CAPXON Intl Electronic (0469.

HK)
2007 November 27 t h

Initial coverage with a rating of BUY

Leading E-CAPs maker with complete vertical integration. CAPXON is a rare non-Japanese manufacturer of aluminum E-CAPs (electrolytic capacitors) with the manufacturing capacities of both etched and formed anode foils, key material for E-CAPs, fully satisfying its in-house demand and generating external sales. We believe its amply in-house supply of key upstream material assures quality and lowers cost to differentiate the Company from other competitors. Full array of product lines with technology leadership. On

Recommendation
Report Type Company name Ticker Current price 52-wk high/low Price Target Upside Potential
Initial Coverage

CAPXON 0469.HK HK$0.54 HK$0.95/$0.53 HK$0.82 52%

top of full product lines of standard E-CAPs, CAPXON is

Company Data
Market Cap (HKD) (USD) Shares O/S 3M Avg. Daily Vol. $456mn $59mn 845mn 1,320K Shrs

expected to increase its capacity for higher-margin SMD V-Chips by 2.5x in 2 years, and the shipment of solid-state polymer E-CAPs has also commenced. The move toward higher-end products can secure CAPXONs margin from deteriorating and help grasp more market share from Japanese players. External sales of anode foils to be a major sales driver. ~30%

Price Movement
$1.2 $1.0 $0.8 $0.6 $0.4 $0.2 $0.0 2007/5/7 2007/7/7 2007/9/7 2007/11/7

of CAPXONs anode foil outputs are currently sold to external customers after 100% meeting its in-house demand. We expect the external foil sales would grow at a CAGR of 57% during 07-09 and account for over 30% of its total sales in 2 years. Fundamentally undervalued. Capxon stock is inexpensive in light of both multiple and DCF valuations. The Company is trading at a low P/E of 3.9x of our 08F estimates. Our P/E multiple and DCF analyses support a fair target price of HK$0.82 for CAPXON, implying an upside potential of 52%. Valuation is elaborated on page 5.
Fig 1. Statistical Abstract

Henry Hsu Analyst +886 2 55761830 henry227@tsc.com.tw

Revenue EBIT EBITDA Net profit EPS P/E EV/EBITDA P/B ROE

(RMB$mn) (RMB$mn) (RMB$mn) (RMB$mn) (RMB$) (x) (x) (x) %

2005 790 109 144 78 $0.123 4.6x 5.0x 0.7x 17%

2006 844 122 170 74 $0.117 4.9x 5.2x 0.6x 14%

2007E 1047 131 186 84 $0.100 5.7x 5.1x 0.6x 11%

2008F 1235 180 243 122 $0.144 3.9x 4.1x 0.5x 13%

2009F 1432 192 261 130 $0.154 3.7x 3.9x 0.4x 12%

Source: Company, TSIA estimates

Taishing Holding (the Firm) and its affiliates, including TSIA, do and seek to do business with companies covered in its research reports. Accordingly, investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of the report. Investors should consider this report as only a single factor in making their investment decisions.

TSIA Equity Research

Executive summary
CAPXON is the 2 n d largest manufacturer of E-CAPs in China dedicated to vertical integration

BUY rating with a target price HK$0.82

We are initiating coverage on CAPXON (or the Company in this report) with a BUY rating. CAPXON is the 2 n d largest manufacturer of aluminum electrolytic capacitors (E-CAPs, one type of passive components functioning as storing energy momentarily and used in nearly all electronic devices). The Company also commands the manufacturing know-how and capacities of both etched and formed aluminum anode foils, key material input for E-CAPs, for both in-house use and external sales, one factor that could accelerate its growth forward. We forecast its net profit in 07 to reach RMB$84mn (after ~$10mn one-time IPO related expenses), representing a 14% YoY growth, and to grow by 45% to $122mn in 2008, with new capacities of both E-CAP and anode foils in place and especially owing to the promising external sales of foils. CAPXONs current stock price of HK$0.54 is inexpensive relative to our fair target price of HK$0.82 based on our 08F P/E of 5.5x and DCF valuation analyses. We would further raise our valuation multiples as well as the target price if the Companys results go in line with our projections.

External sales of anode foils to drive growth further

External sales of foils are expected to be another promising sales driver especially as foils are in shortage To ensure supply, assure quality, and lower cost, the Company exerts vertical integration strategies and has already achieved 100% self sufficiency in both etched and formed aluminum anode foils, which generally account for 40% to 60% of E-CAPs total manufacturing cost. As of today, CAPXON has become the 2 n d largest manufacturer of etched and formed aluminum anode foils in China with a monthly production capacity of 700K m 2 in both products. Currently around 30% of CAPXONs formed anode foil outputs are sold to external customers after 100% meeting its in-house demand. Our research indicates that CAPXON is a rare non-Japanese E-CAP maker who commands a 100% self-sufficiency rate in both types of anode foils. In addition to the increasing external OBM foil sales, we also expect CAPXON to receive OEM foil orders in the near future as the foil shortage seems continues and the capacities of major foil makers could

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not meet the demand. We believe its external foil sales will be a major growth driver for CAPXON, growing from RMB$189mn in 07E to RMB$465mn in 09F with a promising CAGR of 57%.

New higher end E-CAPs to secure margin

More advanced products such as SMD V-Chip and solid-state polymer E-CAPs are expected to secure margins With the growing demand in end applications and the continuous replacement of Japanese products, we expected CAPXONs annual shipment of higher-margin SMD (surface mount device) V-Chips, more advanced miniature E-CAPs which are generally used in NB and electronics that require smaller E-CAPs, would grow from 130mn units in 07E to 276mn in 08F, representing a YoY growth of 113%. CAPXON has also started commercial shipments of solid-state polymer E-CAPs, which are for use in high-end motherboards especially for NB and LCD TVs. We forecast CAPXONs E-CAP business would have a CAGR of 6% in revenue during 07E-09F with an overall non-deteriorated margin at over 14% due to its better product mix toward higher-end E-CAPs which carry higher ASPs and margins.

Financial Statements
Fig 2. Consolidated income statement
Forward estimates (RMB$mn)

2004

2005

2006

2007E

2008F

2009F

Net sales COGS Depreciation & amortization Gross profit SG&A expenses EBIT EBITDA Interest income (expense), net Other non-op (net) Earnings before income tax provision Income tax provision Minority interest Net earnings EPS Margins Gross margin % SG&A Total D&A EBIT % EBITDA % Pretax earning % Net margin % Tax rate Growth rate Revenue EBIT EBITDA Net earnings

737.3 597.3 30.5 140.0 66.2 73.8 104.4 -17.7 1.4 57.4 -8.4 8.2 40.8 0.064 $

789.9 609.9 35.5 180.0 71.2 108.8 144.2 -22.7 4.8 90.9 -5.5 7.4 77.9 0.123 $

843.9 643.2 48.0 200.7 78.6 122.1 170.1 -26.1 -4.7 91.4 -7.8 9.7 73.9 0.117 $

1,047.2 801.1 55.2 246.1 115.2 130.9 186.2 -27.1 -5.2 98.6 -10.2 4.4 84.0 0.100 $

1,235.1 931.7 62.9 303.4 123.5 179.9 242.8 -27.7 -6.2 146.0 -20.4 3.8 121.8 0.144 $

1,431.6 1,098.0 69.5 333.6 141.7 191.9 261.4 -26.8 -7.2 157.9 -23.7 4.0 130.2 0.154

19.0% 9.0% 4.1% 10.0% 14.2% 7.8% 5.5% 14.6%

22.8% 9.0% 4.5% 13.8% 18.3% 11.5% 9.9% 6.1%

23.8% 9.3% 5.7% 14.5% 20.2% 10.8% 8.8% 8.5%

23.5% 11.0% 5.3% 12.5% 17.8% 9.4% 8.0% 10.3%

24.6% 10.0% 5.1% 14.6% 19.7% 11.8% 9.9% 14.0%

23.3% 9.9% 4.9% 13.4% 18.3% 11.0% 9.1% 15.0%

NA NA NA NA

7.1% 47.4% 38.2% 91.0%

6.8% 12.3% 17.9% -5.2%

24.1% 7.2% 9.5% 13.8%

17.9% 37.4% 30.4% 44.9%

15.9% 6.6% 7.7% 6.9%

S o u r c e : C o m p a n y d a t a , T S I A f o r e c a s ts

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Fig 3. Consolidated balance sheet

Forward estimates RMB$mn

2004 47.4 319.3 160.7 25.6 0.3 45.6 598.9 13.0 20.5 452.8 1.0 0.0 1,086.1

2005 74.8 288.4 157.9 37.4 0.5 57.5 616.5 12.8 20.0 526.6 8.6 0.0 1,184.5

2006 77.1 315.0 174.9 54.3 0.5 51.4 673.1 12.3 23.5 648.6 14.2 7.5 1,379.3

2007E 231.3 376.2 213.4 50.3 0.5 60.0 931.7 12.3 23.5 773.4 13.5 10.6 1,765.0

2008F 190.1 443.7 249.9 58.5 0.5 60.0 1,002.7 12.3 23.5 874.4 13.5 10.6 1,937.0

2009F 161.0 514.2 292.1 69.0 0.5 60.0 1,096.8 12.3 23.5 965.7 13.5 10.6 2,122.5

Assets Cash and equivalents Accounts receivable Inventories Prepaid Deferrals Other current assets Total Current Assets LT investment Prepaid for PP&E & under construction PP&E, net Intangible Assets, net Other non-current assets Total Assets Liabilities Short term debt Accounts payable Other current liabilities Tax provision Total Current Liabilities Long-term debt Other long-term liabilites Total Liaiblites Shareholder's equity Common Stock Reserves Minority interest Total Equity Total Liabilities and Shareholders' equity

417.3 215.9 20.0 6.5 659.7 52.0 5.8 717.5

363.2 240.4 35.4 4.4 643.3 73.9 6.2 723.5

357.7 189.7 37.5 5.8 590.7 239.2 6.5 836.4

357.7 236.2 30.0 7.6 631.5 339.2 6.6 977.4

357.7 274.8 30.0 15.3 677.8 339.2 6.7 1,023.7

357.7 323.8 30.0 17.7 729.2 339.2 6.8 1,075.2

190.8 109.2 68.6 368.7 1,086.1

208.4 181.5 71.1 461.0 1,184.5

250.7 218.5 73.6 542.9 1,379.3

82.2 695.5 10.2 787.6 1,765.0

82.2 817.4 13.9 913.3 1,937.0

82.2 947.6 18.0 1,047.3 2,122.5

S o u r c e : C o m p a n y d a t a , T S I A f o r e c a s ts

Fig 4. Consolidated statement of cash flow

RMB$ millions 2004 2005 2006 2007E Forward Estimates 2008F 2009F

Cash flows from operating activities Net profit attributed to all shareholders Depreciation & amortization Change in WC providing Net cash used in operating activities Cash flows from investing activities Net change in CAPEX - Additions to PP&E Interest received Other investment cash flow Net cash used in investing activities Free Cash Flow Cash flows from financing activities (Reductions in) additions to short-term debt Additions to (reductions in) long-term debt Capital issues Dividends paid Interest paid Dividends paid to minority Retirement/purchase of treasury/minority shares Net cash used in financing activities Net (decrease) increase in cash & equivalents Adjustments Cash & equivalents at beginning of year Cash and cash equivalents at end of year

49.0 30.5 -77.9 1.4

85.4 35.5 78.0 198.6

83.6 48.0 -76.6 55.0

88.5 55.2 -22.5 121.2

125.6 62.9 -32.1 156.4

134.2 69.5 -37.7 166.1

-116.1 0.6 -15.4 -131.6 -130.3

-116.7 1.1 -2.8 -114.8 83.8

-180.1 2.4 -19.9 -199.4 -144.4

-180.0 7.9 -11.0 -183.1 -61.9

-170.0 7.3 0.0 -162.7 -6.2

-168.4 8.2 0.0 -160.1 5.9

-281.0 361.2 81.9 -8.1 -18.3 -3.9 0.0 131.8 1.5 1.9 65.1 68.6

-54.1 21.9 18.2 -9.7 -23.8 -3.8 0.0 -51.5 32.3 4.1 68.6 105.0

-5.4 165.3 8.6 -9.0 -28.5 -3.9 0.0 127.1 -17.3 1.1 105.0 88.9

0.0 100.0 447.8 -24.7 -35.0 -1.0 -282.7 204.3 142.5 0.0 88.9 231.3

0.0 0.0 0.0 0.0 -35.0 0.0 0.0 -35.0 -41.2 0.0 231.3 190.1

0.0 0.0 0.0 0.0 -35.0 0.0 0.0 -35.0 -29.1 0.0 190.1 161.0

S o u r c e : C o m p a n y d a t a , T S I A f o r e c a s ts

TSIA Equity Research

Valuation
Target price of HK$0.82 for CAPXON, implying an upside potential of 52%

Both P/E & DCF valuations hinting UNDERVALUED

We utilized P/E multiple valuation method, additionally backed by DCF, to valuate CAPXONs equity value its stock is inexpensive. The Company currently trades at a low P/E of 3.9x of our 08F EPS estimate versus 5.4x of its major HK competitor Man Yue (0894.HK, NR). Our target price of HK$0.82 for CAPXON is the average of $0.83, 5.5x P/E of our 08F EPS estimate, and $0.81 from our DCF output. The target price implies an upside potential of 52%.

Fig 5. DCF valuation

Risk free rate Ungeared beta (Asset) Geared Beta (Equity) Market premium Cost of equity Cost of debt Income tax rate Debt/Equity Ratio WACC Long term growth
Source: TSIA estimates

3.58% 1.26 1.18 8.00% 12.98% 5.00% 10.30% 88.45% 8.99% 3.00%

Sum of present values of FCFs Present value of terminal value Enterprise value (NPV) Less: Debt Equity value Number of shares o/s Equity value per share (RMB$) Exchange rate Equity value per share (HK$)

17 1,107 1,124 466 658 845 0.779 1.04 0.81

$ $

Fig 6. P/E multiple valuation

P/E Valuation Net profit (RMB$mn) PE Multiple (x) Equity Value (RMB$mn) Equity Value/ Shr (HK$)
Source: TSIA estimates

2008F 122 5.5x 670 $ 0.83

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Fig 7. Comparable table

S o u r c e : R e u t e r s c o n se n s u s , T S I A e s t i m a t e s

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Company profile
CAPXON is the 2 n d largest manufacturer of aluminum electrolytic capacitors in China with 100% in-house supply of aluminum anode foils. Its external sales of formed anode foils are expected to be another promising sales driver.

Leading E-CAP manufacturer with complete vertical integration into upstream key material
Operationally headquartered in Shenzhen, CAPXON was founded by the Lin family in Taiwan in 1980 and listed on HKSE in May 2007. The Company, currently with a monthly E-CAP production capacity of about 500mn pieces and a full and diverse array of product lines, is now the 2 n d largest manufacturer of E-CAPs in China. In 2006, CAPXONs revenue reached RMB$844mn, hitting record high. To ensure supply, assure quality, and lower cost, the Company exerts vertical integration strategies and has already achieved 100% self sufficiency in both etched and formed aluminum anode foils, which are key upstream raw material for E-CAPs and generally account for 40% to 60% of the total E-CAPs cost. CAPXON is also the 2 n d largest manufacturer of aluminum anode foil in China with a monthly production capacity of 700K m 2 for both etched and formed foils, currently around 30% of which are sold to external customers after 100% meeting its in-house demand. CAPXON centralizes its E-CAP manufacturing capacity in Shenzhen while strategically deploys capacities of etched and formed anode foils in Yichang in Hubei and Baotou in Inner Mongolia, where power supply, which is essential to the manufacturing process of foils, is abundant and is, more importantly, 15%-20% cheaper than that of other cities in China. According our calculation, lower electricity cost could lower about 5% of total anode foil cost, one of the reason why CAPXON can enjoy a high gross margin of over 20% for formed anode foil while most other competitors fail to.

Shareholder structure
The founders family hold ~70% of the shares

Majority shares held by the Management

Fig 8 Shareholder structure

Lin's Family Public shareholders Total

Source: Company data

70% 30% 100%

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Management
Mr. and Mrs. Lin all have over 25 years of industry experience in E-CAP

Experienced management team

Fig 9. Management team

Title Chairman

Name Mr. Victor Lin

Execturive Director Mrs. Nina Chou Execturive Director Mr. Yuan-Yu Lin CFO & Spokesman Ms. Szu-Jung Hu

Highlight - Group founder - Over 25 years of industry experience - Group founder - Over 25 years of industry experience - Founder and general manger for the foil BU - Over 15 years of experience in financial management & accounting

Source: Company

Sales breakdown by geography

Sales from China accounted for 3/4 of CAPXONs total sales in 2006

Surging sales from Mainland China

Sales from Mainland China are increasing for it has been becoming the world manufacturing center, and downstream customers cluster, too. We expect more sales will be generated from China as CAPXON can utilize its close-to-customer advantage to grasp more market share in the future.
Fig 10. Sales breakdown by geography

100% 22% 75% 50% 7% 19%

8% 7% 14%

3% 5% 17%

71% 25% 0% 2004 PRC

Source: Company

75%

52%

2005 Asia ex. China Western

2006 Taiwan

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Sales breakdown by application

Applications with higher growth such as LCD TV are expected to account for more of CAPXONs E-CAP sales

Multiple end applications to diversify sector risk

Currently power related applications accounts for ~30% of CAPXONs E-CAP sales. With CAPXONs more emphasis on higher-end products such as SMD V-Chip, we expect more revenue would be generated from the FPD and other display category in the future
Fig 11. Sales breakdown by application

Category Power PC & consumer electronics FPD & other display Telecom Others
Source: Company

End product application % of sales Charger, adaptor, UPS, battery, converter, etc 32% Destop, audio, recorder, etc 23% LCD TV, CRT TV, plasma TV, monitor, etc 27% Rounter, AP, switch, etc 10% Industrial, automotive, lighting, etc 8% 100%

Customer base

Diverse, world-known customers

The Company has a very diverse customer base. Its E-CAP customers include Samsung, Delta, Liteon, LG, Philips, Foxconn, Vestel, Dell, etc. The top 10 account for ~40% of CAPXONs E-CAP sales. We see no risk of sales centralization.

Sales breakdown by product

E-CAP growing steadily while foil taking off

Currently E-CAPs and external foils sales account for 86% and 14% of total net sales correspondently. We expect the external sales of foil would grow at a CAGR of 57% during the next 2 years and account for ~30% of CAPXONs total net sales.
Fig 12. Sales breakdown by product type
RMB$mn E- CAP External sales of anode foil Net sales 2005 730 61 791 2006 777 70 847 2007E 859 189 1047 2008F 881 354 1235 2009F 967 465 1432 '07E-'09F CAGR 6% 57% 17%

Source: Company, TSIA estimates

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Fig 13. Sales breakdown by product type in %

% E- CAP Anode foil external sales Net sales 2005 92% 8% 100% 2006 92% 8% 100% 1H2007 86% 14% 100% 2H2007 78% 22% 100% 2007E 82% 18% 100% 2008F 71% 29% 100% 2009F 68% 32% 100%

Source: Company, TSIA estimates

Product offering
On top of 1) in-house use and 2) external OBM sales, external OEM orders are also very likely to come in to further druve CAPXONs sales from formed anode foil

Etched and formed anode foils

Simply put, the manufacturing process of E-CAP starts with 1) etching of pure foils, 2) then the ETCHED ANODE FOILS are later layered (or formed) with a dense oxide, becoming FORMED ANODE FOILS, and 3) E-CAPs take shape by winding and packing formed anode foils and other material. See Fig 23 and 24 on page 20 and 21 for detailed anode foil and E-CAP manufacturing process. The purpose of etching is to increase the surface of the pure aluminum foil by 25 to 100 times to augment the capacitance. The etching process, know-how of which is commanded by few players, including CAPXON, is much tougher than the forming process that simply forms a dense aluminum oxide layer on the foil surface. The recipe of chemical solution and the process know-how determine the yield rate, capacitance, and quality of the etched anode foil output. While some other competitors are still struggling to tune up their yield rates, CAPXON has achieved a >95% yield rate. Continued endeavor in anode foil has put Capxon on par with Japanese makers with capacitance, a key benchmark for anode foils, at 2F/cm2 for standard medium-voltage (260V) anode foils and 0.75F/cm2 for standard high-voltage (520V) anode foils. Most E-CAP players in China/HK and Taiwan need to buy either etched or formed anode foils, or both, from few Japanese suppliers, whose production capacities account for 70% to 80% of total global supplies. The in-house supply of both foils can provide manufacturing flexibility for CAPXON, especially for tailor-made or non-standard orders. In view of the overall shortage and the continuous growth of the

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market, CAPXON is aggressively expanding its capacity of both etched and formed anode foils. We also boldly expect there is a lot of opportunity that CAPXON would receive OEM foil orders from other foil suppliers with limited capacities to meet market demand, the fact that would represent a new growth driver on top of its existing OBM foil sales. We estimates the external sales of formed foil would account for over half of its total formed foil output in 2 years after meeting its in-house demand.
Fig 14. Etched and formed anode foil capacity and formed foil sales

2005 Etched anode foil capacity (K sq.m in the period) Formed anode foil capacity (K sq.m in the period) Extermal sales % In-house used % Total formed foil production value in the period ($RMBmn)
Source: Company, TSIA estimates

2006 5682 5682 23% 77% $ 429

2007E 8528 11938 37% 63% $ 611

2008F 12948 16735 56% 44% $ 679

2009F 16978 20930 60% 40% $ 800

5989 5989 22% 78% $ 431

Full array of E-CAP product lines

We expect CAPXONs E-CAP business to grow at a mild, stable 6% in the next 2 years with non-deteriorated margins As the 2 n d largest E-CAP manufacturer in China, CAPXON is aggressively expanding its capacity for more advanced, higher-end E-CAPs such as SMD V-Chip and solid-state polymer E-CAPs. As the demand in end applications keeps growing and the replacement of imported Japanese products continues, we expect CAPXONs annual shipment of SMD V-Chips, usually used in FPD (flat panel display) and NB with gross margin of over 20%, will grow from 130mn units in 07E to 276mn in 09F, standing for a CAGR of 113%, and the shipment of solid-state polymer E-CAPs, which command better reliability than standard E-CAPs, for NB has also begun. According to the Management, more CAPEX will be put into SMD V-Chips and solid-state polymer E-CAPs to triple both capacities in 2 years. We expect CAPXONs E-CAP business would have a mild, stable 6% sales growth over the next 2 years because it usually takes over 2 years for customer to massively adopt non-Japanese SMD V-Chips and solid-state polymer E-CAPs, as weve seen many similar transitions in other electronic component sectors, but CAPXONs overall E-CAP

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gross margin could be well maintained at ~14% or even further improved because 1) the increasing sales from higher-margin products, 2) lower costs from its economies of scale, and 3) low-cost in-house supply of key materials. Albeit the Company has just passed the TS16949 certification to enter the automotive passive component market, we expect the automotive segment would also not bring significant sales contribution in the near term as the qualification and certification processes from auto component suppliers always take lots of time. We will closely monitor its progress in developing the new application market. Increased E-CAP capacity are mainly for SMD V-Chips and solid-state polymer E-CAPs
Fig 15. E-CAP capacity & sales projection

2005 Average mthly capapcity (mn units) Sales in the period (RMB$) A YoY growth %
Source: Company, TSIA estimates

2006 363 777 6%

2007E 523 859 11%

2008F 567 881 3%

2009F 625 967 10%

353 730 8%

Higher-end products are expected to account for more of total sales

Fig 16. E-CAP sales breakdown by type

Type Stardard radial SMD V-Chip Solid-state polymer Total

2007E 98% 2% 0% 100%

2008F 92% 5% 3% 100%

2009F 82% 11% 7% 100%

Source: Company, TSIA estimates

Product cost structure

CAPXONs strong competitiveness in formed anode foil come from 1) in-house supply of etched anode foil and 2) accessibility to cheaper electricity

Cost structure of formed anode foil

Fig 17. Cost structure for formed anode foil

Material
Etched anode foil Others

60%
55% 5%

Direct labor D&A Overhead (Electricity, transportation, etc) Total

Source: Company, TSIA estimates

1% 2% 37% 100%

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The manufacturing of formed foil is very material emphasized the etched anode foil alone accounts for about 55% of the formed anode foils total cost. As electricity is also heavily used in the manufacturing process, it weights ~30% of the formed foils cost. CAPXON not only has 1) the in-house etched anode foil supply, but its manufacturing facilities of foils are also strategically located in Yichang and Baotou, where 2) electricity is not only abundant but cheaper. We believe CAPXON distinguishes itself from and will win out among competitors in anode foils due to the two major advantages.

Cost structure of E-CAP

The most critical material input for E-CAP is the formed anode foil, which can be fully in-house supplied
Fig 18. E-CAP cost structure

Material
Formed anode foil Cathode foil Others

82%
48% 5% 29%

Direct labor D&A Overhead (Electricity, transportation, etc) Total

Source: Company, TSIA estimates

4% 4% 10% 100%

Formed anode foil accounts for nearly half of E-CAPs total cost. According to our calculation, CAPXONs in-house supply of both etched and formed foil can save its total E-CAPs cost by 7% to 10% compared to other competitors without the capabilities. The cost difference explains CAPXONs higher margin than all its Taiwanese competitors. See our Competitive landscape analysis for detailed comparison in the next paragraph.

Competitive landscape
CAPXON excels Taiwanese peers in (1) integration capability, (2) product ASP, (3) economies of scale, and (4) better gross margin

Excelling peers in namely all competitive aspects

From Fig. 18, CAPXON distinguishingly excels all the Taiwanese competitors whose 06 detailed operational results are publicly accessible in (1) integration capability, (2) product ASP, (3) economies of scale, and (4) overall gross margin. We are very satisfied with CAPXONs performance as its Taiwanese competitors are mostly known for their advanced technologies and outstanding cost control to hi b tt ti l lt

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achieve better operational results. Japanese players have been strong in E-CAPs, dominating around 32% of the global E-CAP market, especially for high-end products. Representative big players include Nippon Chemi-con (6997.JP, NR), Nichicon (6996.JP, NR), and Rubycon. In terms of profitability, CAPXON has higher gross margin than Nichicons 17% and Nippon Chemi-cons 22% in 06, which is a magnificent demonstration of its competitiveness. We expect Taiwanese and Chinese/HK players will grab more shares over time due to lower labor cost and other manufacturing advantages. As for CAPXONs major HK competitor Man Yue (0894.HK, NR), whose detailed product breakdown information is not available, it had a slightly higher gross margin of 25% compared to CAPXONs 24% in 06. However, we think the 1% difference is less meaningful as it might just reflect partial of the result of Man Yues close sales relationship with Taiwan OST (an E-CAP trading company, 8080.tw, NR). Although Man Yue commands a larger E-CAP manufacturing capacity than CAPXON (~850mn vs. ~500mn/mth), CAPXON leads in technology in view of the timeline launching more advanced products such as solid-state polymer E-CAPS. In terms of integration capability, Man Yue is just planning to set up its in-house etched anode foil capacity and possesses a capacity of formed anode foil to cover only ~30% of its in-house consumption, in contrast to CAPXONs 100% in both types of anode foils, not to mention external sales opportunities. We prefer CAPXON than Man Yue as well as all the other Taiwanese competitors.

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Fig 19. 2006 result comparison with Taiwanese players

Company name Ticker GM% ASP (NT$) Etched cathod foil (K sq.meter) Etched anode foil (K sq.meter) Formed anode foil (K sq.meter) $ 248 E-CAP (mn unit) $ 1.07 Product Company name Ticker GM% CAPXON JCTC Liton 0469.HK 3089.tw 6175.tw 24% 21% 5% Actual % of total ASP Actual % of total ASP Actual % of total output sales (NT$) output sales (NT$) output sales $ 114 2601 95% 4916 $ 67 62 0% 4160 8% $ 123 65 3% $ 202 6504 92% 3140 92% Kai Mei 5317.tw 20% Actual % of total output sales 2488 23% 50% 1445

Lelon LTEC 2472.tw 8218.tw 12% 13% ASP Actual % of total ASP Actual % of total ASP Product (NT$) output sales (NT$) output sales (NT$) Etched cathod foil (K sq.meter) Etched anode foil (K sq.meter) Formed anode foil (K sq.meter) $ 178 E-CAP (mn unit) $ 0.50 4825 92% $ 0.90 1494 100% $ 0.67 Teapo OST 2375.tw 8080.tw 10% 15% ASP Actual % of total ASP Actual % of total Product (NT$) output sales (NT$) output sales Etched cathod foil (K sq.meter) Etched anode foil (K sq.meter) Formed anode foil (K sq.meter) E-CAP (mn unit) $ 0.71 565 75% $ 1.05 1520 94% Company name Ticker GM%

S o u r c e : C o m p a n i e s , T S IA

Conclusion
Not a diamond in the rough, but a diamond not been noticed yet

Most competitive player in the sector with complete vertical integration

After scrutinizing listed players in Taiwan and China/HK, we identify CAPXON is the most competitive player due to its complete vertical integration, technology leadership, and economies of scale. We think the reason that CAPXONs stock is trading at a discount in our view is due to the lack of public understanding of its business and growing opportunities for now. We believe its a good opportunity to BUY its stocks at the current undervalued price with literally little downside risk according to all our diligent research and analysis. Its not a diamond in the rough, but a diamond not been noticed yet.

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Appendix 1

Types of passive components

Passive components can be generally categorized into (1) capacitors, (2) inductors, and (3) resistors, where capacitors account for 42% of total global passive component shipments according to our research. Illustrated below are the introductions of each type of passives. Capacitors. Capacitors are electrical components that store energy momentarily while charged by an active component and serve a filtering function. Capacitance, which is a positive value and stands for a capacitors capability to store energy, is measured in Farads. Unlike a battery, a capacitor stores a charge electro-statically instead of chemically and reacts much faster. It is one of the most widely used components used in namely all electric devices such as PC, CE, telecom, power supply, automotive, industrial, lighting, etc. Capacitors are classified according to the type of material used in the insulating layer (or called dielectric): (1) ceramic, (2) aluminum electrolytic (E-CAP), (3) tantalum, (4) film, and (5) others, which account for 43%, 34%, 12%, 8%, and 3% of global total capacitor shipment respectively in 2006. Each type has its own unique electrical characteristics and correspondent applications, so we expect the breakdown will stay approximate the same in the future. E-CAP we focus on in the report will be further illustrated in Appendix 2 on the next page.
Fig 20. 4 major types of capacitors
Type Function and application Mostly used in low-frequency circuits for E-CAP All size, lower cost, large capacitance almost all electronics Mostly used in high-frequency circuits for Ceramic Small, long life portable devices Mostly used in filtering, noise reduction, and Tantalum Samll, long life, low leakage coupling circuits for telecom High voltage circuits for fridge, air con, Film High voltage laundry machine, motor, etc Characteristic

S o u r c e : I EK

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Inductors. Inductors store a charge magnetically and show low resistance to DC and a higher resistance to AC, measured in Henrys. An inductor is mostly used in a coil. Winding it into a coil concentrates the magnetic field and augments the inductance by large for a given length of wire. Resistors. Resistors regulate voltage or current in electrical circuits. Resistance is measured in Ohms.

Appendix 2

Introduction of E-CAP
E-CAP is one type of the 4 major types of capacitors accounting for about ~34% of total as mentioned in Appendix 1. The global E-CAP market is expected to reach US$5.6bn in 2008 according to IEK. Among the global shipment of 210bn units of E-CAP in 2006, Taiwanese accounted for 34%, followed by Japaneses 32%, Chinese/HKs 20%, and Koreas 14%. Although E-CAP is a mature electrical product of which annual growth rate in dollar value has stayed at ~3% to ~5%, we believe Taiwanese and Chinese/HK players who have the economies of scale and integration capabilities will grow at a higher rate than average as they keep gaining shares from Japanese players, who have been more and more forced to focus on high-end market only.
Fig 21. Global E-CAP market size
7000 6000 5000 4000 5% 3000 2000 1000 0 2003
S o u r c e : I EK

10% 5250 5408 5597 8%

4620

4805

5000

6% 4% 4% 3% 4%

3%

2% 0% 2004 2005 2006 2007F 2008F

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Major types of E-CAP

Standard radial. ~45% of total E-CAP, most commonly used but mature.

Vertical chip (V-Chip). ~20% of total E-CAP, designed for SMD, smaller in size, displacing some radial E-CAPs in consumer and computer electronics, having been showing faster growth. Snap-in/ snap-mount. ~15% of total, usually large in size and in capacitance and voltage, application specific, used in the output filters of power supplies, easy to mount and replacing some older screw terminal E-CAPs. Screw terminal. ~10% of total, associated with computer and industrial power supplies, used in DC-DC converters and switch power supplies.

Photo flash. ~2% of total, offering high rate of discharge and used for camera flashes, strobe lighting, auto airbag, ballast, etc, application specific to maintain high margins.
S o u r c e : Pa u mo n o k Pu b l i c a t i o n s

Namely all the above types can be made in the form of solid-state polymer rather than the traditional liquid electrolyte. Solid-state polymer E-CAPs are characterized by high reliability and used in higher-end consumer electrical products that require high reliability. Solid-state polymer E-CAPs do replace some traditional liquid electrolytic E-CAPs in the high-end application markets, but as solid-state polymer E-CAPs are much more expensive and not every electronics needs such high reliability and durability, traditional E-CAPs are still expected to take the majority share in the future.

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Applications of E-CAP
The Consumer/ AV segment has been the largest application area for E-CAPs, accounting for 40%-50% of total E-CAP consumption during the past 5 years.
Fig 22. Global E-CAP consumption by application

Consumer/ AV Industrial PC/ IT Telecom Automotive Other

44% 23% 13% 7% 5% 8% 100%

S o u r c e : I EK

Inside an E-CAP
The material cost for making an E-Cap is very high generally accounting for 40% to 60% of the total COGS. The major materials for making E-CAPs include cathode and anode foils, electrolyte, lead wire, separator paper, can, etc. Among them anode foil is the most critical one as it weights around half in cost and decides the size, quality, and capacitance of E-CAPs.
Fig 23. E-CAP transection

Source: Elna.co.jp

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Manufacturing of E-CAPs
Fig 24. Manufacturing of E-CAPs
Pure Al. foil Etched anode foil

Etching

Forming

Others

Electrolyte

Paper/ Glue

Lead wire

Formed anode foil

Cathode foil

Processing/ Assembly

E-CAP

Source: Company

As seen from the chart above, after the formed anode foil, cathode foil, and lead wire are cut and stitched, they are winded (or rolled) with electrolyte impregnated paper acting as separator. Then it is put into the can followed by other processing and final testing and assembly.

Appendix 3

Introduction on etched and formed anode foils

The production of anode foils is divided into two major steps, the etching and the forming process. In the etching process, pure aluminum foil undergoes an

electrochemical etching process to increase the surface area thereby increasing the capacitance by 25 to 100 times without bothering using much more un-etched foil to achieve the same result. The pure foil cant be etched too thin, uneven, or fragile in avoidance of fractures or other quality issues albeit theoretically it should be etched as much as possible to maximize the foils utilization. Thus etching is the most critical process determining the size, quality, and capacitance of E-CAPs. The difficulty in etching makes the entry barrier very high, resulting in only few qualified suppliers of etched foil in the market. In the forming process, the etched foil undergoes an electrolytic process to form a dense aluminum oxide layer on the surface, acting as

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the dielectric, or insulator, which does not conduct electricity.

Fig 25. Transection view between anode and cathode foils

S o u r c e : E l n a . c o .jp

We estimate the global etched and formed anode foil market to be between US$800mn and US$1bn. The global etched anode foil market is dominated by Japanese players such as JCC, KDK, Itsuwa, Kawatake, Okaya, etc. In Taiwan, only Liton (6175.tw, NR) claims it commands the capability to make etched anode foils, but its capacity still seems insignificant. Entry barrier of making etched anode foil is high ~90% of the etched anode foils consumed by Taiwanese players still need to be imported, while only ~25% of formed anode foil is imported, according to IEK. In China/HK, CAPXON is the only E-CAP maker who has the etched anode foil manufacturing capability according to our research.

Taiwan Securities Investment Advisory Co., Ltd. +886 2 2326-8866 (Taiwan) www.tsc.com.tw Taiwan Securities (HK) Co., Ltd. + 8 5 2 2 8 4 0 - 1 2 3 8 ( H o n g K o n g ) w w w . t s g l o b a l . c o m. h k