KYCCF - Keyence: Keep An Eye On Dividends And Investments

2023-10-02 03:27:24 ET

Summary

• Keyence's future dividend payout ratio could potentially be higher, in consideration of institutional investor pressure and its strong financial position.
• The company's recent quarterly top line performance has been strong, as it continues to invest in talent and foreign market expansion.
• My Buy rating for Keyence stays unchanged, taking into account the potential for larger dividend payouts and the company's long-term mindset.

Elevator Pitch

I have a Buy rating for Keyence Corporation ( KYCCF ) [6861:JP] stock. Earlier, my May 1, 2023 article was focused on the review of the company's FY 2023 (April 1, 2022 to March 31, 2023) financial performance.

In the current write-up, I highlight that Keyence's dividend growth potential and its willingness to invest for the long term are key investment merits. Keyence's most recent fiscal year dividend payout ratio was still pretty low at 20%, and there is a high likelihood of increased dividends in the future thanks to pressure from institutional investors. The company hasn't shied away from making aggressive investments with an eye on the future, even though this might be a drag on its short-term profitability. These two key factors support a Buy rating for Keyence.

Keyence has public listings in Japan and on the Over-The-Counter or OTC market. The average daily trading values for Keyence's Japan-listed and OTC shares were $230 million and $1.3 million, respectively for the past three months as per S&P Capital IQ data. Interactive Brokers is among the multiple US brokers offering clients the choice of trading in Japanese stocks such as Keyence's shares listed on the Tokyo Stock Exchange.

Pressure From Institutional Investors Could Drive Higher Dividend Distributions

In my opinion, Keyence might pay out more substantial dividends in the future, taking into account pressure from a number of institutional investors.

Keyence is abrdn Japan Investment Trust's seventh largest holding representing 2.9% of its portfolio. In abrdn Japan Investment Trust's 2023 annual report , the investment manager stressed that it "continues to engage" with Keyence on the issue of dividends, "using proxy votes to reinforce good governance where required." Specifically, the investment manager has "discussed shareholder returns" with Keyence, and "has voted against its (Keyence's) dividend policy at shareholder meetings" as indicated in abrdn Japan Investment Trust's latest annual report.

Separately, Baillie Gifford's Japanese Growth and International All Cap funds didn't vote on the dividend distribution resolution at Keyence's Annual General Meeting in the middle of June this year. Baillie Gifford's investment managers made this decision due to "concerns that the payout ratio (for Keyence) is insufficient" as highlighted in the funds' most recent quarterly updates.

A review of Keyence's key financial metrics suggests that the company has the capacity to distribute a larger proportion of its earnings as dividends to its shareholders.

As revealed in its FY 2023 annual report , Keyence's dividend payout ratio for the most recent fiscal year was 20%. As a comparison, the mean dividend payout metric for the Japanese Nikkei index was way higher at 45% based on research conducted by IHS Markit. Furthermore, Keyence boasts a strong balance sheet to support dividend payments. Keyence is debt-free and the company's current net cash accounts for approximately 6.7% of its current market capitalization as per data sourced from S&P Capital IQ .

The analysts have modest expectations of Keyence's future dividend distributions. As per S&P Capital IQ data, the consensus FY 2024, FY 2025, and FY 2026 dividend payout ratio estimates for Keyence are 20.6%, 19.3%, and 18.1%, respectively.

Considering Keyence's financial strength and pressure from institutional investors, I expect the company's actual dividend payout ratios for the coming years to be much higher than what the sell side is forecasting now. As mentioned above, Keyence's current dividend payout ratio of 20% is inferior to that of its Japanese peers (45% average payout).

Having A Long-Term Mindset Will Eventually Pay Off

Keyence's stock price has corrected by approximately -21% in the past two months after reporting the company's Q1 FY 2024 (April 1, 2023 to June 30, 2023) earnings on July 28, 2023. Keyence's share price decline is most likely driven by its operating earnings miss.

The actual Q1 FY 2024 operating income of JPY111 billion for Keyence was -11% lower than the market's consensus quarterly operating profit of JPY125 billion (source: S&P Capital IQ ). Keyence's operating margin also contracted from 12.3% in Q4 FY 2023 and 10.1% in Q1 FY 2023 to 8.2% for the most recent quarter.

I am of the view that Keyence is investing for growth in the long run, and this has unfortunately hurt the company's profit margins in the near term.

In the company's FY 2023 annual report, Keyence emphasized that it has "made efforts to expand our overseas sales offices" and made reference to its "focus on recruitment."

The share of sales generated from foreign markets outside Japan as a proportion of its total revenue for Keyence increased from 59% for FY 2022 to 62% in FY 2023. There is room for the company to grow its international revenue contribution to two-thirds or even three-quarters of its top line in the future. Also, Keyence's staff strength expanded by +18% from 8,961 at the end of March last year to 10,580 as of March 31, 2023.

Revenue for Keyence increased by a reasonably decent +15.8% YoY to JPY222 billion in Q1 FY 2024. The company has achieved a faster pace of top line expansion for the most recent quarter as compared to the company's sales growth of +13.0% YoY and +15.2% YoY for Q1 FY 2023 and Q4 FY 2023, respectively. In contrast, its peer, OMRON Corporation ( OMRNY ) ( OMRNF ) [6645:JP], registered a relatively weaker revenue growth rate of +10.3% YoY for the first quarter of fiscal 2024. These numbers suggest that Keyence's investments in hiring more people and expanding its presence in international markets have continued to pay off in the form of solid top line growth.

I think that Keyence's shares will stage a strong recovery in time to come, as the market comes to appreciate the company's long-term mindset.

Closing Thoughts

Keyence is willing to make investments that will drive its growth prospects for the long run, and there is a good chance of the company raising its dividend payout going forward. Therefore, I am bullish on Keyence, and this translates into a Buy rating for the stock.

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