2Q earnings missed on lower margins and non-op losses. Reported net profit ofTWD819m was up 50% q-o-q and 33% y-o-y. The number missed HSBCe andconsensus by 7-15%, due mainly to weaker margins and non-op losses. Despite 2QGPM/OPM of 3.9%/0.7% improved substantially from 3.8%/0.3% in 1Q17 backed bybetter scale and efficiency, the numbers came in lower than consensus expectationof 4.6%/0.8% (HSBCe: 4.3%/0.8%), leading to a 4% miss at the operating incomelevel. Non-op loss of TWD169m, which mainly comprised of interest expenses,served as another drag vs consensus expectation of TWD32m gain. Net-net, thebottom line came in 15% lower, with net margin of 0.4% vs consensus at 0.5%.    iPhone assembly the key driver in 2H, yet execution remains to be seen.    Guidance for 3Q is for NB shipments to be flat q-o-q, DT/monitor/TV/Servers to beflat to slightly up, while iPhone shipments should grow. As highlighted in our previousreport (Positive catalysts likely in the price, 3 July 2017), we continue to expectWistron to have 50% share of the next generation 5.5” iPhone, with order allocationgoing up from c4% in FY16 to c8% this year. Despite scale improvement, thebusiness could continue to make losses until 4Q17e, given initial costs involved inyield curve ramp-up as well as employee hiring and training prior to mass production.    Particularly for this year, we think the labour supply could be tighter than before inShanghai, Kunshan, and Suzhou, as most component suppliers and assemblers willbe ramping up production at or around the same time, which could lead to higherrecruitment costs and lower yield in 3Q17. We, therefore, forecast 3Q sales to growby 7% q-o-q, but OPM to trend down to 0.6%.    Maintain Hold with revised TP of TWD26. We cut our FY17/18e EPS estimates by14%/4%, respectively, mainly to reflect 2Q results and guidance, as well as loweredmargin assumptions. Our TP is now set at TWD26 (from TWD27.19), still based on12x FY18e. While the share gains in iPhone assembly are encouraging, uncertaintyregarding profitability is likely to keep investors on the sidelines. We think Wistron willprobably need to deliver more than just one-quarter (4Q17 by management’s target)of good margins in order to make investors believe that the profitability of iPhoneassembly is sustainable. Until then, we maintain our Hold rating. Our TP implies 6%downside. Weaker margins could be negative catalysts, while we expect theupcoming launch of the new iPhone and cash yield of 4.3% to provide support.

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