AAC Technologies Centers on Profitability in 2023

We maintain our fair value estimate for AAC Technologies’ 02018 shares at HKD 23.5 after updating our earnings forecasts following the company’s fourth-quarter results release. We expect the profitability of the optics segment to improve in 2023 as management has realized that the aggressive expansion strategy is not feasible. We view AAC shares to be slightly undervalued as the company’s core competencies, such as acoustics and haptics, continue to generate durable cash flows. Meanwhile, smartphone demand recovering in the latter half of 2023 will spur haptics specification upgrades and alleviate competitive pressure on optics. We believe there is potential for an upside surprise in our forecasts and the stock price coming from sales volumes of automotive acoustics and incremental revenue from cross-selling optics and haptic systems to automakers as current visibility remains low.

We like how AAC focuses on prioritizing lens and module production utilization and reducing capital expenditures rather than aggressively expanding as before. Factoring in the tactical shift, we reduce our 2023 optics revenue estimate from CNY 4.5 billion to CNY 3.5 billion, representing a 10% growth from 2022. Meanwhile, we expect the optics segment’s gross margin to improve to 5% in 2023 from negative 15.8% (after adjusting for inventory write-offs) in 2022. While bigger peers such as Sunny and Largan will grow through periscope lenses, AAC can add value by supplying camera lenses to mid-range Android smartphones by lowering the cost of its wafer-level glass lenses and shipping camera modules that integrate in-house lens and actuator designs. We are raising our 2026 gross margin assumption for the segment to 13.0% from 11.6%.