China / Hong Kong Industry Focus Consumer Sector (Home appliance)

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1 China / Hong Kong Industry Focus Refer to important disclosures at the end of this report DBS Group Research. Equity Strong 1H17 results expected Strong 1Q17 momentum to carry into 2Q17, especially for the air conditioner segment Price hikes and easing raw material costs during 1Q17 to bolster earnings We uphold our view that brand leaders would benefit from consumption upgrade, as evidenced by latest market share gains Maintain BUY on Qingdao Haier ( CH) and Midea ( CH) Strong 1Q17 momentum to carry into 2Q17. In 1Q17, the air conditioner segment in China continued to experience inventory re-stocking, with domestic industry volume and sales growth of 17.4% and 22.7% respectively, according to China Market Monitor. We think that such momentum will sustain in 2Q17 as summer approaches. Besides, strong export sales growth for both washing machines (+19% y-o-y) and refrigerators ( +20.3% y-o-y) had also largely mitigated some domestic weaknesses, and resulted in aggregated industry volume growth of 9.4% for washing machines, and 1.3% for refrigerators in 1Q17, according to ChinaIOL.com. In the same period, Haier/Midea's washing machine sales growth reached c.20%/30%, and refrigerator sales growth were c.17%/c.20%. Price hikes and easing raw material costs boost earnings. We understand that the overall retail prices of home appliance sales had risen by c.10-15% in 1Q17 (after pre-cny promotion), aiming to offset the surge in raw material costs that was seen in 2H16. However, we notice stabilization of key raw material prices, such as crude oil, copper and aluminium in 2017 YTD. Hence, we reiterate our view that industry players would be able to safeguard gross margins comfortably, with potential margin surprise for those that had overestimated raw material prices uptrend earlier. 17 May 2017 HSI: 25,294 ANALYST Eric YEE, CFA eric_yee@dbs.com Mavis HUI mavis_hui@dbs.com Recommendation & valuation Company Midea Group* ( Haier Electronics*@ Qingdao Haier* ( GOME*^ (493 HK) GREE Electrical ( Price (HK$) Target Price (HK$) ~ Recommendation and TP under review ^ Core for price and target price Source: Thomson Reuters, *DBS Vickers Rec FY18F PE (x) FY18F Yield (%) Mkt Cap (US$m) Buy , Hold , Buy , Hold , n.a. NR ,821 Brand leaders to benefit from consumption upgrade. We continue to think that leading brand manufacturers, such as Haier and Midea, will benefit from on-going consumption upgrade. As mentioned before, more than 60% of major, large home appliance sales have been driven by replacement demand. When replacing old appliances, big brands with better product qualities are normally preferred. Such argument is evidenced by the better-than-industry sales momentum and market share gains of market leaders. ASIAN INSIGHTS VICKERS SECURITIES sa- AH

2 Strong 1Q17 momentum to carry into 2Q17, especially for air conditioners Major home appliances volume growth by segment (inc. exports) 1Q17 We highlighted that decent home appliance sales momentum in 4Q16 should sustain into 1H17 in our note dated 4 January 2017, and we reiterate our view. In 1Q17, the air conditioner segment continued to experience inventory re-stocking, with domestic industry volume and sales growth of 17.4% and 22.7% respectively, according to China Market Monitor ( CMM, ). As a result, ndustry i leaders such as Gree, Midea and Haier recorded decent air conditioner sales growth of c.20%, c.35% and c.52% (inclusive of export sales) respectively. We are of the view that such momentum will sustain in second quarter, which is a seasonally strong quarter, as summer approaching. While industry volume and sales were declining for washing machines (-10.2%, -2.5%) and refrigerator (-9.2%, -3.7%) in 1Q17 as per CMM data, we understand that such data mostly capture sales numbers from only the major offline retailers, with emphasis on tier-1 and tier-2 cities. On the contrary, it is known that online sales of home appliances is growing rapidly, and that major replacement cycle would mostly take place in the tier-3 & tier-4 cities (include villages and rural areas), where home appliances sales were boosted by the old-for-new subsidy policies back in If we refer to ChinaIOL.com ( ), which focuses factory on output data, domestic industry volume growth for washing machine and refrigerator would be 5.5% and -7.4%, respectively. However, strong export sales growth for both segments (19% for washing machine and 20.3% for refrigerator) had largely mitigated domestic weaknesses, resulting in aggregated industry volume growth of 9.4% for washing machine, and 1.3% for refrigerator in 1Q17. In the same period, Haier/Midea's washing machine sales growth were c.20%/30%, while that for refrigerator were c.17%/c.20%. As mentioned in our earlier report, we were also not too worried about the potential property downturn in As a matter of fact, we saw decent 4M17 property sales volume growth of 13% y-o-y, which was probably driven by frontloaded sales in anticipation of further government tightening later in the year. Overall, we expect home appliance sales growth to moderate in 2H17, on the back of a higher base post rebound in 2H16, while full year performance for FY17 should remain satisfactory. 35% 30% 25% 20% 15% 10% 5% 0% 32.91% 9.40% 1.30% Air conditioner Washing machines Refrigerator Source: ChinaIOL..com., DBS Vickers Air conditioner sales growth in China - 1H15 to 1Q17 35% 30% 25% 20% 15% 10% 5% 0% -5% -10% -4.4% -6.6% -4.3% 29.7% 27.6% 22.7% 1H15 2H15 1H16 3Q 16 4Q 16 1Q17 (Note: according to industry specialists, CMM data mostly capture sales numbers from major offline retailers only, emphasizing on tier-1 and tier-2 cities) Source: China Market Monitor., DBS Vickers Page 2

3 Washing machine sales growth in China - 1H15 to 1Q17 8% 6% 4% 2% 0% -2% -4% 6.0% 3.4% -2.4% 5.1% 7.2% -2.5% 1H15 2H15 1H16 3Q 16 4Q 16 1Q17 (Note: according to industry specialists, CMM data mostly capture sales numbers from major offline retailers only, emphasizing on tier-1 and tier-2 cities) Source: China Market Monitor., DBS Vickers Refrigerator sales growth in China - 1H15 to 1Q17 Price hikes & easing raw material costs We understand that overall home appliance retail prices had increased by c.10-15% in 1Q17 (after pre-cny promotion) in order to offset the surge of raw material costs in 2H16. However, we notice stabilization of key raw material prices, such as crude oil, copper and aluminium in 2017 YTD. Hence, we reiterate our view that industry players would be able to safeguard their margins comfortably, with potential upside surprises for companies that had overestimated the raw material price uptrend earlier. It is worthwhile to note that, for companies like Midea which has significant export sales (c.45% as of FY16), the raw material costs pass-through are normally slower than domesticfocused companies such as Gree (domestic revenue >80%), attributable to monthly/quarterly price adjustment mechanism. This could partially explain Gree's higher 1Q17 core earnings growth of c.27% (vs. Midea's 22%) from moderated raw material costs, despite lower revenue growth of c.21% (vs. Midea's 31%, ex-kuka and Toshiba Lifestyle). Crude oil price trend - 2H16 to 2017 YTD USD/ barrel 60 8% 6% 4% 2% 1.2% 1.9% 3.7% 6.7% WTI crude price stabilizes at average c.usd 51/barrel YTD, with highest price of USD 54.5 recorded on 23rd Feb % 10-2% -4% -6% -8% sales decline would've been narrower if bulk and online sales are counted -3.7% -7.0% 1H15 2H15 1H16 3Q 16 4Q 16 1Q17 0 Jul-16 Aug-16 Sep-16 Oct-16 Nov-16 Dec-16 Jan-17 Feb-17 Mar-17 Apr-17 May-17 (Note: according to industry specialists, CMM data mostly capture sales numbers from major offline retailers only, emphasizing on tier-1 and tier-2 cities) Source: China Market Monitor., DBS Vickers Page 3

4 Changjiang Copper Spot Price Trend - 2H16 to 2017 YTD RMB/MT 60,000 50,000 40,000 30,000 20,000 10,000 0 Jul-16 Aug-16 Sep-16 Oct-16 Nov-16 copper price stabilizes at average c.rmb 46,800/Ton YTD, after the sharp spike in Nov-Dec 2016 Dec-16 Jan-17 Changjiang Aluminium Spot Price Trend - 2H16 to 2017 YTD RMB/MT 18,000 16,000 14,000 12,000 10,000 8,000 6,000 4,000 2,000 0 Jul-16 Aug-16 Sep-16 Oct-16 Nov-16 Dec-16 Jan-17 Feb-17 Feb-17 Mar-17 Mar-17 Apr-17 Apr-17 May-17 aluminium price stabilizes at average c.rmb 13, 587/Ton YTD, after peaking at RMB 15,380/Ton on 14th Nov 2016 May-17 Brand leaders continue to benefit from consumption upgrade We continue to think that brand leaders, such as Haier and Midea would benefit from consumption upgrade. As mentioned before, more than 60% of major large home appliances sales are driven by replacement demand. While replacing old appliances, big brands with better product qualities are normally preferred. Such argument is evidenced by the better-than-industry sales / market share gains achieved by market leaders. Within air conditioner segment, we saw Gree's market share increased by 3.09ppt to 34.41% in FY16, and further popped by 7.07ppt to 40.61% in 1Q17. As for washing machine, Little Swan (subsidiary of Midea) had the most market share gain in FY16 (+1.11ppt to 17.33%), while Haier remains the market leader as of 1Q17, with y-o-y market share gain of 1.23ppt to 28.4%. In terms of refrigerator, Haier further strengthend its market share by 0.99ppt to 28.43% in FY16, and by 2.9ppt to 30.51% in 1Q17. Aside from strengtening the leadership of mass-market brands, big players continue to nurture their premium brands in response to demand for consumption upgrade. While growing its own upmarket brand "Casarte" ( c.6% group revenue contribution), Haier is also well-poised to further lift gross margin via introduction of GE products in China. As for Midea, it has recently announced its JV partnership with Electrolux to introduce AEG, a premium German kitchen appliance brand into China, to tap the fast-growing kitchen appliance segment in China. Its acquisition of the Japanese brand Toshiba last year also stays on track to turn the loss-making unit around. Air conditioner's market share (sales value) - FY16 & 1Q17 Rank Brands FY16 Foreign brands Domestic brands 1Q % % % % Gree 34.41% % Midea 23.93% % -2.56^ 3 Haier 10.50% % Hisense 5.86% % AUX 4.23% % Mitsubishi 3.57% % Chigo 3.00% % Whirlpool 2.68% % Kelon 1.71% % Changhong 1.68% % 0.06 ^ Domestic air cond sales only accounts for c.20% of Midea's group revenue vs. Gree's >60% * Ranking based on 1Q17 market share Page 4

5 Washing machine's market share (sales value) - FY16 & 1Q17 Refrigerator's market share (sales value) - FY16 & 1Q17 Rank Brands FY16 Foreign brands Domestic brands 1Q % % % % Haier 27.61% % Little Swan 17.33% % Siemens 13.75% % Panasonic 7.79% % Sanyo 6.29% % Midea 5.66% % Bosch 3.31% % Samsung 4.63% % LG 3.01% % Hisense 1.74% % 0.07 * Ranking based on 1Q17 market share Brands Foreign brands Domestic brands FY16 1Q % % % % Haier 28.43% % Siemens 12.74% % Midea 10.47% % Ronshen 10.33% % Meiling 8.70% % Samsung 5.89% % Bosch 3.08% % Panasonic 3.34% % Hisense 4.15% % Xinfei 2.10% % * Ranking based on 1Q17 market share 1Q17 - Volume and sales growth of major home appliances Industry Haier Midea Gree Air conditioner Sales: +22.7% Volume: +17.4% Sales: +52% Volume: + c.45% Sales: + c.35% Volume: % Sales: + c.20% Volume: % ASP: +5.3% ASP: mid SD gth ASP: mid SD gth ASP: +1-3% Washing machine Sales: -2.5% Sales: +20% Sales: + c.35% Volume: -10.2% ASP: +7.7% Volume: +5-6% ASP: % Volume: % ASP: + c.5% Refrigerator Sales: -3.7% Sales: +17% Sales: + c.20% Volume: -9.2% Volume: +6% Volume: + c.15% ASP: +5.5% ASP: +11% ASP: + c.5% * ASP growth is referring to that of ex-factory,overall retail sales price growth was higher in 1Q17 Source: China Market Monitor, Company, DBS Vickers Page 5

6 Peers valuation Target Mkt 17F 18F Currency Price Price Recom Cap F iscal PE P/Sales Yield P/Bk ROE PE P/Sales Yield P/Bk ROE Company Name Code Local$ Local$ US$m Yr x x % x % x x % x % Chigo Holding 449 HK HKD n.a. NR 110 Dec n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. Haier Electronics*@ 1169 HK HKD HOLD 6,864 Dec Hisense Kelon 921 HK HKD n.a. NR 1,974 Dec Skyworth Digital# 751 HK HKD 4.39 n.a. NR 1,715 Mar TCL Multimedia^ 1070 HK HKD 3.74 n.a. NR 835 Dec n.a n.a Welling Holding 382 HK HKD 1.75 n.a. NR 644 Dec n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. HK-listed stocks av erage Midea Group* CH CNY BUY 32,307 Dec GREE Electrical CH CNY n.a. NR 28,821 Dec Hisense Elec CH CNY n.a. NR 2,681 Dec Konka Group CH CNY 4.44 n.a. NR 1,556 Dec n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. Qingdao Haier* CH CNY BUY 11,652 Dec Wuxi Little Swan CH CNY n.a. NR 4,233 Dec Hisense Kelon CH CNY n.a. NR 2,775 Dec Sichuan Changhong 'A' CH CNY 3.5 n.a. NR 2,351 Dec n.a TCL Corp CH CNY 3.51 n.a. NR 6,239 Dec Hangzhou Robam 'A' CH CNY 40.9 n.a. NR 5,649 Dec J oyoung 'A' CH CNY n.a. NR 2,045 Dec Huizhou China Eagle 'A' CH CNY n.a. NR 608 Dec n.a. n.a. n.a. n.a. n.a. n.a. 0.0 n.a. n.a. n.a. Vatti 'A' CH CNY 37 n.a. NR 1,958 Dec ZJ Meida Industrial 'A' CH CNY n.a. NR 1,440 Dec GD Xinbao Elect. 'A' CH CNY n.a. NR 1,757 Dec ZJ Aishida Elec. 'A' CH CNY n.a. NR 662 Dec SH Flyco Elect. Appc.'A' CH CNY n.a. NR 3,287 Dec Zhejiang Supor 'A' CH CNY n.a. NR 4,376 Dec ZJ Haers V acuum Ctrs.'A' CH CNY n.a. NR 649 Dec Kingclean Elec.'A' CH CNY n.a. NR 3,203 Dec A share stocks av erage Global Peers Philips Eltn.Koninklijke PHIA NA EUR n.a. NR 33,145 Dec De Longhi DLG IM EUR n.a. NR 4,712 Dec Electrolux 'B' ELUXB SS SEK n.a. NR 9,751 Dec n.a Global Peers av erage # FY17: FY18; FY18: FY19 ^ Core Rating under review Source: Thomson Reuters, *DBS Vickers Page 6

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