: S$2.59 per share
- Two share offering tranches:
- International placement (73,374,300 shares or ~S$190m), offered to institutions and clients of the bookrunners
- Singapore public offer (3,861,900 shares or ~S$10m), offered to Singapore retail investors
- Post-IPO total number of shares: 658,351,110 (this includes 104.3m shares that will be issued to cornerstone investors, happening at the same time but separate from the IPO).
- Post-IPO market cap: S$1.7bn, based on IPO price
- Listing Date: 30 October 2020
The IPO prospectus may be retrieved from this page.
Use of IPO proceeds
Of the S$470m raised from cornerstone investors and the IPO, S$190.9m of the cash proceeds will go to Nanofilm (for new shares issued by the company). The remaining cash proceeds will be used to purchase existing shares held by Dr Shi Xu (Nanofilm Founder), Lee Liang Huang (Nanofilm CEO) Wei Hao (Nanofilm executive), and to pay for the company’s IPO fees at the following amounts:
- Dr Shi Xu (Nanofilm Founder): S$227.8m as he sells 87.9m shares
- Lee Liang Huang (Nanofilm CEO): S$25.9m as he sells 10m shares
- Wei Hao (Nanofilm executive): S$16.3m as he sells 6.3m shares
- IPO fees: S$9.1m
While Dr Shi Xu is selling a substantial number of shares, do note that he will still hold more than 50% of the company’s share post-IPO, so we believe his interests are still aligned.
For the S$190.9m of cash proceeds going to Nanofilm, the expected use will be as follows:
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