Yum Cha 飲茶. October 10, 2017 RESEARCH NOTES SNIPPETS

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1 Yum Cha 飲茶 INDICES Closing DoD% Hang Seng Index HSCEI Shanghai COMP Shenzhen COMP Gold BDIY Crude Oil, WTI(US$/BBL) Crude Oil, BRENT(US$/BBL) HIBOR, 3-M SHIBOR, 3-M RMB/USD DATA RELEASES DUE THIS WEEK Money Supply M2 YoY Money Supply M1 YoY Money Supply M0 YoY New Yuan Loans CNY Aggregate Financing CNY Foreign Direct Investment YoY CNY 10/13/2017 Trade Balance CNY 10/13/2017 Imports YoY CNY 10/13/2017 Exports YoY CNY 10/13/2017 Imports YoY 10/13/2017 Exports YoY RESEARCH NOTES October 10, 2017 STOCK CONNECT MONTHLY REVIEW - Southbound Stock Connect net buying resumed yesterday after the long holiday. The profit-taking we saw in August and early September seemed only a temporary phenomenon, as H-shares continued to trade at a 30% discount to A-shares. However, the buying pattern has changed. The net buying is now mainly in large domestic banks and technology names (SMIC). Among the small caps, we also see greater buying in environmental protection, IPP and pharmaceutical sectors. Buying in HSBC and AIA seemed to have slowed. Profit taking in outperforming sectors seemed to have started as money rotated out of commodity plays, auto stocks and China property stocks. TEXHONG TEXTILE [2678.HK; HK$10.58; BUY] - On average, shares of HK-listed Companies in the textile and garment supply chain performed well recently on a month-on-month basis. We believe their outperformance was due to: a) an increase in industry news flow, and b) bottom fishing due to a broad-based market rally. We share the view that Texhong Textile s (Texhong) 2017 results may not look exciting to some investors, given a softer-than-expected operating environment, but that 2017 will be a year for Texhong management to build a foundation for future growth. Texhong will become one of the largest jeanswear manufacturers in the region, and downstream expansion is one of the long-term growth drivers of the Company. We believe that expectations for Texhong have been re-set and re-rating of downstream names will boost sentiment on Texthong. We maintain our BUY rating on Texhong, with a new target price of HK$13.02 (based on 9x 2017E PER, lower than its historical average and the average of its HK-listed peers). SNIPPETS CHINESE ECONOMY - China s forex reserves rose to US$3.1 trillion by the end of September, up US$17bn from August, according to the People s Bank of China. China s forex reserves hit an 11-month high at the end of September rising for an eighth straight month. This uptrend has been reflected in the appreciation of RMB against USD by about 5% YTD. Going forward, we expect the pace of appreciation to slow down, given that the US FED will start the reduction of balance sheet soon. In addition, the moderate targeted RRR cut in Q will also relieve some pressure of currency appreciation. 10/13/2017 Trade Balance 10/16/ :30 10/16/ :30 CPI YoY PPI YoY Source: Bloomberg 1

2 October 10, 2017 Texhong Textile Group [2678.HK] Increasing attention on the sector should boost sentiment on Texhong. On average, shares of HK-listed Companies in the textile and garment supply chain performed well recently on a month-on-month basis. We believe their outperformance was due to: a) an increase in industry news flow, and b) bottom fishing due to a broad-based market rally. We also believe that geographic diversification and vertical integration are the two directions accepted by the market for textile and garment companies to gain market share going forward. We share the view that Texhong Textile s (Texhong) 2017 results may not look exciting to some investors, given a softer-than-expected operating environment, but that 2017 will be a year for Texhong management to build a foundation for future growth. Texhong will have a fully vertically integrated jeanswear operation by the end of 2017, making it one of the largest jeanswear manufacturers in the region. Downstream expansion is one of the longterm growth drivers of the Company. Despite concern about the margin trend, we still don t expect to see major volatility in Texhong s net profit going forward, given management s strategy of concentrating on niche products and downstream diversification. We also believe that expectations for Texhong have been re-set. Texhong is trading at 7.5x 2017 PER and 6.3x 2018 PER, which we don t think are excessive after the share price recovered from a post-results correction in mid-aug The re-rating of downstream names will boost sentiment on Texthong. Given its solid operations, we maintain our BUY rating on Texhong, with a new target price of HK$13.02 (based on 9x 2017E PER, lower than its historical average and the average of its HK-listed peers). Upward revision of the target price is mainly due to using a higher target PER multiple. Investment Highlights Stable operating environment. The spot cotton price in China is up 1.3% YTD to RMB15,996/ tonne and the spot cotton yarn price is up 3.7% YTD to RMB14,700/tonne. Both cotton and cotton yarn prices have underperformed other commodities in China, such as steel, paper and glass, and cotton-related manufacturers such as Texhong are laggards. Cotton and cotton yarn price movements haven t offered any upside surprise for Texhong, but we believe the market has factored in a softer-than-expected market environment, and 2017 is becoming a year of consolidation for Texhong management to build a solid foundation for future growth. A stable environment suggests that there should be no major negative surprises in Texhong s 2017 results. We also believe that expectations for Texhong were re-set after its 1H 2017 results and that the recent share price consolidation offers a re-visit opportunity for investors. Increasing attention on the sector. On average, shares of HK-listed companies in the textile and garment supply chain have performed well recently on a month-on-month basis because of more industry news flow and bottom fishing due to a broad-based market rally. We also believe that geographic diversification and vertical integration are the two directions accepted by the market, for textile and garment companies to gain market share going forward. We believe that Texhong management has adopted the right strategy through downstream expansion and acquisition to capture growth potential. Texhong acquired Nien Hsin Textile s factories in Vietnam, Cambodia and Nicaragua in Mar Texhong will have a fully vertically integrated denim jeanswear operation in 2017 with annual production of about 20-25m pairs of jeans, assuming 100% utilization. We don t believe the garment operations will drag down the Company s overall performance in The gross profit margin of garment manufacturers is expected to improve gradually to 17 to 18%. Compared with some of its peers, Texhong is moving from a capital intensive model (upstream) to less capital intensive model (downstream), which should reduce pressure on its balance sheet regarding future expansion. Thanks to its co-operation with Toray and Haulida Garment, Texhong has secured trial orders from the leading Japanese casual wear brand and will start deliveries by the end of Q If the trial orders progress smoothly, Texhong is likely to secure more business from the Japanese casual wear brand in 2018, which will have a positive impact on its jeanswear business. Key Financials (in RMB m) E 2018E Revenue 10, , , , ,451.2 Change (yoy %) Gross Profit 1, , , , ,127.0 Gross Margin % Net Profit , , ,380.2 Net Margin % EPS (Basic) Change (yoy %) (64.39) (2.84) DPS $0.103 $0.199 $0.391 $0.228 $0.450 ROE (%) Dividend Yield (%) PER (x) Mark Po, CFA Senior Analyst (852) markpo@chinastock.com.hk Wong Chi Man, CFA Head of Research (852) China Textile Sector - Upstream BUY Close: HK$10.58 (Oct ) Target Price: HK$13.02 (+23.0%) Share Price Performance (HK$) Oct16 Dec16 Feb17 Apr17 Jun17 Aug17 Turnover (RHS) Price (LHS) Sources: Bloomberg, CGIS Research Market Cap Shares Outstanding Auditor cmwong@chinastock.com.hk US$1,240m 915m Pricewaterhouse- Coopers Free Float 26.3% 52W range 3M average daily T/O Major Shareholder Sources: Bloomberg, CGIS Research (HK$ million) HK$ US$1.0m Mr Hong Tianzhu (62.2%) 0 PBR (x) FCF Yield (%) 5.54% 8.63% % 25.03% 11.69% Capex (m) (606.7) (1,106.4) (1,771.0) (671.0) (632.3) Free cash flow per share (0.8) Net Gearing (%) Sources: Company, CGIS Research estimates 2

3 Figure 1: Key Assumptions for Texhong F 2018F Turnover (RMB m) Stretchable Core-Spun Yarns 3, , , , , , , ,640.1 Other Yarns 2, , , , , , , ,251.6 Fabrics 1, , , , ,227.3 Garment ,332.3 Total 6, , , , , , , ,451.2 YoY Change (%) Stretchable Core-Spun Yarns Other Yarns (16.2) Fabrics 10.3 (14.9) (16.7) (14.5) Garment Total Gross margin (%) Stretchable Core-Spun Yarns Other Yarns Fabrics Garment Net margin (%) Cost (RMB m) Cost of Sales (6,317) (6,217) (6,645) (9,176) (8,669) (11,003) (13,449) (15,324) S,G&A (360.6) (430.2) (542.5) (679.8) (749.9) (1,043.4) (1,184.6) (1,365.4) Financial Expenses (85.7) (137.9) (128.8) (253.8) (431.5) (413.2) (305.5) (305.5) YoY Change (%) Cost of Sales (1.6) (5.5) R&D Financial Expenses 61.0 (6.6) (4.3) (26.1) 0 CAPEX (HKD m) , Net Gearing (%) Shipment (000 tonnes) Stretchable Core-Spun Yarns 114, , , , , , , ,126 Other Yarns 75,322 77,035 97, , , , , ,420 Fabrics Shipment YoY Change (%) Stretchable Core-Spun Yarns Other Yarns Fabrics 17 (6) (13) (15) ASP (RMB) Stretchable Core-Spun Yarns 32, , , , , , , ,728.2 Other Yarns 27, , , , , , , ,288.7 Fabrics ASP YoY Change (%) Stretchable Core-Spun Yarns (17.9) 0.2 (9.7) (5.8) 0.7 (0.5) 5.0 Other Yarns (18.1) 1.8 (11.6) (9.1) 3.6 (0.1) 5.0 Fabrics (5.5) (9.6) (3.9) Sources: Company, CGIS Research 3

4 Figure 2: Peer Comparison Ticker Company PE EV/EBITDA P/B ROE ROA Div yield Share Price Performance Price Market Cap 2017F 2018F 2019F 2017F 2018F 2019F F F F F 1M 3M 6M 12M YTD Lcy US$m x x x x x x x x % % % % % % % % % % % HK Listed Textile & Garment Plays Machinery 641 HK Chtc Fong'S Industries n.a. n.a. n.a. n.a. n.a. n.a. 1.7 n.a. 6.7 n.a. 4.4 n.a. 3.2 n.a Average n.a. n.a. n.a. n.a. n.a. n.a. 1.7 n.a. 6.7 n.a. 4.4 n.a. 3.2 n.a Yarn manufacturing 2678 HK Texhong Textile Group Ltd , n.a n.a HK Best Pacific International H HK Weiqiao Textile Co Ltd-H n.a. n.a. n.a. n.a. n.a. n.a. 0.2 n.a. 5.7 n.a. 3.2 n.a. 7.6 n.a Average Textile manufacturing 321 HK Texwinca Holdings Ltd HK Fountain Set Hldgs n.a. n.a. n.a. n.a. n.a. n.a. 0.4 n.a. 3.9 n.a. 2.4 n.a. 1.1 n.a HK Pacific Textiles Holdings , HK Victory City Intl Hldgs Ltd n.a. n.a. n.a. n.a. n.a. n.a. 0.1 n.a. 4.5 n.a. 1.2 n.a. 0.0 n.a HK Shenzhou International , HK Art Textile Technology Intl n.a. n.a. n.a. n.a. n.a. n.a. 1.0 n.a n.a. 7.4 n.a. 0.0 n.a HK Kam Hing International Holdi n.a. n.a. n.a. n.a. n.a. n.a. 0.3 n.a. 3.9 n.a. 1.6 n.a. 2.3 n.a Average Garment manufacturing 311 HK Luen Thai Holdings n.a. n.a. 4.3 n.a. n.a HK Regina Miracle International , HK Glorious Sun Enterprises Ltd n.a. n.a. n.a. n.a. n.a. n.a. 0.6 n.a. 3.9 n.a. 2.1 n.a. 6.3 n.a HK Top Form International Ltd n.a. n.a. n.a. n.a. n.a. n.a. 0.6 n.a. 5.8 n.a. 0.8 n.a. 6.1 n.a HK Eagle Nice (Intl) Hldgs Ltd n.a n.a HK China Ting Group Hldgs Ltd n.a. n.a. n.a. n.a. n.a. n.a. 0.4 n.a. 3.5 n.a. 2.5 n.a. 3.5 n.a HK Embry Holdings Ltd n.a. n.a. n.a. n.a. n.a. n.a. 0.6 n.a. 5.6 n.a. 3.7 n.a. 2.7 n.a HK Nameson Holdings Ltd Average A share Listed Textile Plays CH Tongkun Group Co Ltd-A , n.a n.a CH Luthai Textile Co Ltd - B , n.a CH Anhui Huamao Textile Co-A n.a. n.a. n.a. n.a. n.a. n.a. 1.1 n.a. 2.0 n.a. 0.4 n.a. n.a. n.a CH Huafu Top Dyed Melange Yar-A , n.a CH Jiangsu Lianfa Textile Co-A n.a. n.a. n.a n.a CH Fujian Funeng Co Ltd-A , n.a n.a n.a CH Bros Eastern Co Ltd-A , n.a CH Xiake Color Spinning Co Lt-A n.a. n.a. n.a. n.a. n.a. n.a n.a n.a n.a. n.a. n.a CH Henan Xinye Textile Co -A n.a Average n.a Other OEM/ODM Names 1477 TT Makalot Industrial Co Ltd n.a TT Eclat Textile Company Ltd , n.a TT Taiwan Paiho Ltd , n.a TT Feng Tay Enterprise Co Ltd , n.a HK Yue Yuen Industrial Hldg , n.a HK Stella International , KS Hansae Co Ltd n.a KS Shinsung Tongsang Co Ltd n.a. n.a. n.a. n.a. n.a. n.a. 0.6 n.a. 0.6 n.a. 1.2 n.a. n.a. n.a KS Shinwon Corp n.a. n.a. n.a. n.a. n.a. n.a. 0.6 n.a n.a n.a. n.a. n.a KS Youngone Corp , n.a JP Toray Industries Inc , n.a Average HSI Index Hang Seng Index HSCEI Index Hang Seng China Ent Indx SHSZ300 Index Csi 300 Index SHCOMP Index Shanghai Se Composite VV2 Index Cotton Futures H1DQB Index Sse-Sehk Sb D Quota Bal Si100 Index Szse 100 Return Index Sz Sources: Bloomberg, Company, CGIS Research estimates for covered stocks 4

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