Greater China Technology Hardware – Optics Triple Cameras ...xqdoc.imedao.com/169de6f3c976338f3fe614c2.pdf · Other Chinese OEMs are also looking into the solution, though early

flict of nt decision.

for n

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Sunny (further upside in lens margin), AAC (Apple supply chain laggard).

MMGreater China Technology Hardware – Optics

Triple Cameras Taking Off

Growing triple cam demand could expand volume and addressable marketslenses and sensors, while mitigating pricing pressure for modules. A focus ohigher zoom factor will spur demand for higher lens specs. Our top picks:

June 18, 2018 09:22 PM GMT

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MM

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MMGreater China Technology Hardware – Optics

Triple Cameras Taking Off

We expect volume growth in the lens market to re-accelerate... In our base case, we project 12% YoY for 2019, with 8% YoY for 2020.

...thanks to more adoption of triple cameras: We assume penetra-tion rates for triple camera smartphones of 6% for 2019 and 11% for 2020.

Huawei's better-than-expected sell-through of P20 Pro (the first triple camera model) is encouraging. It shows that consumers still care about camera spec upgrades. We believe Huawei will continue to push triple cameras into its flagship model (Mate 20) in 2H18 and into Rmb2000+ models in 2019. Other Chinese OEMs are also looking into the solution, though early 2019 is more likely the launch timing for models. OEMs that don't follow suit risk the possibility of share loss to those who are still pushing for upgrades.

Triple cameras or VCSEL-embedded 3D sensing solutions? Longer term, we believe the two are not mutually exclusive: Triple cameras are mainly used to improve optical zoom further – i.e., enabling the phone to see distant objects clearly). If combined with time of flight (ToF) or structured light (SL) – i.e., enabling more accu-rate measurement of distance with objects, compared to stereo vision – that could create a powerful user case for Augmented Reality (AR). Our checks suggest Huawei's interest in launching a triple camera+ToF model in early 2019, though readiness of the 3D sensing supply chain and triple camera cost remain the keys. If triple camera cost can be lowered to ~US$40 (which could be achievable by the end of 2018), together with ToF (US$10+) the bill of materials (BOM) cost would be similar to that of P20 Pro. It's too early to tell what Apple could be working on for the iPhone in 2H19, so we lay out a scenario analysis for the VCSEL-embedded 3D sensing-related supply chain.

Lenses still a relatively discipules: Lens suppliers are relativeland we see a continued technolocontinues to focus on the high enin the midrange and low end we exand AAC in China. Further, our inshould start to ship lenses for theyield remains to be seen. Meacamera modules (CCM) is becomgest that some existing AndroidApple CCM supply chain, hopefu

Stock implications: Sunny is ourgain in lenses; a higher proportiohelp mitigate pricing pressure inexpansion in lenses will bring fustart to show in 1H18. We stay Eawait better entry points – muchcamera was quickly priced in. We plaggard that should benefit froACC's share price has reflected csee upside risk if competitors fai

Growing triple cam demand could expand volume and addressable markets for lenses and sensors, while mitigating prici r modules. A focus on higher zoom factor will spur dem r

lens specs. Our top picks: Sunny (further upside in lens marg).

WHAT’S CHANGED Price Target NT$3,200.00 NT$4,700.00

Sunny OpticalPrice Target HK$165.00 HK$220.00

ng pressure foand for highe

lined market compared to mod-

in), Industry View

In-Line
AAC (Apple supply chain laggard
Largan Precision From To

y disciplined in capacity expansion, gy gap among the suppliers. Largan d and benefits from higher ASP, but pect continued share loss to Sunny dustry checks suggest that Genius iPhone rear camera in 2H18, though nwhile, competition for compact ing more intense. Our checks sug- suppliers intend to penetrate the lly for 2019 or 2020 models.

top pick, thanks to continuing share n of triple camera revenue should

modules. We also believe ongoing rther margin upside, which should W on Largan and LG Innotek and of the potential upside from triple refer AAC as an Apple supply chain

m the new iPhone model launch. oncerns about competition, but we l to ramp up.

le

e

4,700

ks

MM Contents

5 Key Charts

7 Executive Summary

9 Stock implications

16 #1: Triple Cameras Expand Total AddressabMarket

20 #2: Triple Cameras or VCSEL-embedded 3DSensing?

23 #3: Competitive Landscape – Lenses a MorDisciplined Market

27 Largan: Stay EW; Raise Price Target to NT$

29 Largan: Risk-Reward

30 Largan: Financial Summary

31 Sunny Optical – Raising Price Target 33%

33 Sunny Optical: Risk-Reward

34 Sunny Optical: Financial Summary

35 LG Innotek: Risk-Reward

36 LG Innotek: Financial Summary

37 LG Innotek - Valuation Methodology & Ris

4

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MORGAN STANLEY RESEARCH 5

MExhibit 1:What are handset OEMs looking in for rear camera design? Higher zoom factor, enabling AR function, etc.

Source: Morgan Stanley Research

Key Charts

Exhibit 2:Supply chain in a snapshot

Source: Company data, Morgan Stanley Research

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6

MExhibit 3:2019 base case assumption: triple camera penetration rate of 8% in Chinese OEMs and 9% in Apple

0%

10%

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30%

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60%

Chinese OEMs Apple Overall

Dual

Triple

Source: IDC, Morgan Stanley Research estimates

Exhibit 4:Lens volume YoY growth: in our base case, we estimate that lens growth re-accelerates in 2019e (12% YoY)

0%

4%

8%

12%

16%

20%

2018E 2019E 2020E

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Exhibit 5:Penetration rate assumption by scenario: bull case presents 5% upside in volume from base case

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Apple ChineseOEMs

Apple ChineseOEMs

Apple ChineseOEMs

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Exhibit 6:Lens market share within Chinese OEMs: Largan mainly benefits from ASP lift from spec migration

46% 42% 38% 35% 31%

14% 25% 34% 39% 41%

15% 22% 24%

0%

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60%

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100%

2016 2017 2018E 2019E 2020E

Others

AAC

Kantasu

Sunny

Largan

Source: IDC, TSR, Morgan Stanley Research estimates

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MWe see potential for the triple camera trend to take offHence, volume and the addressable markets for lenses and sensors should expand, while pricing pressure for camera modules should be mitigated. A focus on better zoom function will spur demand for higher lens specs, thus boosting lens ASP.

Three key themes

Our base case assumptions for penetration of triple cameras:

l Chinese OEMs: 8% in 2019 and 13% in 2020, up from 2% in 2018.

l Apple: 9% in 2019 and 23% in 2020, up from none in 2018.l We haven't factored in triple camera penetration for Sam-

sung, since its plans still sound tentative to us.

Hence, in our base case, we assume imaging lens volume market expansion of 3% in 2019 and 5% in 2020...

…or 12% YoY volume growth for 2019 and 8% YoY for 2020.

All in all, our checks suggest Chinese OEMs are targeting below US$40 for triple camera BOM cost (vs. Huawei P20 Pro at US$50-60).

In view of uncertainty about adoption rate, we also lay out a scenario analysis to present upside and downside to lens volume estimates.

Better sell-through of triple camera smartphones to further accelerate penetration: Huawei's better-than-expected sell-through of the first triple camera model is encouraging. It shows that consumers care about camera spec upgrades.

l We believe Huawei will continue to push triple cameras into its flagship model (Mate 20) in 2H18 and into Rmb2000+ models in 2019.

l Our checks also suggest that Apple is looking into triple camera design for the iPhone in 2H19, though it may be lim-ited to the highest-end phone and not distributed throughout the portfolio as FaceID (front-facing 3D sensing module) is likely to be this fall.

Executive Summary l We believe other Chinese OEMs are also looking into the

solution, though early 2019 is the more likely launch timing for such models, since as Huawei is the early mover in algo-rithms.

OEMs that don't follow suit risk the possibility of share loss to those who are still pushing for upgrades.

For further analysis, see #1: Triple Cameras Expand Total Addressable Market

Triple cameras mainly for higher optical zoom so far: So far, most of the triple cameras are being used mainly for improving zoom fac-tors. iPhone X (with dual camera) carries 2x optical zoom, and Huawei's P20 Pro has 5x zoom factor (3x optical zoom and 2x digital). Our checks suggest that most Chinese OEMs are looking at 2.5-3x zoom factor. A growing demand for optical zoom and hence anti-handshaking will also increase demand for lenses with better specs (higher depth of focus etc).

Longer term, we believe triple cameras and VCSEL-embedded 3D sensing solutions are not mutually exclusive: There has been ongoing debate on whether OEMs will go for only triple cameras for AR function, rather than using VCSEL-embedded 3D sensing solu-tions, to save BOM cost. We believe the two are not mutually exclu-sive in the longer term.

l Triple cameras are used mainly to further improve optical zoom – i.e. enabling the phone to see objects more clearly at a distance clearly.

l If combined with VCSEL-embedded 3D sensing (which is more accurate in measuring distance with objects), the two together could create a powerful user case for AR.

Although it's too early to tell what Apple could launch for its 2H19 model, our checks suggest that Huawei plans to launch a triple camera+ToF model in early 2019, though 3D sensing supply chain readiness remains the key.

In terms of concern about BOM cost, if triple camera cost for the Android camp can be lowered to ~US$40 (which could be achievable by the end of 2018), together with ToF (US$10+), a BOM cost similar to that of P20 Pro could be achieved.

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8

MScenario analysis for VCSEL-embedded 3D sensing supply chain: We still believe there will be a rear-facing 3D sensing module in at least the top-end model of the iPhone next fall, but we are laying out a bear case scenario analysis for the related supply chain. Assuming no rear 3D sensing for iPhone in 2H19, we see 3% downside to 2019e EPS for VPEC (3455.TW, OW, covered by Sharon Shih), 8% downside for Win Semi (3105.TW, OW, covered by Charlie Chan), 20% down-side for Lumentum (LITE.O, EW, covered by Meta Marshall) and <5% downside for Finisar and II-VI (FNSR.O, OW; IIVI.O, OW, both covered by Meta Marshall).

Exhibit 7:Scenario analysis of iPhone's 2H19 model spec

Source: Morgan Stanley Research estimates

For further analysis, see #2: Triple Cameras or VCSEL-embedded 3D Sensing?

Lenses – a more benign competitive landscape than for modules, though the leader still faces challenges: Lens suppliers are more disciplined in capacity expansion.

l Largan should continue to focus on the high-end market and hence benefit from rising ASP: In a case where Largan con-tinues to focus only on the high end, our calculations suggest that the market is large enough for lens suppliers to grow fur-ther in 2019. We expect Largan to remain in the high-end market and lose share in the midrange and low end, hence achieving limited growth in volume but upside in ASP, thanks to ongoing spec migration (for larger aperture, more depth of focus, superwide angle lenses, etc.).

l Sunny and AAC are still catching up in the midrange/low-end market with volume share gains: Both companies should con-tinue to grow in the midrange/low end, with larger upside in volume. With Sunny's larger scale in handset lens and better yield, it should see its handset lens margin expand, we think.

As for modules, we see competition becoming more intense on the Android side in 1H18, though ongoing migration could help to miti-gate pricing impact.

On the Apple side, our checks suggest that some existing Android suppliers intend to penetrate the supply chain, hopefully for the 2019 or 2020 models.

For further analysis, see #3: Competitive Landscape – Lenses a More Disciplined Market

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MStock implications

We prefer share gainers and performance laggardsl Sunny is our top pick thanks to continuing share gain in lenses. A higher proportion of triple camera revenue should

help to mitigate pricing pressure in modules. Further, with larger scale in lens, we expect further upside in margin. l We maintain our OW rating on AAC, as we believe the acoustic upgrade will continue, and the current share price

already reflects concerns about competition. Risk skews to the upside if competitors fail to deliver and AAC gains more share.

l We stay EW on Largan, as the recent share price surge has factored in wide expectations of iPhone's potential adoption of triple camera in 2H19. Although Largan could continue to benefit from high-end lens growth, we see it steadily losing share to Sunny/AAC in the midrange and low-end segments in China. Further, our industry checks suggest that Genius should start to ship into the iPhone rear camera lens market in 2H18, though the yield remains to be seen.

Largan and Sunny stocks have already had a nice run recently thanks to the growing trend of triple cameras, enlarging their addressable market. We believe the market has not yet priced in the potential upside in handset lens margins for Sunny. Although the CCM GPM could remain under pressure in 1H18, we are more bullish than consensus on handset lens margins, which we think should support overall 1H18 profitability.

We have still assumed in our base cases that there is a rear-facing VCSEL-based 3D sensing module in Apple phones in the fall of 2019. For now, our assumption is still that the triple camera within the Apple universe will be introduced in combination with ToF.

Key coming catalysts:

l Sunny will host a reverse roadshow on 20 June, when we believe management should lay out a rosy outlook for camera spec migration.

l 1H18 earnings release (which should come in mid-August).

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CCM – migration towards triple cameras to mitigate pricing pres-sure: We expect 8% penetration for triple cameras in 2019 and 13% in 2020, up from 2% in 2018. Huawei has been particularly aggressive in pushing triple cameras and our checks suggest that other OEMs also looking into the solution.

We estimate that triple cameras will contribute 1% of Sunny's CCM volume in 2018 and 9% in 2019. Triple cameras can help to lift blended CCM ASP, as a triple camera module can carry US$40+ ASP, compared to dual cam modules at US$20+ for high-end models cur-rently. Potential penetration of global OEMs for smartphone CCM business in 2019 remains a source of upside.

Handset lenses – share gain steady in midrange segment: As Largan continues to focus on the high-end segment, we expect Sunny's share within Chinese OEMs to reach ~34% in 2018 and fur-ther grow to 39% in 2019. We also see GPM continuing to expand, thanks to better yield and higher utilization rates.

Sunny Optical (2382.HK, OW, raise price target to HK$220)

We believe Sunny benefits most from the triple camera trend, thanks to its exposure to both modules and handset lenses. Vehicle lens exposure remains a steady contributor; upside could come from more revenue from vehicle modules and potential penetration of global OEMs for smartphone CCM business.

After incorporating the contribution from triple cameras, which will mitigate pricing pressure on modules and increase revenue of handset lenses, we raise our Sunny EPS estimates 2% for 2018 and 9% for 2019.

Our price target rises more sharply (33%), to HK$220, implying 32x 2019e P/E. Our higher implied target multiple implies a secular trend for Sunny; we believe a target multiple at the high end of the historical range since 2016 is justified. Sunny is one of the key beneficiaries of the triple camera trend.

Vehicle lenses – ASP upside: We expect vehicle lens volume growth in 1H18 to decelerate to 17% YoY but re-accelerate in 2H18 as more new projects kick in. Further, we see a gradual ASP lift thanks to pixel migration from VGA to 2MP. Vehicle modules could gradually bring further addressable market expansion in the longer term.

1H18 preview: Consensus is mostly concerned about CCM GPM pressure. We expect 1H18 CCM GPM to come down slightly YoY (12.7% in 1H17 and 11.5% 1H8) due to pricing pressure, but look for handset lens GPM to improve more than 5ppt compared to 1H17 thanks to better yield and higher utilization rates. We expect 1H18 net income to reach Rmb1.7bn, +47% YoY/-2% HoH, or 5% above Bloom-berg consensus.

For detailed discussion of changes to our estimates and price target, see Sunny Optical – Raising Price Target 33% .

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MAAC (2018.HK, OW, maintain price target at HK$150)

The Street is mostly concerned about competition, but we believe that as long as spec migration continues, which we expect to be the case for both acoustics and optics, AAC will remain the technology leader and should maintain share allocation, since it is still the supplier that can ramp up components with new specs quickly with satisfactory yield. While AAC's share price has reflected concerns about competition, we think risk lies to the upside if competitors fail to ramp up yield. Although optics accounts for less than 10% of AAC's total revenue, we prefer it over Largan and LG Innotek currently as a laggard play that represents an opportunity ahead of Apple's new model launch.

Acoustics – growth in Android camp in 2018 and upgrades to con-tinue into 2019: We believe AAC's strategy is to push super linear speakers (SLS) more into midrange Android phones in 2018 and hence drive out some competition. Looking into 2019, our checks suggest that some OEMs are looking into solutions to leverage smart PA to further enhance acoustic quality. With most existing speaker boxes able to reach at most an amplitude of +/-0.4mm, super linear speakers offer superior amplitude, and a combination of mechanical structure, smart PA (procured mostly from NXP), and algorithm could provide an even better solution.

Optics – progress with plastic lenses on track though hybrid could remain a niche market in the near term: Our checks suggest that AAC has improved yield in plastic lenses and hence is gaining market share in the low-end segment within Chinese OEMs, particu-larly with O-Film, Transsion, etc. We also believe AAC should start

supplying into certain 3D sensing models in 2H18, though volume is likely to remain small. We believe opportunity with Apple's front 3D sensing for 2019 model remains the key to watch for a major break-through.

Haptics: Our checks suggest that Luxshare should start to supply haptics for the iPhone model in 2H18, and as Japanese suppliers grad-ually opt out, Luxshare will be the first to take their place. AAC's share allocation potential remains to the upside if Luxshare fails to ramp up its yield fast. Potential change in haptics design for virtual bottom remains the key to watch.

RF: Our checks suggest that AAC is continuing to gain share in RF in 2018, thanks to more volume from Huawei, Samsung, OPPO, etc. We estimate AAC's RF casing volume to reach ~40mn units in 2018 with ASP of ~Rmb100.

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12

MLargan (3008.TW, EW, raise price target to NT$4700)

A technology gap remains between Largan and other lens suppliers, and Largan will still be the sole supplier for triple camera lenses initially, due to higher-spec design including more depth of focus, etc. Despite high-end lens market could re-accelerate into 2019, we believe Largan will continue to focus on high-end (and hence benefit from ASP lift) though continue to lose volume share in mid-low end. Genius' newly penetration into iPhone's rear camera lens in 2H18 also remains to watch to see if they can ramp up the yield.

We raised EPS estimates 8% for both 2018 and 2019 to incorporate better than expected 2Q18 revenue (thanks to better sell-through of Chinese OEMs) and more lens volume from increased triple camera penetration.

We stay EW, in belief that the shares have priced in expectations of wider triple camera adoption. Our new price target of NT$4,700 implies 19x 2019e P/E, at the high end of its historical range since 2016, which we find justifiable as the secular triple camera trend takes off. Given the surge in the share price in the past month, we see limited upside from here barring evidence of further earnings upside.

High-end lens market growth re-accelerating: With growing adoption of triple cameras (we expect 8% penetration rate in Chinese OEMs and 9% in Apple in 2019) and initial adoption of triple cameras in high-end models, we see growth in the high-end lens market re-ac-celerating. Thus, Largan, which maintains its focus on the high end, can benefit.

We believe the technology gap between Largan and its competi-tors remains, though management's strategy to focus on the high end could lead to share loss in the midrange/low end: Largan will still be the sole supplier for triple camera lenses initially, we think, thanks to stringent spec requirements from OEMs (larger aperture, more depth of focus, etc.). Nevertheless, within Chinese OEMs, where the cost-to-performance ratio is paramount in many situations, we expect Sunny to show ongoing share gains; hence, we look for Largan to lose share as it chooses to focus on the high-end segment. Our calculations suggest that Sunny could surpass Largan as the #1 lens supplier within Chinese OEMs by 2019.

Competition within Apple has been stable in past decades; Genius's yield on iPhone rear lens remains the key to watch: Our checks suggest that Genius could start supplying to iPhone LCD models in 2H18, and Kantatsu also aims to increase its share alloca-tion, though the yields for both remain to be seen. We assume that Largan controls ~82% of iPhone rear camera share allocation in 2020, compared with 87-88% in 2017.

We maintain our EW rating on Largan, as the recent surge in its share price has factored in upside from triple camera; competi-tors' improvement, if any, would present further downside: The jumps in both Largan's and LG Innotek's share prices have reflected widely held expectations of iPhone's triple camera adoption in 2H19. Risks skew to the downside if Genius ramps up its yield in iPhone's rear camera lens more smoothly than expected in 2H18.

For detailed discussion of changes to our estimates and price target, see Largan: Maintain EW with Price Target of NT$4,700 .

Exhibit 8:Apple: iPhone rear camera lens share allocation assumption

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Exhibit 9:Apple: iPhone front camera assumption

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MQ Tech (1478.HK, UW, maintain price target at HK$4)

As a module supplier with very limited exposure to the lens market, we are less confident in Q-Tech's growth potential from the trend.

For dual cameras, we believe O-Film has been expanding capacity aggressively. Hence, there is more pricing pressure in the midrange/low end, as evidenced by Q Tech's 1H18 profit alert. We believe it's hard for profitability to recover into 2H18.

Handset lens exposure still limited: Q Tech tried to gain exposure in handset lenses through a 36% stake in Newmax. However, Newmax is mostly engaged in PC and NB lenses, with limited experi-ence in handset lenses. Hence, it could be hard for Newmax to pick up volume in handset lenses.

We don't expect Q Tech to be one of the key suppliers for triple cameras at the initial stage, and competition in dual camera becomes more intense: We believe Sunny, Lite-On (acquired by the family of Luxshare's CEO), LG Innotek, and SEMCO are likely the ini-tial suppliers into triple cameras in 2018/2019. Q Tech will remain in the midrange/low-end dual camera segment and hence will benefit less from rising ASP.

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MLG Innotek

We believe investor expectations that 2Q will be better than feared, along with new product cycle builds, drove LGI's recent share price rally (+31% from April lows, vs. -2% for the KOSPI). The stock's valuation appears to reflect the near-term positives. We maintain our optimistic stance on 2Q but wait for a compelling entry point and stay EW.

2Q earnings may be better… As LG Innotek (LGI)'s revenue expo-sure to Apple steadily rose from 55% in 2016 to 60% in 2017, and to 70% in 2018e, 'strong 2H and weak 1H' became the norm. Earnings are likely to remain challenged in the near term in view of LGI's high oper-ating leverage and seasonal impact, but our 2Q OP estimate remains ~W20bn better than the Street consensus (we project -W2bn vs. Bloomberg consensus at -W21bn), reflecting our assumptions of an earlier new iPhone build and inventory headwind turning to tailwind. We estimate that substrate sales (PCB, RF-PCB, package) will sup-port earnings in 2Q, as new orders from May were slightly ahead of schedule compared with the previous year.

… but a lot was priced in quickly: Much of the bad news has played out with an increasing number of news reports citing cuts for iPhone builds in 1Q and 2Q. Though we believe LGI could post better-than-expected 2Q earnings, we are unsure at this point if other major posi-tive catalysts could play out in the near term beyond seasonal strength and higher content in sensing modules than is in consensus numbers. In our view, 2Q strength is attributable to earlier revenue recognition rather than a particularly strong new product cycle. Hence, we remain conservative on 2018 revenue growth estimates

and believe that risk to our current 2018e earnings is skewed to the downside. Given the recent share price rally (up 31% from the April low vs. down 2% for the KOSPI), we await a better entry point.

Triple cameras' upside potential from 2019: Although it may be too early to factor in the coming opportunity, we believe that growing triple cam demand could expand the total addressable market (TAM) for LGI while mitigating pricing pressure for its module business. We forecast that the proportion pf LGI's revenue from triple cam could rise from 15% in 2019 to 26% in 2020, assuming (i) higher ASP, (ii) rising non-Android adoption rate, and (iii) LGI's distinc-tive vendor share maintained throughout.

We raise earnings estimates and increase our PT to W150,000: While our 2018 EPS estimate is unchanged, we have raised EPS esti-mates 1% for 2019 and 3% for 2020, adding positives to our already optimistic view on the company's optics solution. Our RI-based price target increases 20%, to W150,000 as we reflect the triple cam opportunity, and hence higher long-term revenue growth, and roll our valuation forward to 1H19.

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MSony (6758.T, EW, maintain price target at JPY 5,600)

The main reason why we rate the stock Equal-weight despite the benefits of triple camera uptake is the significant impact of slowing earnings in Sony's games business at the end of the PS4 console cycle.

Sony is the global market share leader in dual camera CMOS sensors for high-end smartphones. We also believe it has a top-ranking share for triple cameras. In the triple camera space, required CMOS specs apparently differ according to the specs laid out by smartphone makers. In current models, image resolution is being left unchanged and sensor chips are being upsized, and this is driving up Sony’s plant operating rates both because it reduces the number of chips per wafer and because more sensors are being produced.

As of March 2018, Sony had increased 300mm-wafer-equivalent

capacity to 100K/month. The company has stated it is unlikely to add a new building to its plant during the term of the current medium-term plan, and our analysis is that it can increase capacity to 120K/month using its current buildings. In its medium-term plan through F3/21, Sony aims for semiconductor business (includes CMOS) sales of ¥1.1trn (F3/18: ¥850bn) and OP of ¥160-200bn (F3/18: ¥127.1bn, ex. special factors). Increasing uptake of triple cameras raises the probability that Sony will meet its targets as higher volumes of its CMOS sensors and larger chip sizes lift operating rates on its produc-tion lines.

Sony has said it aims to be the world leader in sensing. It has developed a high-precision, back-illuminated ToF (time-of-flight) sensor that provides depth sensing. It has named mobile, FA (factory automation), drones, and other areas as potential future applications.

Exhibit 10:Imaging sensor market view (from IR Day 2018)

Source: Sony presentation

Exhibit 11:Smartphone camera supply chain: peer comparison

6/15/2018 Price Market

Closing Target Cap

Ticker Company Price Rating (LC) (US$ m) 18E 19E 18E 19E 18E 19E 18E 19E

CCM Components and Module Makers

2383-HK Sunny 165.70 HKD OW 220.00 1,171 4.05 5.57 52% 37% 33.4 24.3 13.3 9.2

2018-HK AAC 119.40 HKD OW 150.00 HKD 20,447 5.23 6.37 20% 22% 18.6 15.3 5.3 4.3

3008-TW Largan 4,590.00 EW 4,700.00 20,503 196.9 248.1 2% 26% 23.3 18.5 5.6 4.6

6770-JP Alps 2,775.00 OW 3,700.00 N/A 268 274 0% 2% 10.4 10.2 1.6 1.6

6758-JP Sony 5,387.00 EW 5,600.00 N/A 440 384 13% -13% 12.7 14.5 2.0 1.7

002456-SZ O-film 18.41 OW 23.50 8,149 0.64 0.89 73% 39% 28.7 20.6 4.6 3.8

1478-HK Q-Tech 6.92 HKD UW 4.00 HKD 1,015 0.20 0.20 -49% 0% 27.7 27.8 2.8 2.6

EPS (LC) EPS Growth (%) P/E (X) P/B (X)

Source: Thomson Reuters, Morgan Stanley Research estimates

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Exhibit 12:Our checks suggest that demand for Huawei's P20+P20 Pro grew over 60% YoY compared to P10+P10 Plus in the first few weeks after launch

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P10 series

Source: Morgan Stanley Research, IDC

Triple cameras, if they become mainstream, could expand TAM in volume for imaging lenses by 3% for 2019 and 5% for 2020 After Huawei's initial success with P20 Pro, we see other OEMs also interested in launching triple camera models: Our checks suggest that Huawei intends to continue to push triple camera design

ConclusionIn our base case, we estimate that triple cameras will expand the addressable market in terms of volume for imaging lenses by 3% for 2019 and 5% for 2020, or 12% YoY growth in 2019, followed by 8% YoY growth in 2020. We believe Huawei is pushing triple camera into Rmb2000+ models in 2019. Hence, OEMs that don't follow suit could lose out in the competition.

We also believe Apple is studying a triple camera solution for iPhone models in 2H19.

All in all, our checks suggest that Chinese OEMs are targeting below US$40 for triple camera BOM cost (vs. Huawei P20 Pro at US$50-60).

In view of uncertainty about adoption rate, we also lay out a scenario analysis to present upside and downside to lens volume estimates.

#1: Triple Cameras Expand Total Addressable Market

We note some key obstacles that could prevent wider adoption of triple cameras:

1. As previously mentioned, higher BOM cost could deter OEMs from investing in spec migration.

2. Calibration adds challenge to yield rates, especially for module makers.

3. Algorithms could also be a challenge. This includes assuring reasonable processing run time, allowing zero image quality artifacts resulting from multiple inputs from multiple cam-eras, etc.

The framework will have to deal with three cameras which should operate as one. Hence, power management, memory management, etc. are all important.

Exhibit 13:2019 base case assumption: Chinese OEMs – dual cam and triple cam adoption rates

0%

10%

20%

30%

40%

50%

60%

70%

Huawei OPPO/Vivo Others Chinese OEMs

Dual

Triple


into its Rmb3000+ model in 2H18 (i.e., Mate20), and to Rmb2000+ models in 2019. For other OEMs, we believe 2019 is the more likely timing of triple camera launches, since Huawei still leads in algo-rithms and it will take time for chipset standard platforms (including Qualcomm and Mediatek) to become more mature. We also believe OEMs are targeting below US$40 for triple camera BOM cost (vs. Huawei P20 Pro at US$50-60).

M


MExhibit 14:Base case assumptions for iPhone lens migration: 2019 could be a bigger year

Wide Angle Telephoto Super Wide Angle

8 6P, 12MP, f/1.8

8 Plus 6P, 12MP, f/1.8 6P, 12MP, f/2.8

X 6P, 12MP, f/1.8 6P, 12MP, f/2.4

9 6P, 12MP, f/1.8

9 Plus 6P, 12MP, f/1.8 6P, 12MP

XI 6P, 12MP, f/1.8 6P, 12MP

10 6P 6P

10 Plus 6P 6P

XII 6P 6P 5P

2018

2017

2019


We raise our projections on addressable market volume for imaging lenses by 3% for 2019 and 5% for 2020 ...

... to 12% YoY growth in 2019 and 8% in 2020 in our base case: This is thanks to growing adoption of triple cameras.

In view of the uncertainties about triple camera development into 2019, we lay out our analysis in three scenarios, with variation focusing mainly on 2019 and 2020. For 2018, we believe triple camera volume will remain small and that only Huawei will adopt triple cameras in a flagship model in 2H18. For other major Chinese OEMs, owing to lag in triple camera algorithms, we believe launch of triple camera models will take place only in 2019.

l Base case: We assume that one iPhone model carries triple camera in 2H19 (see Exhibit 14 for our assumptions on iPhone lens specs). For Chinese OEMs, we assume that major OEMs adopt triple cameras in the Rmb3000+ (US$450+) segment with 84% penetration rate for the top four Chinese OEMs in this segment. Huawei is aggressive in adopting triple cameras for smartphones above Rmb2,000 in 2019.

l Bull case: We assume the same penetration for triple cameras in iPhones in 2H19 but look for faster penetration in Chinese OEMs. In our bull case, we assume 100% adoption rate in the Rmb3000+ (US$450+) segment and 70% penetration in the Rmb2000-3000 (US$300-450) segment for the top four Chi-nese OEMs. We see upside of 5% to our 2019 base case volume estimate and 7% for 2020.

l Bear case: Here we assume no triple cameras for iPhones in 2H19 and that adoption within Chinese OEMs is limited to Huawei only, with overall dual cam penetration in Chinese OEMs slightly lower than in our base case. We see downside of 5% and 6% to our 2019 and 2020 base case volume estimates.

Exhibit 15:Imaging lens market volume growth: in our base case, we estimate that volume growth re-accelerates in 2019 (to 12% YoY)

0%

4%

8%

12%

16%

20%

2018E 2019E 2020E

Bear

Base

Bull

Source: Morgan Stanley Research (E) estimates

Exhibit 16:Scenario analysis of dual cam and triple cam penetration rates in 2019: bull case presents 5% upside to our base case volume estimate

0%

10%

20%

30%

40%

50%

Apple ChineseOEMs

Apple ChineseOEMs

Apple ChineseOEMs

Bear Base Bull

Dual

Triple

5%

upside

5%

downside


M

18

MExhibit 17:A detailed analysis of our base case triple camera adoption rate assumptions: penetration starts in the Rmb3000+ segment in 2018, with the Rmb2000+ segment gradually following in 2019

mn Units 2017 2018E 2019E 2020E

Dual Cam/ Triple Cam Penetration

Dual Cam

Top4 Chinese OEM 29% 45% 57% 59%

<US$150 2% 4% 37% 45%

US$150-225 14% 27% 54% 67%

US$225-300 22% 66% 77% 82%

US$300-450 59% 89% 81% 73%

>US$450 99% 61% 16% 0%

Others 10% 20% 40% 50%

Chinese OEMs 21% 36% 51% 56%

- - - -

Triple Cam

Top4 Chinese OEM 3% 12% 18%

<US$150 0% 0% 0%

US$150-225 0% 0% 0%

US$225-300 0% 0% 15%

US$300-450 0% 19% 27%

>US$450 39% 84% 100%

Others 0% 1% 2%

Chinese OEMs 2% 8% 13%

Dual Cam/ Triple Cam Penetration

Dual Cam

Apple 40% 51% 55% 59%

Samsung 3% 8% 15% 20%

Chinese OEMs 21% 36% 51% 56%

Others 8% 18% 28% 35%

Total 19% 30% 42% 47%

Triple Cam

Apple 9% 23%

Samsung 0% 0%

Chinese OEMs 2% 8% 13%

Others 0% 1%

Total 1% 6% 11%

mn Units 2017 2018E 2019E 2020E

Imaging Lens Volume

Rear 1,733 1,924 2,280 2,548

Single 1,191 995 778 629

Dual 542 882 1,240 1,413

Triple 46 263 506

Front 1,462 1,452 1,485 1,504

Imaging Total 3,195 3,376 3,765 4,051

YoY 6% 6% 12% 8%


For 3D sensing lenses, we expect 15% growth in the total market in 2019 and 12% in 2020: We expect merely ~10mn Android models with 3D sensing function in 2018 and ~30mn in 2019. Our checks sug-gest that supply chain readiness is still more critical in gaining wider adoption for the Android market.

Exhibit 18:Imaging lenses and 3D sensing lenses: Major assumptions Dual Cam Penetration Triple Cam Penetration

2017 2018E 2019E 2020E 2018E 2019E 2020E

Apple 40% 42% 45% 59% Apple 9% 23%

Samsung 3% 8% 15% 20% Samsung 0% 3%

Chinese OEMs 21% 36% 51% 56% Chinese OEMs 2% 8% 13%

Others 8% 18% 28% 35% Others 0% 1%

Total 19% 29% 40% 47% Total 6% 11%

Front 3D sensing Penetration

2017 2018E 2019E 2020E

Apple 16% 75% 100% 100%

Samsung 0% 0% 3% 7%

Chinese OEMs 0% 1% 4% 10%

Others 0% 0% 3% 5%

Total 2% 12% 18% 22%


Exhibit 19:Total addressable market for lenses (including 3D sensing lenses): we expect 15% YoY growth for 2019 and 12% for 2020 mn Units 2015 2016 2017 2018E 2019E 2020E

Imaging Lens 2,875 3,015 3,195 3,356 3,745 4,051

Rear Cam 1,438 1,546 1,733 1,904 2,260 2,548

Single Cam 1,438 1,392 1,191 1,015 798 629

Dual Cam - 155 542 842 1,200 1,413

Triple Cam - - - 46 263 506

Front Cam 1,438 1,469 1,462 1,452 1,485 1,504

3D Sensing - - 70 345 528 729

Front - - 70 345 528 669

Rear - - - - - 60

Total Lens Demand 2,875 3,015 3,265 3,701 4,274 4,781

YoY

Imaging lens 5% 6% 5% 12% 8%

3D sensing lens 393% 53% 38%

Total lens 5% 8% 13% 15% 12%


M


MOngoing migration of lens specs helps to lift ASP

Chinese OEMs have been pushing for higher resolution, though the pace of pixel migration isn't as fast as in previous years, as sensors' cost-performance ratio drops: For the overall market, we expect volume for 10MP+ lenses to increase to 75% of total by 2019, compared to 50% in 2017. We see faster higher pixel migration during these years, mainly from front cams. For rear cams, despite ongoing migration towards 16MP+, the speed of pixel migration isn't as fast as in previous years. The main reason is sensors, which have a lower cost-performance ratio. The 12-13MP market is largely divided into 1.22 m to 1.55 m and 1.12 m. Comparing 16MP sensors (a 1.12 m product) to 1.12 m-pixel-based 13MP products, there is a price differ-ence of 40-50%.

Exhibit 20:Chinese OEMs Lens Pixel Migration

25%

24%

22%

11% 6% 4%

22%

25%

25%

24%

18% 13%

18%

32%

50%

63%

75% 83%

0%

20%

40%

60%

80%

100%

2015 2016 2017 2018E 2019E 2020E

12MP+

8MP

5MP

Below 5MP

Source: IDC, Morgan Stanley Research (E) estimates

Exhibit 21:Chinese OEMs: 6P penetration

20%

24%

28%

32%

36%

40%

Source: TSR, Morgan Stanley Research

Aside from pixels, more variation of lens specs (super wide angle, larger aperture, more depth of focus, etc.) should also lift ASP: Thanks to requirements for larger apertures, etc, we see lens migration from 5P to 6P as mainstream within Chinese OEMs; 6P could contribute ~40% of total rear cam lens volume in 2018e. We see the trend of lenses continuing to go to super wide angles (up to 120-130 degrees). We also see telephoto lenses achieving more depth of focus. Thanks to greater depth of focus, anti-shaking func-tion and hence broader adoption of OIS could become mainstream.

Some OEMs are interested again in periscope design, though it has been in the market for a long time and mass production is hard: We have seen only OPPO launching a periscope prototype two years ago, without mass production of the model. Periscope design has been in the market for years; theoretically it can achieve a 10x higher optical zoom with a smaller module, but it has suffered from various issues when entering mass production, including VCM, etc. Our checks suggest that OEMs are interested again in periscope design, though developments here remain to be watched. Even if it mass production is achieved, we believe initial adoption will be lim-ited to models with less than 1mn product cycle volume.

In the following section, we discuss in greater detail what a triple camera can do.

M

20

M#2: Triple Cameras or VCSEL-embedded 3D Sensing?

ConclusionThere has been debate about whether OEMs will go only for triple cameras for AR function (rather than using VCSEL-embedded 3D sensing solutions) to save BOM cost. We think the two are not mutually exclusive:

l Triple cameras are mainly used to improve optical zoom further – i.e., enabling the phone to see distant objects clearly.l If combined with VCSEL-embedded 3D sensing – which is more accurate in measuring distance with objects – that could create a

powerful user case for AR. We would note that U.S.-based VCSEL suppliers have indicated that they view a combination as the most likely outcome.

Although it's too early to tell what Apple could launch for 2H19 models, our checks suggest that Huawei intends to launch a triple camera+ToF model in early 2019, though 3D sensing supply chain readiness remains the key.

Regarding concern about BOM cost, if the cost of triple cameras for the Android camp can be lowered to ~US$40 (which could be achievable by the end of 2018), together with ToF (US$10+), BOM similar to that of the Huawei P20 Pro (camera BOM cost at US$50-60) could be achieved.

What triple cameras can doFor most of the projects running so far, the main function of a triple camera is to enable higher optical zoom factor: The thick-ness of smartphone cameras has been a challenge: aperture size is small, pixel size is also becoming smaller as technology advances, and the modules also need to fit in VCM for auto-focus or imaging stabilization (OIS). The recent target is to achieve 6mm height, with good low-light performance, high resolution, low SNR (signal to noise ratio), etc. Dual cameras are designed to combine the output of two single cameras, as single cameras have reached their full poten-tial.

Dual cameras have become a standard spec for high-end smart-phones and have gradually been pushed into midrange phones. Thus,

some other evolutions have been proposed, including folded optical systems and triple cameras. The folded camera architecture has been proposed in the market for quite some time; OPPO launched a proto-type in early 2017 but with no plan for mass production. We believe folded camera architecture is unlikely to pick up in the near future owing to difficulties in mass production.

As for triple cameras, by adding a third camera, the architecture opens up a range of possible configurations for OEMs. Initially, we see the main function as enabling a higher optical zoom factor. Take iPhoneX as an example. The phone carries a dual camera and 2x optical zoom. The recently launched triple-camera model from Huawei, P20 Pro, carries 5x optical zoom.

In Exhibit 22, we give some examples of the potential configuration of the triple camera and its key functions.

Exhibit 22:Comparison of potential triple camera configuration and related functions [low light conditions] Huawei P20 Pro Camera 1 Camera 2 Camera 3 Note

20MP 40MP 8MP

mono RGB RGB

wide wide telephoto

f/1.6 f/1.8 f/2.4

Configuration #1 Camera 1 Camera 2 Camera 3

16MP 12MP 12MP

mono RGB RGB

wide wide telephoto

f/1.5 f/1.5 f/2.2

Configuration #2 Camera 1 Camera 2 Camera 3

12MP 12MP 12MP

RGB RGB RGB

super-wide wide telephoto

f/2.4 f/1.5 f/2.2

This camera will allow the user to take pictures in a relatively dark scene,

but not at the expense of having decent zoom capabilities.

This camera is very suitable for travel enthusiasts. It captures an open

landscape; the super-wide-angle lens avoids the typical panorama

stitching capture mode. At the same time, being able to capture fine

details while zooming is exceedingly useful.

The camera boasts superior quality in low light condition, with 5x optical

zoom.


M


MWe don't believe triple cameras and VCSEL-embedded 3D sensing are mutually exclusive Dual cameras/triple cameras for depth function (i.e., stereo vision) – achievable, though quality won't be as good as that of structured light or ToF: A dual camera can already be used for dis-tance/depth measuring if the two lenses are separated at a certain distance, though mass production has been an issue in view of active alignment.

We compare some of the major depth cameras below:

Dual/triple cams: By comparing/measuring the difference between the two images received from two cameras, the system can generate depth information for the scenery or object. The depth resolution depends on how widely the two cameras are separated, but for man-ufacturing, the wider the array of the two cameras, the more diffi-culty that module makers face in mass production.

l Advantages of this solution: Immunity to ambient light, suita-bility for outdoor environment.

l Disadvantages: Relatively poor performance in low light and high computational complexity.

l Example: Intel's RealSense (rear camera) in 2016, although not a smartphone device, is an example of this kind of 3D camera.

Structured light: By projecting an infrared laser light pattern onto an object, and comparing and calculating the light pattern or change of this pattern reflected from the surface of an object, the system can calculate the distance between the object and the camera. The pro-jected light pattern needs to be bright enough for the camera to

Exhibit 23:Depth Camera Comparison

Single cam Dual/Tri cam Structured light Time of Flight Radar

Measurement band Visible light Visible light Infrared light Infrared lightShort wavelength

radio

Real-time depth

informationNo Yes Yes Yes Yes

Time taken to capture

3D structure

Very slow,

>10s

Medium,

~10-100ms

Medium,

~10-30ms

Medium,

~10-30ms

Very fast,

<0.1ms

Performance in low light Performance in direct

sunlight

Spatial resolution Depth resolution Depends Energy per 3D map

Very high

~5J

Medium

~15-50mJ

Medium

~50mJ

Medium

~50mJ

Low

~1mJ

Computational

complexityExceptionally high Very high Medium Low Low

Source: Company data, Morgan Stanley Research

sense the reflected pattern; however, a brighter pattern needs higher power consumption, which is a constraint for mobile phones. In this solution, diffractive optical elements (DOE) and lenses are needed for laser transmission to formulate the light pattern.

l Advantages of this solution: High depth resolution and suita-bility for close-range scenes. This solution can be applied for front 3D sensing in smartphones.

l Disadvantage: Poor performance in strong light environment. l Example: This is so far the most mature solution for front 3D

sensing in smartphones. Apple is the first smartphone OEM to introduce its 3D sensing function; it came with the iPhone X, launched in September 2017. One Android player just adopted this solution this month, and we believe other top Chinese OEMs will follow suit in 2H18.

Time of flight: This system also needs to project infrared laser light onto an object. ToF is different from the structured light solution in that it measures the time the light travels, reflected from the surface of the object to calculate depth. In order to improve precision, the transmitting module and receiving module are required to keep phase synchronization very precisely.

l Advantages of this solution: Low computational complexity and immunity to ambient light. Compared to structured light, this solution is likely to be suitable for rear 3D sensing in smartphones for relatively distant objects and outdoor envi-ronments.

l Disadvantages: Depth resolution is not high compared to structured light, and it is not suitable for precise measure-ment. Cost for mass production is high at the current stage.

l Example: Kinect 2 adopted the TOF 3D sensing solution in 2013.

M

22

MExhibit 24:Android Camp: 3D sensing solutions

Solution Module OEM Timing Note

#1 Orbbec Q-Tech OPPO mid 2018Arguably best solution among Androids thus far. The solution

can support both unlock and payment.

#2 Qualcomm+Himax Truly

#3 Mantis Vision O-Film mid 2018

#4 Huawei Sunny Huawei 4Q18

#5 ADI Truly VivoToF (no DOE etc), lower resolution, hence the phone probably

need to carry fingerprint to support payment.


Again, in an ideal scenario with a powerful AR user case, a combina-tion of triple camera with 3D sensing module is ideal as triple camera can be used to see an object clear and 3D sensing module used to measure the distance between the object and the phone. There has been debate on whether OEMs could go for triple camera only to save cost. We believe as BOM cost for triple camera comes down, the two module is not mutually exclusive and Huawei also have such pro-jects on the pipeline.

Scenario analysis – iPhone in 2H19

While we still believe there will be a rear facing 3D sensing module in at least the top end model of the iPhone next fall, we are laying out a bear case scenario analysis for the related supply chain: Assuming no rear 3D sensing for iPhone in 2H19, we see 3% downside to 2019e EPS for VPEC (3455.TW, OW, covered by Sharon Shih), 8% downside for Win Semi (3105.TW, OW, covered by Charlie Chan), 20% down-side for Lumentum (LITE, EW, covered by Meta Marshall) and <5% downside for Finisar or II-VI (FNSR, OW, IIVI, OW, both covered by Meta Marshall).

Exhibit 25:Scenario analysis on iPhone's 2H19 model spec


Mitsubishi UFJ Morgan Stanley Securities Co., Ltd. (“MUMSS”) is acting as financial advisor to Sony Music Entertainment (Japan) Inc. ("SME"), a wholly-owned subsidiary of Sony Corporation, in relation to its acquisition of 49% (approximately 39% of total shares) of the 80% stake in Peanuts Worldwide LLC. held by DHX Media Ltd. as announced on May 14, 2018.

The proposed transaction is subject to regulatory approvals and other customary closing conditions.

SME has agreed to pay advisory fees to MUMSS for its financial advisory services.

Mitsubishi UFJ Morgan Stanley Securities Co., Ltd. (“MUMSS”) is acting as financial advisor to Sony Corporation ("Sony") in relation to the acquisition of approximately 60% of the outstanding equity interests in EMI Music Publishing Ltd. held by the consortium led by Mubadala Investment Company by Sony Corporation of America, a wholly owned subsidiary of Sony, as announced on May 22, 2018.

The proposed transaction is subject to certain closing conditions including regulatory approvals.

Sony has agreed to pay advisory fees to MUMSS for its financial advisory services.

M


M#3: Competitive Landscape – Lenses a More Disciplined Market

ConclusionWe believe lenses remains a more disciplined market compared to modules. In a case where Largan continues to focus only on the high end, our calculations suggest that the market is large enough for lens suppliers to grow further in 2019.

We expect Largan to remain in the high-end market, with limited growth in volume but upside in ASP, thanks to ongoing spec migration (for larger aperture, more depth of focus, super wide angle lenses, etc).

Sunny and AAC should continue to grow in the midrange/low end market, with greater upside in volume.

As for modules, we see competition becoming more intense on the Android side in 1H18, though ongoing migration could help mitigate pricing impact. On the Apple side, our checks suggest that some existing Android suppliers intend to penetrate the supply chain, hopefully for 2019 or 2020 models.

Handset lenses – a more disciplined market

In a case where Largan continues to focus only on the high end, we see the market being large enough for lens suppliers to grow further in 2019: Largan's capacity expansion plans and strategy have been a key concern for followers, including Sunny and AAC. We believe Largan will still focus on the high end and will not expand capacity at random to gain market share in China. Nevertheless, we still believe a technology gap remains; hence, Largan is still likely to be the sole supplier for triple camera models initially, thanks to their requirement for specific lens specs. Sunny will still gain share in the midrange market and to some extent in front cams for high-end models. We also believe AAC's focus remains on the midrange/low-end market.

In terms of capacity, our checks suggest that Sunny should expand to 80-90kk/month by the end of 2018. We also believe AAC should expand lens capacity to 40kk/month by the end of 2018, though man-agement previously already commented that 50kk/month should be the cap for plastic lens capacity. Greater capacity beyond this could cause intense pricing competition.

Our assumptions on market share revolve around capacity expansion plans. We believe Largan's volume growth could stall in China, and that it will mainly leverage spec migration for ASP expansion. Sunny and AAC should continue to gain volume/market share, though we project merely a modest increase in ASP, since both price their prod-ucts at discount. For Kantatsu, we believe it's losing competitive edge in China and hence we expect it to lose share in China as well.

For the Apple lens supply chain, our checks suggest that Genius could start supplying into the LCD model in 2H18, though it remains to be watched how fast it can ramp up yield. We believe Kantatsu is also losing steam in Apple, so overall we see less impact on Largan's share allocation in Apple. We assume that Genius gets 4% share allo-cation in iPhone rear cams in 2018, gradually expanding to ~10% by 2020. We expect Largan's rear cam share to remain largely stable at ~80% during 2018-2020.

M

24

MExhibit 26:Lens suppliers: capacity

0

40

80

120

160

200

La

rgan

Sunn

y

AA

C

Gen

ius

Kanta

tsu

mn Units

2017E

2018E

Source: TSR, Company data, Morgan Stanley Research estimates

Exhibit 27:Lens suppliers: volume YoY (2016-2020e)

-40%

-20%

0%

20%

40%

60%

80%

2016 2017 2018E 2019E 2020E

Largan

Sunny

AAC

Genius

Kantatsu

Source: TSR, IDC, Morgan Stanley Research estimates

Exhibit 28:Market share: Apple

71% 68%

54% 52% 52%

0%

20%

40%

60%

80%

100%

2016 2017 2018E 2019E 2020E

Others (ams)

Genius

Kantatsu

Largan


Exhibit 29:Chinese OEMs: Total market share

46% 42% 38% 35% 31%

14% 25% 34% 39% 41%

15% 22% 24%

0%

20%

40%

60%

80%

100%

2016 2017 2018E 2019E 2020E

Others

AAC

Kantasu

Sunny

Largan


Exhibit 30:Chinese OEMs: 12MP+ market share

67% 70% 63%

54% 48%

40%

6% 22% 29% 37%

39%

10% 13% 18%

0%

20%

40%

60%

80%

100%

2015 2016 2017 2018E 2019E 2020E

Others

AAC

Kantasu

Sunny

Largan


Exhibit 31:Chinese OEMs: 8MP and below market share

50%

35% 22%

13%

14%

18%

28% 43%

46% 50%

6%

25% 51% 49%

0%

20%

40%

60%

80%

100%

2015 2016 2017 2018E 2019E 2020E

Others

AAC

Kantasu

Sunny

Largan


M


MCamera modules: more intensely competitive landscape

We see growing pricing/margin pressure for CCM suppliers in 1H18: We assume that the dual camera penetration rate will reach ~38% within Chinese OEMs in 2018, up from ~20% in 2017, thanks to continued dual-cam penetration in midrange/low-end smartphones.

Sunny, O-Film, and Q Tech together accounted for 56% of CCM and 84% of dual cams for Chinese OEMs in 2017. These three module makers should continue to expand their CCM and dual cam capacity, thus gaining share within Chinese OEMs in 2018. Therefore, despite ongoing consolidation by the top three module makers into 2018, the competition is becoming more intense even for the top three players.

Exhibit 32:Chinese OEMs: Dual and triple cam shipments to grow at a double-digit pace through 2020E

0%

50%

100%

150%

200%

250%

0

100

200

300

400

500

600

2016 2017 2018E 2019E 2020E

YoY mn Units

Dual/Tri Cam YoY

Source: IDC, Morgan Stanley Research estimates (E)

Exhibit 34:Sunny, O-film, and Q-Tech continue to expand dual cam capacity

0

10

20

30

40

Sunny O-Film Q Tech

mn Units

2017E

2018E


We have seen some indication of pricing and margin pressure for the top three vendors in 1H18. Q-Tech issued a 1H18 profit warning, indi-cating that its 1H18 net profit would decline more than 50% YoY. We believe this is also related to the decline in its own dual cam penetra-tion rate from peak in 4Q17, along with unsatisfactory yield.

We also expect Sunny's GM on CCM to decline to 13% in 1H18 from 13.5% in 2H17; however, we expect Sunny's GM to recover to 13.8% in 2H18 when triple cam starts to contribute to help boost GM.

As for O-film, the company also started to ramp up dual cams; its own dual cam penetration continued to rise into 1H18, thus leading to more stable ASP, by our estimates.

Another thing that needs to be closely monitored is Lite-on's CCM business unit, which was sold to the family of Luxshare's CEO. This CCM unit provides triple cameras to Huawei P20 Pro as a Tier One supplier; the rest is shared by LG Innotek and Sunny Optical.

Exhibit 33:Chinese OEMs: 2018 and 2019: dual cams continues to penetrate mid-range/lowend smartphones; triple cams are starting to show up in highend smartphones

0%

10%

20%

30%

40%

50%

60%

2016 2017 2018E 2019E 2020E

Dual Cam

Triple Cam


Exhibit 35:The top three CCM makers continue to gain share within Chinese OEMs, especially for dual cams

0%

20%

40%

60%

80%

100%

2015 2016 2017 2018E 2019E 2020E

CCM

Dual/Tri Cam


M

26

MExhibit 36:Sunny, O-film, and Q-Tech: comparison of dual cam penetration rates

0%

20%

40%

60%

80%

1H17 2H17 1H18E 2H18E 1H19E 2H19E

Sunny

Q-Tech

O-film


Exhibit 37:Sunny, O-film, Q-Tech: comparison of GM and CCM

6%

8%

10%

12%

14%

16%

1H16 2H16 1H17 2H17 1H18E 2H18E 1H19E 2H19E

Sunny

Q-Tech

O-film


LG Innotek remains a major supplier for Apple's dual cam mod-ules: Apple first introduced its dual cam in iPhone 7 Plus, launched in September 2016. LG Innotek is the major beneficiary since Apple adopted dual cams. LGI is the Tier 1 supplier of iPhone's dual cams, holding 70% share allocation as of 2H17; the rest goes to Sharp. We believe LG Innotek will continue to enjoy the camera upgrade cycle to triple cams, under our base case scenario. Nevertheless, we also note existing Android suppliers' intent to expand into the Apple CCM supply chain, hopefully for 2019 or 2020 models.

M


M

What's Priced in … and What's Not

Largan's share price has surged over 40% from the bottom on Apr 25 (vs. +4% for the TAIEX), driven by expectations that the iPhone would adopt triple camera design in 2H19, and by better than expected sell-through for Chinese OEMs. We are positive on the triple camera adoption rate, yet we believe the current share price reflects much of the upside potential. Hence, we stay EW and wait for a better entry point.

Largan: Stay EW; Raise Price Target to NT$4,700

Earnings Estimate Changes

We raise our EPS estimates 8% for 2018 and 8% for 2019: We factor in better 2Q18 revenue and re-acceleration in the high-end lens market. As yield and utilization rates improve, we also model a higher GPM.

Exhibit 38:Largan: What's Changed

Source: Morgan Stanley Research (e) estimates

M

28

MValuation

We raise our price target to NT$4,700 from NT$3,200: This is our base case scenario value, derived from a residual income valuation model. In addition to the rise in our earnings estimates for 2018-20, we roll forward valuation to 2019e. Our other key assumptions are unchanged, including a cost of equity of 8.7% and a terminal growth rate of 4.0%, and a medium-term growth rate of 11%.

Bull case value – to NT$6,000 from NT$4,000: The increase here (50%) is somewhat greater than the 47% rise in our base case value,

because in our bull case, we assume that triple camera penetration comes faster than expected and hence demand for high-end lenses is greater.

Bear case value – to NT$3,500 from NT$2,650: The increase here (32%) is a good deal milder than the rise in our base case value, as we assume that the camera spec upgrade decelerates, and hence there is limited change in the bear case multiple. The value increase mainly reflects our higher earnings estimates and rolling our valuation horizon forward.

Exhibit 39:Largan: Valuation


e high-end rgan emains rategy is

d gradual argin eve es initially camera y improve

the share sh

era etter entry

camera

or

cam

iple cams

get

f triple

and

weaker ttlenecks

uld lead

affected

MM


Price Target NT$4,700Base case scenario, residual income valuation.

Bull NT$6,00023x bull case 2019e EPS Triple camera penetration rate within Chinese OEMs is faster than expected, reaching ~20% in 2019e. Largan benefits from more demand for high-end lenses.

Base NT$4,70019x base case 2019e EPS We assume 8% triple camera penetration within Chinese OEMs and 9% in Apple in 2019, and hence lens market growth re-accelerates into 2019. Largan maintains its focus on high-end without severe pricing competition.

Bear NT$3,50015x bear case 2019e EPS Triple camera trend fails to pick up, more competition within lens segment as Sunny and AAC catch up fast.

Largan: Risk-Reward High-end lens market growth re-accelerating, but we think valuation is fair after the recent surge

Why Equal-weightn Triple camera trend takes off, henclens market growth re-accelerates. Lastands to benefit as technology gap ramong lens suppliers, and Largan's stto focus on the high end.

n Thanks to higher utilization rates anyield improvement, we also expect mrecovery into 2H18 and 2019. We beliLargan will also suffer from yield issuwhen dealing with higher-spec triple models, though yield should graduallover time.

n However, given the recent surge in price, we believe it fully reflects bulliexpectations around iPhone triple camadoption, and we plan to wait for a bpoint.

Key Value Driversn Chinese brands launch more triple models

n Better-than-expected sell-through fsmartphones

Potential Catalystsn More Chinese brands launch triple-smartphones in 1H19

n Confirmation of iPhone adopting trin 2H19

Risks to Achieving Price Tarn Upside:

n Faster than expected penetration ocamera

n Rising margin thanks to better yieldutilization rate

n Downside:

n Smartphone sell-through could be than expected and/or supply-chain bocould arise.

n Change in competitive landscape coto deteriorating ASP/margins.

n Sustainability of yield rate could beby changes in technology / process.


2020E37,71138,4084,235

0-4,933

-2,111-2,000

-11100

-11,916000

-11,916

023,684

2020E

70.1%60.8%61.3%50.0%

12%15%15%15%15%

-78%-77%

8%8%

28.8%23.9%

7675

115115

MMLargan: Financial SummaryExhibit 40:Largan: Financial SummaryConsolidated Income Statement Consolidated Cash Flow Statement

NT$m 2017 2018E 2019E 2020E NT$m 2017 2018E 2019ENet sales 53,128 55,043 68,697 76,829 Cashflow from operations 31,576 24,413 30,624COGS -16,270 -17,710 -21,743 -22,995 Net Profits 25,977 26,412 33,287Gross profit 36,858 37,333 46,954 53,835 Depreciation 2,301 3,835 4,035Operating expenses -4,761 -5,064 -6,355 -7,108 Equity investment losses (income) 19 0 0 - Promotion -497 -524 -677 -757 Other adjustments 3,279 -5,834 -6,699 - ADM -1,070 -1,104 -1,375 -1,538 - R&D -1,273 -1,245 -1,549 -1,732 Cashflow from investing -6,377 -2,111 -2,111Operating income 32,097 32,269 40,599 46,727 (Purchases) sale of FA (capex) -7,438 -2,000 -2,000Non-operating income -136 400 400 400 (Purchases) sale of L/T investment -111 -111 -111Interest income 568 400 400 400 (Purchases) sale of S/T investment 1,500 0 0Investment income -22 0 0 0 Other adjustments -327 0 0Disposal of investment 17 0 0 0Disposal of fixed assets 4 0 0 0 Cashflow from financing -8,160 -9,301 -9,455Exchange gain -793 0 0 0 Increase in L/T debt 0 0 0Other 91 0 0 0 Increase in S/T debt 358 0 0Pre-tax income 31,961 32,669 40,999 47,127 Issuance of stock 0 0 0Income tax -5,984 -6,256 -7,711 -8,718 Other adjustments -8,519 -9,301 -9,455Minority interests 0 0 0 0Net income 25,977 26,412 33,287 38,408Reported EPS (NT$) 193.66 196.87 248.12 286.29 Exchange rate adjustment -1,883 0 0

Net change in cash 15,156 13,001 19,058

Consolidated Balance Sheet Consolidated Financial Ratios

NT$m 2017 2018E 2019E 2020E 2017 2018E 2019ECash 67,896 80,897 99,955 123,639 MarginsMkt securities 2,011 2,011 2,011 2,011 Gross margin 69.4% 67.8% 68.3%Accounts/Notes receivables 15,168 14,144 15,887 15,991 Operating margin 60.4% 58.6% 59.1%Inventory 2,577 3,865 5,798 8,697 Pretax margin 60.2% 59.4% 59.7%Others 0 0 0 0 Net margin 48.9% 48.0% 48.5%Current Assets 88,136 100,917 123,650 150,337Long-term investments 161 161 161 161 YoY growthFixed assets 24,861 22,988 20,913 18,635 Sales 10% 4% 25%Goodwill 0 0 0 0 Gross profits 14% 1% 26%Other assets 2,743 3,377 3,528 3,681 Operating profits 15% 1% 26%Total Assets 115,901 127,442 148,251 172,814 Pretax profits 13% 2% 25%

Net profits 14% 2% 26%S/T borrowings 396 396 396 396AP/NP 2,174 2,840 4,184 5,309 Net Debt/Equity (Net of mkt secs.) -75% -75% -76%Other ST liabilities 20,790 14,553 10,187 7,131 Net Debt/Equity -73% -74% -75%Other current liabilities 50 50 50 50 Liabilities/Equity 25% 16% 11%L/T debt 0 0 0 0 Liabilities/Assets 20% 14% 10%Other LT liabilities 94 94 94 94 ROAE 33.8% 28.6% 30.4%Total Liabilities 23,504 17,933 14,911 12,981 ROAA 24.4% 21.7% 24.1%

AR/NR Turnover (days) 104 97 80Common shares 1,341 1,341 1,341 1,341 AP/NP Turnover (days) 46 52 59Other shareholders' equity 91,056 108,167 131,999 158,491 Inventory Turnover (days) 58 66 81Shareholders' equity 92,397 109,509 133,341 159,833 Cash conversion cycle (days) 117 112 102Total Liab./Shrhldr's Equity 115,901 127,442 148,251 172,814

Source: Company data, Morgan Stanley Research (E) estimates

30

M


M

What's Priced in … and What's Not

The stock price has reflected Sunny's share gain in the handset lens market and a recovery in the smartphone market in China, thanks to better than expected sell-through. However, we believe that the market has not priced in the likely upside in the handset lens margin, thanks to better yield and utilization rate.

Sunny Optical – Raising Price Target 33%

Earnings Estimate Changes

We raised our Sunny earnings estimates 2% for 2018, 9% for 2019, and 8% for 2020: This mainly reflects Sunny's exposure to camera modules and lenses amid the trend of smartphone camera upgrades to triple cam from dual cam.

Exhibit 41:Sunny Optical: What's Changed Summary

New Old Diff New Old Diff New Old Diff

Net sales 32,969 32,454 2% 47,847 43,196 11% 61,335 54,289 13%

Gross profit 7,441 7,349 1% 10,441 9,589 9% 13,187 12,123 9%

Operating income 4,984 4,931 1% 6,875 6,370 8% 8,617 8,078 7%

Net income 4,404 4,309 2% 6,054 5,561 9% 7,580 7,047 8%

Basic EPS (RMB) 4.05 3.96 2% 5.57 5.11 9% 6.97 6.48 8%

Gross Margin 22.6% 22.6% 21.8% 22.2% 21.5% 22.3%

OPEX -7.5% -7.5% -7.5% -7.5% -7.5% -7.5%

Operating Margin 15.1% 15.2% 14.4% 14.7% 14.0% 14.9%

Net Margin 13.4% 13.3% 12.7% 12.9% 12.4% 13.0%

2018e 2019e 2020e

Source: Morgan Stanley Research estimatesh

M

32

MValuation

We raise our price target to HK$220 from HK$165: This is our base case scenario value, derived from a residual income valuation model. In addition to our earnings estimate increases for 2018-20, we roll valuation forward to 2019e. We also raise our medium-term growth rate to 19% from 18% to factor in market expansion for camera mod-ules and lenses from triple camera. Our other key assumptions are unchanged, including a cost of equity of 8.3% and a terminal growth rate of 3.5%.

Bull case value – to NT$260 from NT$228: The increase here (14%) is a good deal milder than the 33% rise in our base case value, because we largely maintain our bull case medium and terminal growth rate, and hence the bull case multiple largely stays the same. Our higher bull case value mainly reflects increased earnings estimates under this scenario.

Bear case value – to NT$125 from NT$98: The increase here (28%) is a bit milder than the rise in our base case value, as the multiple in the bear case doesn't increase as much, given our assumptions of weaker momentum from Chinese OEMs and stagnant market share for Sunny. We also largely maintain our bear case medium growth rate and hence the bear case multiple largely stays the same.

Exhibit 42:Sunny Optical: Valuation


t lens

dual-s should triple

xpands term.

era growth

ainly mera and w 24x , thanks to rong

cameras in

ith 3D

get

cale.

e in the

nts are

MMTriple cameras and vehicle modules present further upside to TAM


Price Target HK$220Base case, residual income valuation.

Bull HK$26035x 2019e bull case EPS 1) Vehicle camera modules ramp up faster than expected. 2) 2018 camera module revenue grows faster than in base case, driven by dual cameras penetrating midrange/low-end smartphones. 3) Handset lens volume grows above our base case expectation in 2018, thanks to improving product quality.

Base HK$22032x 2019e base case EPS1) Handset lens revenue grows 88% in 2018, thanks to further share expansion and spec migration; 2) camera module revenue grows 39% in 2018 as camera spec migration continues.

Bear HK$12520x 2019e bear case EPS1) GM for camera modules deteriorates, as competition gets stronger; 2) Chinese smartphone demand slows down and is worse than expected.

Why Overweightn Sunny continues to expand handsecapacity to gain share in the market.

n Sunny's dominant share in high endcamera modules within Chinese OEMremain intact, and it will start to shipcamera modules this year.

n New trend of 3D sensing cameras etotal addressable market in the long

n New contribution from vehicle cammodules provides another long-term driver.

n Our increased earnings estimates mreflect potential upside from triple calens margins. Sunny's 2019e P/E is nobutwe believe above 30x is possible, a growing addressable market and stexecution.

Key Value Driversn Handset lens share gains.

n Dual camera volume and yield.

Potential Catalystsn Huawei's launch of P20 with triple 1H18.

n Smartphones from Android camp wsensing in 2H18.

Risks to Achieving Price Tarn Downside:

n GM fails to improve despite larger s

n Sunny fails to continue to gain sharlens market.

n Chinese OEMs' smartphone shipmebelow our expectations.

Sunny Optical: Risk-Reward


MMExhibit 43:Sunny: Financial Summary

Source: Company data, Morgan Stanley Research estimates

Sunny Optical: Financial Summary

34

s of high-verseas w 3D

ch should ics

n the LED n

ate, id-cycle

e price ing from r modules

nd camera aker, as

sk argins.

r for the

get

option is growth nd/or

eading to

in 2019e.

prove n and mix

onger USD

MMShare Price Now Reflects Better 2Q Earnings with Earlier iPhone Introduction in 2H18

₩150,000 (-4%)

₩155,500

₩98,000 (-37%)

₩211,000 (+36%)

0

50,000

100,000

150,000

200,000

250,000

Jun-16 Dec-16 Jun-17 Dec-17 Jun-18 Dec-18 Jun-19

₩

WARNINGDONOTEDIT_RRS4RL~011070.KS~ Base Case (Jun-19) Historical Stock Performance Current Stock Price


Price Target W150,000Base case value, based on our multi-stage residual income model, cross-checked against P/BV analysis.

Bull W211,0002.0x 2018e BVPSStronger-than-anticipated pickup in triple camera: Higher adoption rate of triple cam beyond 2019e will reinvigorate LGI's camera module business, thanks to higher ASP and LGI's distinctive vendor share in its US customer.

Base W150,0001.4x 2018e BVPSCamera module earnings grow with dual cam, and LED losses narrow: High-end camera module shipments to major US customer grow with wider adoption of dual cam, and 3D sensor module business begins to generate stable profits. LED division losses shrink considerably from lower depreciation expenses.

Bear W98,0000.9x 2018e BVPSProlonged LED recovery plus market share declines at major camera module customers: LED business shows slower margin recovery. LGI loses its major market share among camera module customers, owing to rising competition.

Why Equal-weightn Optics Solutions business improvessignificantly, with increased shipmentend dual cam modules to LGI's main ocustomer. LGI also starts to supply nesensor modules to the customer, whiadd to the robust earnings in the OptSolution division.

n Losses are shrinking meaningfully idivision, because of lower depreciatioexpenses.

n P/B is 1.4x on our 2019 BVPS estimroughly athe verage of its historical mlevel since 2010. We believe the sharnow reflects the earnings upside comthe supply of dual cam and 3D sensoto external customers.

Key Value Driversn Strong position in supplying high-emodules to a major US smartphone mwell as LG Electronics.

n Stable tape substrate and photomabusinesses generating double-digit m

n LED business remains a swing factoshare price.

Risks to Achieving Price Tarn Downside:

n The dual camera and 3D sensing adthe most important driver of top-lineand any slowdown in adoption rate ashare loss could impair EPS.

n Demand for TVs could disappoint, llower TV component pricing.

n Upside:

n Higher penetration of triple camera

n LED oversupply conditions could immore quickly on industry consolidatioshift.

n LGI is a dollar beneficiary, and a strcould drive up EPS.

LG Innotek: Risk-Reward


2020E

465

506

94

-215

849

-530

18

-55

-567

-8

0

-12

0

-20

0

263

260

523

2020E

17.4%

18.9%

7.3%

6.3%

2.0

60.2

20.7

72.2

1.2

133.1

19.4

19,638

122,284

1,000

7.8

1.3

3.4

0.7

153,000

23,667

MMExhibit 44:LG Innotek's Financial SummaryIncome Statement Cash Flow Statement(W bn) 2017 2018E 2019E 2020E (W bn) 2017 2018E 2019E

Sales 7,641 8,428 10,950 13,246 Net Income 175 169 356

Gross Profit 885 1,040 1,540 1,897 Depreciation & Amortization 353 434 498

Operating Expense 588 759 986 1,192 Other Non-Cash Items 154 154 94

EBITDA 650 716 1,053 1,211 Change in Net Working Capital 109 -93 -219

Operating Income 296 282 555 704 Operating Cash flow 790 663 728

Net Non-operating Income -58 -54 -64 -63

- Net Interest Income -28 -24 -24 -23 Capital Expenditure -800 -796 -548

Income Before Tax 239 227 491 641 Proceeds from sale of PP&E 18 18 18

Net Income 175 169 356 465 Change in Other Assets -55 -55 -55

Net Cash Used in Invest Activities -837 -833 -584

Margins

Gross Margin 11.6% 12.3% 14.1% 14.3% Net Change in Debt 26 -8 -8

EBITDA Margin 8.5% 8.5% 9.6% 9.1% Net Change in Equity 0 0 0

Operating Margin 3.9% 3.3% 5.1% 5.3% Dividends -6 -6 -7

Net Income 2.3% 2.0% 3.3% 3.5% Others 0 0 0

Net Cash Flow From Financing 20 -14 -15

Growth Rates

Sales 32.8% 10.3% 29.9% 21.0% Other Cash Flow 0 0 0

EBITDA 42.6% 10.1% 47.1% 15.0% Net change in cash -27 -184 129

Operating Income 182.8% -5.0% 96.9% 27.0% Beginning cash 341 315 130

Net Income 3428.8% -3.5% 111.0% 30.6% Ending cash 315 130 260

Balance Sheet Ratio Analysis(W bn) 2017 2018E 2019E 2020E (W bn) 2017 2018E 2019E

Cash & Cash Equivalent 315 131 260 523 ROE (AOY) 9.4% 8.3% 15.6%

Receivables 1,299 1,419 1,824 2,185 ROE (EOY) 9.8% 8.7% 16.9%

Inventory 382 417 537 643 ROA 3.9% 3.4% 6.4%

Other current Assets 24 152 179 200 ROIC (AOY) 4.0% 3.4% 5.7%

Current Assets 2,020 2,119 2,800 3,550

Asset Turnover 1.6 1.6 1.8

Investment Assets 34 34 34 34 Day's Receivables 62.1 61.4 60.8

Property and Equipment 2,200 2,586 2,659 2,707 Day's Inventory 20.6 20.6 20.8

Fixed Assets 2,710 3,076 3,149 3,197 Day's Payables 74.3 73.5 73.4

Total Assets 4,730 5,195 5,950 6,747

Current Ratio 1.0 1.0 1.1

Trade Payables 1,375 1,487 1,893 2,244 Debt to Equity (%) 142.9 146.3 142.5

Short Term Debts 28 27 26 25 Net Debt to Equity (%) 40.7 45.9 33.9

Current Portion of LT Debts 400 400 400 400

Total Current Liabilities 1,953 2,164 2,581 2,944 EPS (MW) 7,229 7,127 15,039

Long Term Debts 156 154 153 151 BVPS 82,280 89,107 103,646

Bonds 523 518 513 508 DPS 250 300 500

Total Long Term Liabilities 829 922 915 909

Total Liabilities 2,783 3,086 3,497 3,853 P/E 21.2 21.5 10.2

P/BV 1.9 1.7 1.5

Paid-in Capital 118 118 118 118 EV/EBITDA 6.6 6.3 4.1

Retained Earnings 711 873 1,217 1,658 Dividend Yield (%) 0.2 0.2 0.3

Total Stockholders' Equities 1,947 2,109 2,453 2,894

Total Liabilities & SE 4,730 5,195 5,950 6,747

Share Price (KRW) 153,000 153,000 153,000

Net Debt 792 968 831 561 Shares Outstanding (000 AOY) 23,667 23,667 23,667

LG Innotek: Financial Summary

36

Source: Company data, Morgan Stanley Research estimates

Source: Company data, Morgan Stanley Research (E) estimates

ksis report. bull case ilar to the

1.4x using y's histor- valuation ng, due to r US cus-

1.5

1.8

1.1

2018

MMWe employ a residual income (RI) valuation model, cross-checked against P/BV. Our RI valuation is a function of equity plus the present value of net profit generated in excess of the company’s cost of equity. We discount the excess returns or residual income back to determine their value today. We continue to assume a terminal growth rate of 5% and cost of equity of 11.5% (beta of 1.0).

Using our RI model, we value LG Innotek at W150,488 for 2018 (vs. W125,119 previously). Our price target revision is stronger than the revisions to our EPS estimates for 2018, owing to the higher long-

LG Innotek – Valuation Methodology & Ris

Exhibit 45:Relative Share Price Performance (From 2017)

-50%

0%

50%

100%

150%

200%

250%

300%

350%

Jan-17 Apr-17 Jul-17 Oct-17 Jan-18 Apr-18

term revenue growth assumptions mentioned earlier in thOur bear case rises from W81,000 to W98,000, and ourrises from W176,000 to W211,000, both magnitudes simchange in our base case.

At our rounded price target of W150,000, P/B would be our 2019 BVPS estimate, which is equivalent to the companical average mid-cycle level (from 2010). We see mid-cycleas appropriate, given that risks to LGI's earnings are growiuncertainty over camera module end-demand from a majotomer, as well as increasing competition.

Exhibit 46:12-month Forward P/B Valuation

0.7

0.9

1.1

1.3

1.5

1.7

1.9

2.1

2.3

2.5

2009 2010 2011 2012 2013 2014 2015 2016 2017

(x)

2.1


LG Innotek Win Semi AMS Lumentum

Source: Bloomberg, Morgan Stanley ResearchP/B Avg P/B +1SD -1SD

Source: Wisefn, Morgan Stanley Research

M

38

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(MISC)Stock Rating Cate-

goryCount % of Total Count % of Total IBC % of Rating Category Count % of Total Other MISC

Overweight/Buy 1172 38% 289 40% 25% 551 39%Equal-weight/Hold 1338 43% 354 49% 26% 639 46%

Not-Rated/Hold 53 2% 5 1% 9% 7 0%Underweight/Sell 533 17% 77 11% 14% 207 15%

Total 3,096 725 1404

Data include common stock and ADRs currently assigned ratings. Investment Banking Clients are companies from whom Morgan Stanley received investment banking compensation in the last 12 months. Due to rounding off of decimals, the percentages provided in the "% of total" column may not add up to exactly 100 percent.

Analyst Stock Ratings

Overweight (O). The stock's total return is expected to exceed the average total return of the analyst's industry (or industry team's) coverage universe, on a risk-adjusted basis, over the next 12-18 months.

Equal-weight (E). The stock's total return is expected to be in line with the average total return of the analyst's industry (or industry team's) coverage universe, on a risk-adjusted basis, over the next 12-18 months.

Not-Rated (NR). Currently the analyst does not have adequate conviction about the stock's total return relative to the average total return of the analyst's industry (or industry team's) coverage universe, on a risk-adjusted basis, over the next 12-18 months.

Underweight (U). The stock's total return is expected to be below the average total return of the analyst's industry (or industry team's) coverage universe, on a risk-adjusted basis, over the next 12-18 months.

Unless otherwise specified, the time frame for price targets included in Morgan Stanley Research is 12 to 18 months.

Analyst Industry Views

Attractive (A): The analyst expects the performance of his or her industry coverage universe over the next 12-18 months to be attractive vs. the relevant broad market benchmark, as indicated below.

In-Line (I): The analyst expects the performance of his or her industry coverage universe over the next 12-18 months to be in line with the relevant broad market benchmark, as indicated below.

Cautious (C): The analyst views the performance of his or her industry coverage universe over the next 12-18 months with caution vs. the relevant broad market benchmark, as indicated below.

Benchmarks for each region are as follows: North America - S&P 500; Latin America - relevant MSCI country index or MSCI Latin America Index; Europe - MSCI Europe; Japan - TOPIX; Asia - relevant MSCI country index or MSCI sub-regional index or MSCI AC Asia Pacific ex Japan Index.

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MStock Price, Price Target and Rating History (See Rating Definitions)

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INDUSTRY COVERAGE: Greater China Technology Hardware

COMPANY (TICKER) RATING (AS OF) PRICE* (06/15/2018)

Gill Yin

BizLink Holding Inc (3665.TW) O (06/05/2018) NT$238.50BOE Technology (000725.SZ) E (12/07/2017) Rmb3.91FIT Hon Teng Ltd (6088.HK) E (06/05/2018) HK$3.50GIS (6456.TW) O (01/29/2018) NT$216.50Ningbo Joyson Electronic Corp (600699.SS) O (09/26/2016) Rmb26.58Shenzhen O-film Tech (002456.SZ) O (09/29/2017) Rmb18.44Tianma Microelectronics (000050.SZ) U (01/24/2018) Rmb16.19TPK Holding (3673.TW) O (01/29/2018) NT$66.40

Howard Kao

Flexium (6269.TW) E (04/27/2018) NT$97.40Kinsus Interconnect Tech. (3189.TW) U (01/31/2018) NT$55.00Tripod Technology (3044.TW) O (02/26/2018) NT$90.40Zhen Ding (4958.TW) E (11/14/2017) NT$69.80

M


MMelrose Chiu

Acer Inc. (2353.TW) U (02/01/2018) NT$26.65Adlink Technology Inc (6166.TW) E (03/09/2017) NT$56.70Advantech (2395.TW) O (08/20/2015) NT$206.50Airtac International (1590.TW) O (08/20/2015) NT$481.00Asustek Computer Inc. (2357.TW) E (07/20/2016) NT$279.50Chroma Ate Inc. (2360.TW) O (04/29/2016) NT$167.00Compal Electronics (2324.TW) E (08/30/2009) NT$19.85Ennoconn Corporation (6414.TW) O (02/22/2018) NT$447.50Hiwin Technologies Corp. (2049.TW) O (08/10/2017) NT$375.00Inspur Electronic Information (000977.SZ) E (11/17/2016) Rmb21.82Legend Holdings Corp (3396.HK) E (03/29/2018) HK$24.20Lenovo (0992.HK) U (02/01/2018) HK$4.33Pegatron Corporation (4938.TW) E (09/29/2016) NT$66.20Quanta Computer Inc. (2382.TW) O (04/20/2011) NT$53.90Wistron Corporation (3231.TW) O (10/24/2017) NT$23.20

Sharon Shih

AU Optronics (2409.TW) O (01/24/2018) NT$13.50Casetek Holdings (5264.TW) U (04/18/2018) NT$72.50Catcher Technology (2474.TW) O (01/10/2017) NT$352.50Delta Electronics Inc. (2308.TW) O (07/13/2017) NT$113.50Epistar (2448.TW) U (03/15/2018) NT$43.70Foxconn Technology (2354.TW) E (08/16/2016) NT$75.10Hon Hai Precision (2317.TW) O (10/24/2017) NT$85.00Innolux (3481.TW) U (12/07/2017) NT$12.00LandMark Optoelectronics Corporation (3081.TWO) O (02/22/2018) NT$326.00Lens Technology (300433.SZ) E (06/13/2016) Rmb22.18Lite-On Technology (2301.TW) U (11/09/2017) NT$38.55MLS Company Limited (002745.SZ) O (04/07/2016) Rmb16.17Sanan Optoelectronics (600703.SS) E (08/22/2014) Rmb19.50Tong Hsing (6271.TW) O (02/22/2017) NT$108.00Visual Photonics Epitaxy Co Ltd (2455.TW) O (02/22/2018) NT$124.00

Yunchen Tsai

AAC Technologies Holdings (2018.HK) O (08/28/2017) HK$120.30BYD Electronics (0285.HK) U (04/06/2018) HK$11.90Dahua Technology Co. Ltd. (002236.SZ) O (07/25/2016) Rmb22.57Everwin Precision Technology (300115.SZ) U (04/06/2018) Rmb13.03GoerTek Inc (002241.SZ) E (01/18/2017) Rmb11.12HIKVision Digital Technology (002415.SZ) O (11/02/2015) Rmb38.02Largan Precision (3008.TW) E (11/09/2017) NT$4,590.00Luxshare Precision Industry Co., Ltd. (002475.SZ) O (10/24/2016) Rmb24.69Merry Electronics Co Ltd (2439.TW) U (02/28/2018) NT$152.00Q Technology Group Co Ltd (1478.HK) U (05/11/2018) HK$6.89Shenzhen Sunway Communication Co. Ltd. (300136.SZ) E (11/17/2016) Rmb33.30Sunny Optical (2382.HK) O (01/04/2017) HK$164.00Sunwoda Electronic Co., Ltd. (300207.SZ) E (06/25/2015) Rmb9.60Stock Ratings are subject to change. Please see latest research for each company.* Historical prices are not split adjusted.

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Documents

Greater China Technology Hardware – Optics Triple Cameras ...xqdoc.imedao.com/169de6f3c976338f3fe614c2.pdf · Other Chinese OEMs are also looking into the solution, though early