Demand Prospects for Harmonic Drive's Reduction Gears Remain Strong Despite Quarterly Order Decline

We slightly lower our fair value estimate for Harmonic Drive Systems, or HDS, to JPY 6,400 from JPY 6,600, after adjusting our medium-term operating margin assumptions. However, we continue to believe its shares are undervalued, as we think the market has been overreacting mainly to concerns of orders suddenly dropping like in 2018-19 (during the trade friction between the U.S. and China), as a result of ongoing headwinds such as lockdowns in China. March quarter orders dropped 24.8% from the previous quarter, but this is within expectations given the massive upfront orders over the past three quarters, and it is still near the past-peak levels in 2017. Moreover, although management acknowledges orders may remain stagnant in the short term, it also believes that the underlying demand is still quite strong, unlike in 2018 and 2019. We also believe that the announcement of a share buyback was a positive signal to investors.