AAC Technologies Holdings Inc.:Concerns about Q2results put to rest.Optics business development will trigger a further re-rating

The Company. AAC Technologies Holdings Inc. (AAC) designs,develops and manufactures a broad range of miniaturized components,including speakers, receivers and microphones in the acousticssegment, which the Company produces for mobile devices, such assmartphones, tablets, wearables, ultrabooks, notebooks and electronicbook-readers.

AAC’s Q12 2017 turnover rose 47% YoY or 5% QoQ to RMB4,429mfrom RMB3,018m in Q2 2016 and RMB4,215 in Q1 2017. TheCompany’s net profit increased 44.7% YoY and 0.4% QoQ, fromRMB736m in Q2 2016 and RMB1,062m in Q1 2017 to RMB1,065m inQ2 2017. The strong growth in Q2 2017 turnover was due to: (a)continuous ramping up of its non-acoustics business (RF mechanicaland haptics), and (b) solid demand for dynamic components. RFmechanical and haptics, the non-acoustic segment, grew 74% YoY andaccounted for 45% of total sales in Q1 2017. Dynamic componentsgrew 29% YoY in Q2 2017. Within the dynamic components segment,speaker boxes grew 44% YoY or 24% QoQ, driven by upgrades tospeaker box and stereo features. Receiver sales grew 15% YoY and12% QoQ, driven mainly by the increasing adoption of stereo sound andwaterproof features. Other revenue, including optics, accounted for 1%sales in Q2 2017, as AAC shipped 5P 13MP lenses to Androidcustomers. AAC achieved a gross margin of 40.6% in Q2 2017, adecline of 1.4ppt YoY and 1.3ppt QoQ, which was due to: a) price cutsrequired by the major customer on old products, and b) the increasingcontribution from non-acoustics products. According to the resultsannouncement, the decline in profitability is temporary, as the overallprofitability of the Company will improve as the technology andproduction platforms mature. AAC continues to focus on investing inR&D, which accounted for about 8.8% of Q2 sales. AAC declared aninterim dividend of HK$0.40 per share in 1H 2017 vs. HK$0.30 in 1H2016.

During the Q2 2017 results conference call, the most discussed topicwas the lens business. AAC management explained further its lensbusiness strategy and delivered a clear picture to the market. AACshipped 5-6m plastic handset lens sets per month in recent months andwill surpass the 10m level in Oct or Nov 2017. AAC will focus mainly on5P/13MP+ products instead of offering a full product portfolio from 2MPto 13MP+ products. It will further migrate to 16MP and 20MP goingforward. AAC is getting qualifications and market share in the 13MPsegment, which is dominated by a small group of suppliers. Currentplastic handset lens capacity has reached 10m per month, and AAC willdouble lens capacity to 20m per month in late 2017 or early 2018. Thecapacity of wafer level lenses will reach 2-3m by the end of 1H 2018.

Instead of focusing on plastic lenses, AAC aims to become a leader inthe hybrid plastic and glass lens segment, given its integrated R&Dprocess (plastic lens, glass lens and VCM). AAC management believesthat the mixed solution (glass/plastics) will become mainstream forhandset lenses in the future, given the cost and performanceadvantages. Management also mentioned that the lens industry will seestrong demand, given strong demand from increasing applications such as 3D sensing (AR application), high-resolution wide-aperturecameras and automobiles (autopilot). Given the industrydevelopment trend, management expects optics to become thelargest business segment among its product offerings in thelonger term (7-8 years). AAC has developed its own proprietarytechnology and equipment for producing wafer level glass lensesfrom Kaleido, in which AAC invested in 2010. AAC’s wafer levelglass lenses have two advantages: a) small size, and b) easierramp-up capacity. The ASP of 5P/13MP lens sets is aboutRMB4.5 and 5P/(16-20MP) lens sets is about RMB6. The ASP ofhybrid lens sets will be least US$2. The gross profit margin ofoptics will be at par with the corporate average (40%+ level) andwill reach over 50% if output is 20m units.

Regarding the acoustics business, management believes that thesegment will continue to grow, given the adoption of high-endcomponents by Android customers and that average selling priceswill go up 30% from the current stereo solution. AAC is nowqualified with the top 5 Android customers in China and willsecure more high end-projects in 1H 2018. AAC will have about1m 3D glass casing monthly capacity by Oct or Nov 2017, andmanagement expects to participate in both back and front coverglass projects in 2018. AAC management will not releaseguidance on a quarterly basis, but management reiterated itsguidance for 2017. (more on next page)