Dim Sum Express. A-Share Market. Hong Kong Market. Equity Research. May 26, 2016

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1 Equity Research Dim Sum Express Key index performance Chg (%) EPS (%) P/E Market 1D 1M YTD 15E 16E 15E 16E HSI HSCEI MXCN SHSZ SHCOMP SZCOMP INDU SPX CCMP UKX NKY Hong Kong ADRs HK ticker Company Local (HK$) Daily (%) ADR (US$) Daily (%) 941 CHINA MOBILE ICBC TENCENT PETROCHINA CCB BANK OF CHINA HSBC SINOPEC PING AN CHINA LIFE Source: Bloomberg GF events Date Event Location 30 May DC Holding co. visit Beijing 1 Jun CSPC Pharm post-result meeting Hong Kong Source: GF Securities (HK) A-Share Market Non-Ferrous: Lithium carbonate prices to post strength on robust demand growth The output of lithium battery cells in China surged 95.7% YoY to 13.5Gwh in 1Q16. The implementation of policies related to new energy vehicle subsidies and the increasing use of trielement lithium batteries will give a strong boost to lithium carbonate demand. We estimate that global lithium carbonate demand will amount to 210,000 tonnes this year, with total supply of 209,800 tonnes, essentially reaching equilibrium. We expect lithium carbonate prices to remain stable or pick up in the near future, with Tianqi Lithium Industries ( CH), Zhonghe ( CH), Ganfeng Lithium ( CH) and Youngy (002192) to benefit. Electronics: Positive on opportunities for Chinese firms in car electronics space The global car electronics market is currently worth more than US$200bn, compared with a market of just Rmb400bn in China. Market space is set to grow even larger as cars become increasingly equipped with electronic functions. We believe that the post-smartphone era has arrived, and that car electronics is likely to replace smartphones as the new platform for the development of computing technology. Meanwhile, the participation of tech companies in the car electronics space has made the industry supply chain more open, giving emerging car electronics companies from China new opportunities to achieve business growth. Hong Kong Market Yuexiu REIT (405 HK, Buy): Premium investment property portfolio, attractive dividend yield; initiate at Buy The company was the first Hong Kong-listed REIT investing solely in property in mainland China. It owns and manages seven premium investment properties in Guangzhou and Shanghai, all located in the CBD. Guangzhou IFC is its main revenue and earnings driver. Given the limited supply of Grade-A office and high-end commercial properties in Guangzhou and Shanghai, we see solid appreciation potential for the company s premium investment properties going forward. Trading at a 30% discount to 2016E NBV, the stock is undervalued, in our view. We initiate at Buy with a TP of HK$5.90. Belle (1880 HK, Underperform): Weak footwear SSS continued in 1QFY17; maintain Underperform Management sees the weakness in the footwear segment as a structural trend and does not expect a material improvement in the next two to three years. We expect both SSS and GM to decline in FY17 due to sluggish consumer sentiment and increased inventory levels. Although the sportswear segment is expected to see healthy growth in FY17, management sees limited upside potential for EBIT margin in the near future. We cut our earnings forecasts and revise down our TP from HK$4.50 to HK$4.20. Maintain Underperform. I.T (999 HK, Hold): FY16 results beat; outlook remains challenging Although FY16 results beat our expectation and HK/China revenue growth was better than the industry average, we remain cautious on SSS and GM in HK due to slowing economic growth and falling property prices, as HK remained the company s largest market in terms of revenue. While the impressive profit growth in China and Japan partly offset weakening profitability in HK, adjusted net profit still dropped 25% YoY in FY16 (our estimate). Looking ahead, we expect core net profit to drop 12% YoY in FY17. We revise our TP from HK$2.08 to HK$2.10. Alex Fan, CFA, Head of Research, SFC CE No. ADJ672 alexfan@gfgroup.com.hk Gao Yedong, Editor, SFC CE No. BAI002 yedonggao@gfgroup.com.hk

2 Non-Ferrous: Lithium carbonate prices to post strength on robust demand growth Lithium carbonate prices to remain stable or pick up The output of lithium battery cells in China surged 95.7% YoY to 13.5Gwh in 1Q16. The implementation of policies related to new energy vehicle subsidies and the increasing use of tri-element lithium batteries will give a strong boost to lithium carbonate demand. We estimate that global lithium carbonate demand will amount to 210,000 tonnes this year, with total supply of 209,800 tonnes, essentially reaching equilibrium. We expect lithium carbonate prices to remain stable or pick up in the near future, with Tianqi Lithium Industries ( CH), Zhonghe ( CH), Ganfeng Lithium ( CH) and Youngy (002192) to benefit. Battery-grade lithium carbonate to drive overall demand growth Lithium carbonate is mainly used in the ceramics, glass and lithium battery industries, and is categorized into battery-grade and industrial-grade based on its purity. We expect the demand of industrial-grade lithium carbonate to maintain a CAGR of 1.5% going forward, while lithium batteries (accounting for 39% of total lithium carbonate demand) will be the key driver of lithium carbonate demand given their strong growth. Battery-grade lithium carbonate is mainly used in 3C product batteries, new energy vehicle batteries and energy storage batteries. We expect: 1) lithium carbonate demand from 3C product batteries to grow steadily at around 10% each year going forward on smartphone sales growth and enlarging battery capacity, 2) that from new energy vehicle batteries to increase at a CAGR of 69% over the next three years, and 3) demand from energy storage batteries to enhance the upside of lithium carbonate demand growth. We estimate that overall lithium carbonate demand will reach 210,000 tonnes this year, with a CAGR of 14.8% during , while the proportion of battery-grade lithium carbonate demand is likely to expand from 39% in 2015 to 44.6% in Global output and capacity growth limited China posted a lithium carbonate supply shortage of 15,000 tonnes in That said, rapidly rising lithium prices have led some companies to resume or expand production. Based on our analysis of the existing production capacity and production plans of key lithium carbonate producers in the world, we estimate that 36,800 tonnes of new capacity for lithium carbonate production will be added in 2016, although the actual output addition will be smaller that this due to production conditions and technological limitations. We expect overall lithium carbonate supply to come in at 209,800 tonnes this year, essentially matching our estimated demand for the year. However, a short supply might still be seen if the production capacity of downstream battery anode materials picks up significantly or if lithium carbonate inventories on the production lines increase. Key risks include further increases in lithium carbonate production capacity, and slower-thanexpected development in the new energy vehicle industry. Electronics: Positive on opportunities for Chinese firms in car electronics space Car electronics a new opportunity for Chinese electronics firms to stand out Chinese electronics companies are now competing with or have surpassed their Taiwan peers in quite a few consumer electronics subfields such as acoustics and haptics. Looking ahead, with the standardization and modularization of auto parts, the pursuit of lower costs by auto assembly companies, and the participation of tech companies such as Tesla in the industry, we believe traditional consumer electronics companies in China are likely to expand their business horizontally and benefit from the ongoing trend to develop cars with smart and electronic functions. Car electronics to replace smartphones as platform for technology advancement The global car electronics market is currently worth more than US$200bn, compared with a market of just Rmb400bn in China. Market space is set to grow even larger as cars become increasingly equipped with electronic functions. We believe that the post-smartphone era has arrived, and that car electronics is likely to replace smartphones as the new platform for the development of computing technology amid ongoing energy revolution and smart technology development. Meanwhile, the participation of tech companies in the car electronics space has made the industry supply chain more open, giving emerging car electronics companies from China new opportunities to achieve business growth. Watch list We are positive on the opportunities for Chinese firms in the car electronics space, and prefer NavInfo ( CH), Faratronic ( CH), Anjie Technology ( CH), Xingyu Automotive ( CH), Hongfa Technology ( CH), Dongshan Precision Manufacturing Page 2

3 ( CH), Deren Electronic ( CH), Sunwoda Electronic ( CH), Victory Precision Manufacturing ( CH) and Joyson Electronic ( CH). Key risks include slower-thanexpected technological advancements, and intensifying industry competition. Yuexiu REIT (405 HK, Buy): Premium investment property portfolio, attractive dividend yield; initiate at Buy First HK-listed China property REIT, seven premium properties in Guangzhou and Shanghai The company was the first Hong Kong-listed real estate investment trust (REIT) investing solely in property in mainland China. It owns and manages seven premium investment properties in Guangzhou and Shanghai, all located in the CBD. Its properties include White Horse Building, Fortune Plaza, City Development Plaza, Victory Plaza, Yuexiu Neo Metropolis, and Guangzhou International Finance Center (Guangzhou IFC) in Guangzhou, and Hongjia Tower in Shanghai, with a total rentable area of 487,324 sqm. Guangzhou IFC is the main revenue and earnings driver The 440m tower is a landmark project in Guangzhou that includes a high-end office, luxury retail mall, serviced apartments, and a Four Seasons hotel. It was completed in 2010 and has a total rentable area of 230,267 sqm. In 2015, the tower had an occupancy rate of 95%, with a monthly average rental rate of Rmb211 per sqm. Booked revenue from the project totaled Rmb1.0bn in 2015, accounting for 58% of the company s total revenue. Strong parent Yuexiu REIT is 37%-owned by Yuexiu Property (123 HK, NR), a major state-owned (Guangzhou government) residential developer. According to our discussion with Yuexiu Property s new management, Yuexiu REIT will continue to acquire projects in order to accelerate its earnings growth. Hongjia Tower in Shanghai a new growth driver This project, acquired in 2015, is located in the Pudong district of Shanghai, has a rental area of 46,026 sqm and a monthly average rental rate of Rmb243 per sqm (2015). We expect this project s occupancy rate to remain stable at 99% this year, and contribute revenue of Rmb130m. Dividend payout over 90%; attractive dividend yield of over 7% The company has distributed over 90% of its earnings as annual dividends to shareholders since its listing in Given the earnings contribution from Hongjia Tower, we expect DPS to grow by 5% in , with a dividend yield of over 7%. Undervalued asset play; initiate at Buy Given the limited supply of Grade-A office and high-end commercial properties in Guangzhou and Shanghai, we see solid appreciation potential for the company s premium investment properties going forward. In our view, the company s rational valuation should be equal to its book value, given its recurring rental revenue. The stock is trading at a 30% discount to 2016E NBV (based on our estimate), clearly undervalued, in our view. We initiate coverage with a Buy rating and a target price of HK$5.90, equal to 1.0x 2016E NBV. (Dennis Yao, Research Analyst, SFC CE No. ALK994, dennisyao@gfgroup.com.hk ) Belle (1880 HK, Underperform): Weak footwear SSS continued in 1QFY17; maintain Underperform Maintain Underperform and lower TP to HK$4.20 Management sees the weakness in the footwear segment as a structural trend (consumers changing style preferences and liking for online channel competitions) and does not expect a material improvement in the next two to three years. We expect both SSS and GM to decline in FY17 due to sluggish consumer sentiment and increased inventory levels. Although the sportswear segment is expected to see healthy growth in FY17, management sees limited upside potential for EBIT margin in the near future after it reached 8.8% (+1.7ppt) in FY16. We cut our FY17/18 net profit forecasts by 9%/13% mainly to reflect lower footwear segment profit margins. We now forecast core net profit will drop 15% in FY17. There was no positive surprise from dividend payout ratio as management prefers to keep net cash for business development. We revise down our target price from HK$4.50 to HK$4.20, still based on 8x FY17E P/E. Page 3

4 Latest SSS trend We estimate that footwear SSSG has seen a double-digit decline so far in 1QFY17, slightly better than the -16.5% in 4QFY16. Momentum in sportswear SSSG is expected to continue throughout the quarter (vs +6.2% in 4QFY16).3 Payout policy unchanged There is no change in the company s 60% payout policy, which is based on net profit rather than core net profit. Management prefers to reserve more cash for business development and to face the challenging outlook in the footwear business. Positive outlook for the sportswear segment Management expects sportswear spending to continue to grow in the coming 2-3 years as people are becoming more health consciousness, and given that people wear different sportswear and footwear for different sporting activities in first-tier cities, a trend that could spread to lower-tier cities. Footwear business reform Management sees the weakness in the footwear business as a structural trend due to changing consumer preferences (more sporty style and value for money). The company will restructure its footwear business but doesn t expect a material improvement in the business for two to three years. Reform plans: 1) Increase emphasis on brand diversity and product differentiation there could be changes in the retail price positioning of its brands; 2) Optimize supply chain; 3) Reform its online platform, Yougou, due to lower-than-expected performance. Strategic co-operation with REPLAY The company recently entered into a strategic cooperation agreement with the Italian brand REPLAY, to develop the REPLAY business in Greater China. This will help the company to enter the high-end denim segment, which is in line with its multi-brand, multi-segment strategy. The company will be very patient and focus on team building, skill acquisition, and brand building before it is ready to expand. FY16 result highlights 1) Footwear segment EBIT fell 23% YoY. Segment revenue dropped 9% led by an ~11% SSS decline (~10% volume decrease, while ASP also fell slightly) and a 3% store number decline YoY. GM narrowed from 68.5% to 67.3% mainly due to the lower margins from its winter collections. EBIT margin dropped 3.4pp to 18.7% due to operating deleverage. Inventory turnover days rose YoY from 190 to 208 days on weak SSS. 2) Sportswear segment EBIT surged 44% YoY. Segment revenue rose 16%, driven by high single-digit SSSG (50/50 led by volume/asp) and 11% store number growth YoY. GM widened 1.9pp to 44.5% on less discounting due to tight inventory. EBIT margin rose from 7.1% to 8.8% on GM expansion. (Albert Yip, CFA, Research Analyst, SFC CE No. ADT599, albertyip@gfgroup.com.hk ) I.T (999 HK, Hold): FY16 results beat; outlook remains challenging Maintain Hold Although FY16 results came in above our expectation and HK/China revenue growth was better than the industry average, we remain cautious on SSS and GM in HK due to slowing economic growth and falling property prices, as HK remained the company s largest market in terms of revenue (46% of the total). While the impressive profit growth in China and Japan partly offset weakening profitability in HK, adjusted net profit still dropped 25% YoY in FY16, according to our estimate. Looking ahead, we expect core net profit to drop 12% YoY in FY17. After fine-tuning our earnings estimates, we revise our TP from HK$2.08 to HK$2.10, based on 10.5x FY17E P/E, after rolling forward our valuation basis. Results beat FY16 net profit fell 33% to HK$210m. Excluding non-recurring exchange losses of HK$65m, core net profit fell 8% to HK$275m, which is 22% above our estimate. We note there was a one-off reversal in the onerous provision of HK$35m in FY16 (vs provision of HK$24m in FY15) in relation to new stores in China. Excluding this non-cash item, adjusted net profit was down 25% to HK$240m, 7% above our estimate, mainly due to better-than-expected GM in China. HK segment returned a loss Driven by decreasing in-bound tourist flows and bigger discounts, the company s HK segment recorded a loss of HK$73m (vs HK$142m profit in FY15). Revenue was down 4% (vs HK apparel sales -9%) on a 2% SSS decline and 5% store area decrease. GM narrowed by 3.5pp to 57.2%. Opex ratio rose 2.6pp to 59.3% mainly led by increasing rental costs. China profit +125% Revenue rose 14% on 4% SSSG and 17% growth in store area. GM improved slightly by 0.4pp to 61.4% as there were fewer promotional discount offers. Coupled with the 3.7pp decrease in opex ratio, segment profit margin expanded by 4.1pp to 8.3%. Excluding the change in onerous provision, profit margin still increased by 2.1pp to 7.1%. Page 4

5 Japan profit +46% Led by cross-border collaborative campaigns and in-bound tourist growth, revenue increased 22%, or 36% on a currency-neutral basis. Segment profit margin was up 6.3pp to 38.1%, driven by better operating efficiency but partly offset by a 1.9pp GM decline to 67.8%. (Albert Yip, CFA, Research Analyst, SFC CE No. ADT599, albertyip@gfgroup.com.hk ) Page 5

6 Rating Definitions Benchmark: Hong Kong Hang Seng Index Time horizon: 12 months Company ratings Buy Stock expected to outperform benchmark by more than 15% Accumulate Stock expected to outperform benchmark by more than 5% but not more than 15% Hold Expected stock relative performance ranges between -5% and 5% Underperform Stock expected to underperform benchmark by more than 5% Sector ratings Positive Sector expected to outperform benchmark by more than 10% Neutral Expected sector relative performance ranges between -10% and 10% Cautious Sector expected to underperform benchmark by more than 10% Analyst Certification The research analyst(s) primarily responsible for the content of this research report, in whole or in part, certifies that with respect to the company or relevant securities that the analyst(s) covered in this report: (1) all of the views expressed accurately reflect his or her personal views on the company or relevant securities mentioned herein; and (2) no part of his or her remuneration was, is, or will be, directly or indirectly, in connection with his or her specific recommendations or views expressed in this research report. 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