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1 Texhong Textile Group [2678.HK] Back on growth track; time to revisit. Re-Initiate with BUY Texhong Textile Group (Texhong) is one of the largest yarn manufacturers in China, with over a 30% share of the core-spun yarn sub-market. Assuming a stable cost environment, we believe Texhong will continue to deliver solid growth in the next few years on the back of its capacity-expansion plan and its cost advantage over competitors in the domestic Chinese market. We also anticipate a strong rebound in net profit from a low base in 2015 by 98.4% YoY in 2016 and 20.2% YoY in 2017 as a result of wider margins and capacity expansion in Vietnam. Texhong is now trading at 7.0x 2016 PER. Its share price retreated after its 1H 2016 results announcement in mid-aug 2016 which, in our view, was partly due to concern about movement in cotton prices. However, we believe that the share price correction is overdone, given recent stabilization of China s cotton prices and the Company s solid operations. With its undemanding valuation, we resume coverage on Texhong with a Buy rating and a target price of HK$13.79 (based on 9x 2016E PER, lower than its historical average and the average of its HK-listed peers of 13.3x). Capacity expansion drives volume growth. As at the end of 2015, Texhong Textile (Texhong) had total production capacity of about 2.20m spindles and 572 looms. Based on its expansion plan (its Galaxy facilities in northern Vietnam and its Xinjiang yarn project), the Company s total yarn production capacity will increase by 28% YoY to 2.81m spindles by end-2016, with 1.57m in China and 1.24m in Vietnam. After years of falling ASPs, we think Texhong will start to see a recovery in ASP given the recent rebound in cotton prices. The Company s change in product mix has also helped keep its ASP resilient in recent years. We expect Texhong to report a 2.2% and 5.2% YoY increase in ASP in 2016F and 2017F, respectively. Downstream expansion to capture growth opportunities. Texhong s downstream vertical integration in Vietnam is on track, and the Company will have fully functioning grey fabric production, garment production and dying facilities in Vietnam by early Management believes that the kitting and dyeing, and garment manufacturing businesses will contribute to the bottom line in The new businesses could be a potential growth driver for Texhong in the medium to long term. The downstream operations would contribute about RMB1bn in sales annually in Developing into a more integrated textile supplier will make it easier for Texhong to absorb fluctuations in raw material costs and to improve blended profitability through savings in packaging and transportation. Outperforming its peers because of a better product mix. Texhong is likely to register healthy growth, driven by capacity expansion and production mix optimization. Its gross margin is likely to remain stable going forward, given management s efforts in product optimization. The Company s product mix will skew towards synthetic products in the medium to long term as a means of product diversification. Product development and optimization will help improve its margins and reduce its reliance on cotton-based products. We expect Texhong s gross margin to remain over 18% going forward. Risks: (a) volatile cotton prices, (b) weak downstream demand, and (c) slower-thanexpected new capacity expansion. Key Financials (in RMB m) E 2017E Revenue 8, , , , ,378.5 Change (yoy %) Gross Profit 1, , , , ,817.5 Gross Margin % Net Profit 1, , ,404.2 Net Margin % EPS (Basic) Change (yoy %) (64.39) DPS $0.371 $0.103 $0.199 $0.395 $0.475 China Textile Sector - Mark Po, CFA Senior Analyst (852) Upstream BUY Close: HK$10.76 (Sep 22, 2016) Target Price: HK$13.79 (+28.2%) Share Price Performance (HK$) Market Cap Shares Outstanding Auditor markpo@chinastock.com.hk US$1,227m 885m Pricewaterhouse- Coopers Free Float 25% 52W range September 23, Sep15 Nov15 Jan16 Mar16 May16 Jul16 Turnover (RHS) Price (LHS) Sources: Bloomberg, CGIS Research 3M average daily T/O Major Shareholder (HK$ million) HK$ US$1.7m Mr Hong Tianzhu (63.8%) 0 ROE (%) Dividend Yield (%) PER (x) PBR (x) FCF Yield (%) -3.01% 5.68% 16.13% -5.43% 19.09% Capex (m) (967.7) (606.7) (650.0) (1,600.0) (400.0) Free cash flow per share (0.1) (0.2) 2.2 Net Gearing (%) Sources: Company, CGIS Research estimates 1

2 1. Capacity and downstream expansion to drive growth Capacity expansion to drive growth The Company is gaining market share despite a challenging environment Knitted products are growing fast Downstream expansion will reduce volatility As of the end of 2015, Texhong had total production capacity of about 2.20m spindles and 572 looms. Based on its expansion plan (its Galaxy facilities in northern Vietnam and its Xinjiang yarn project), the Company s total yarn production capacity will increase by 28% YoY to 2.81m spindles by the end of 2016, with 1.57m in China and 1.24m in Vietnam. In 2H 2016, Texhong plans to invest about RMB30m to acquire and upgrade a small yarn factory in Guangdong Province. The factory will be upgraded to a planned capacity of 50,000 spindles to handle orders requiring prompt delivery. Texhong s turnover growth in 1H 2016 was driven mainly by an increase in sales volume of 20.9% YoY to a record high of over 262,000 tonnes. The increase in sales volume was due partly to the contribution from two new plants, with additional capacity of approximately 710,000 spindles. The new capacity achieved a utilization rate of only about 65% in 1H 2016; there is room for further improvement in the utilization rate in 2H According to data from the National Bureau of Statistics, from Jan to Jun 2016, textile enterprises with sizeable capacity realized aggregate revenue of RMB1,874.4bn from principal activities, representing YoY growth of 4.5%. The total profit of textile enterprises with sizeable capacity amounted to RMB94.4bn in 1H 2016, representing YoY growth of 7.5%. These industry figures imply that Texhong is gaining market share and benefitting from industry consolidation in the challenging macro environment. The Company s new order inflow in Jul 2016 reached a record high on a monthly basis, which supports management s positive view despite the macro uncertainties. Based on its estimated production capacity, Texhong s targeted sales volume for 2016 and 2017 will be about 600,000 tonnes (up from management guidance of 550,000 tonnes early this year) and 690,000 tonnes of yarn, respectively. Texhong s sales volume target implies YoY growth of 26% in 2016 and 15% in Texhong s sales volume growth is supported by better-than-expected operating performance and a strong order book in 1H 2016, and for 2017 (a) an additional 50,000 spindles planned for its Guangdong facilities, and (b) improvement in operating efficiency through in-house technological upgrades. We believe that there is still plenty of room for growth, especially in the knitted yarn and fabric segment. After three years of development, knitted yarn and fabric accounted for 8% of the Texhong s total turnover in 1H HK-listed textile names, such as Shenzhou, Pacific Textile and Texwinca, are clients of Texhong s knitted yarn and fabric division. The Xinjiang production plant is designed for the development of the knitted yarn and fabric business, which offers higher profitability, taking into account favourable policies. Texhong s Xinjiang project is operating smoothly so far, and management sees no major risks in receiving the various subsidies promised by the Chinese government. Texhong will continue to pursue its corporate strategy of optimizing its existing product mix, developing new products that cater for market trends and demand, and fully leveraging the cost advantages of its production facilities in Vietnam to further improve its financial performance. Texhong has been actively looking to expand downstream into fabric, dyeing and garment manufacturing to form a fully vertically integrated production platform and reduce the volatility in profitability due to fluctuations in raw material prices. The Company kicked-off its downstream expansion (a grey fabric plant, a dyeing factory and a garment factory) in Vietnam in late The downstream factories in Vietnam are located in Texhong Industrial Park, the Hai Ha District, and Quang Ninh Province. 2

3 Downstream business to make a more meaningful contribution in 2018 Texhong s downstream business remains small, accounting for less than 2% of sales in 1H16. Texhong management remains upbeat on the future development of its downstream operations; it expects them to make a top-line contribution in If there is no major distortion, the downstream operations in Vietnam are likely to reach full utilization in Q or early If they are running at full capacity, the downstream operations would contribute about RMB1bn in sales annually, which would account for 5-6% of Texhong s annual sales. In terms of profitability, we share the view that the downstream operations will achieve gross profit margin higher than 18% by using in-house yarn. Figure 1: Texhong s Yarn Production Capacity m spindles F 2017F China Vietnam Sources: Bloomberg, CGIS Research Figure 2: Texhong s Downstream Expansion Plan Products Annual capacity Location Progress Grey Fabric 600 meters Quang Ninh Province, Vietnam Installation of equipment to be completed by end of 2016 Woven Dyeing 40m meters Quang Ninh Province, Vietnam Installation of equipment to be completed by end of 2016 Garment 7m pieces Quang Ninh Province, Vietnam Installation of equipment to be completed by end of 2016 Sources: Bloomberg, CGIS Research 3

4 2. Stabilizing cotton prices a positive factor New cotton reserve policies to clear up market concerns The Chinese government launched its cotton reserve policy in 2011 after a sharp fall in cotton prices in The Chinese government purchased cotton direct from farmers to protect their profits. The natural procurement price was RMB19,800/tonne in 2011 and moved up to RMB20,400/tonne in 2012 and The Chinese government's purchase price was higher than the international price. The Chinese government also sets import and export quotas for cotton spinners nationwide, including Weiqiao Textile (Weiqiao) and Texhong, to encourage textile factories to purchase expensive domestic cotton at the guided price set by the government. Because of higher cotton prices in China vs. international prices, local yarn makers suffered in Weiqiao s profitability fell substantially in For example, its gross profit margin dropped from 16% in FY10 to 1.8% in The Chinese government revised its policy on the cotton industry in 2014, rolling out a direct subsidy programme for domestic farmers, given the huge cotton reserve held by government and distortions in the textile and garment industry. The NDRC announced the new cotton reserve policy earlier this year, removing fears of irrational dumping of the national cotton reserve by the Chinese government and supporting cotton prices. The stabilization of cotton prices is positive for the textile and garment industry in China. The Chinese government started auctioning the state cotton reserves on 2 May Cotton reserve offloading is on track As at 20 Sept 2016, the Chinese government had offered a total of about 2.72m tonnes of cotton for auction in 2016 and 2.38m tonnes were sold, representing a purchase rate of 87.5%. These cotton reserves were sold at a price range of RMB9,730-16,490/tonne. The latest average transaction price of RMB14,954 is at a premium compared to the China Cotton Index 328 (CC Index 328) price of RMB14,212/tonne. Given the current run rate, China s state cotton reserve is expected to fall substantially to below 10m tonnes level on completion of the auction, compared with the level of 13m tonnes at end China cotton and cotton yarn prices should stabilize going forward Texhong s margin should improve in 2H 2016 After a strong rebound in Jul 2016, China s domestic cotton prices retreated from the recent peak in late Jul. The year to date (YTD) average cotton price dropped 2.5% YoY, narrowing from an 8.2% YoY decline in 1H The retreat in cotton prices since late Jul 2016, in our view, is due partly to the fading out of speculative activities. We see local cotton prices stabilizing at the current level, which may reflect actual demand from downstream users. China cotton prices are expected to stabilize at the current level as late Sept is the start of the peak season for the yarn manufacturing segment. China s cotton yarn prices, in line with cotton prices, also retreated recently. The YTD average of the China cotton yarn index was down 5.4% YoY, narrowing from an 8.2% YoY decline in 1H We believe that yarn prices are following the cotton price trend. Since we see stabilization in cotton prices, cotton yarn prices should follow the same path. Since the major cost component of Texhong products is cotton, the increase in cotton prices in Jul vs. 1H 2016 is expected to have a positive impact on Texhong s profitability in 2H 2016, as the Company holds an effective 5-6 months cotton inventory. There has been a softening in cotton and cotton yarn prices from the recent peak late Jul. However, Texhong management also shares the view that downside to cotton and cotton yarn prices is very limited in the rest of 2016, given the demand and supply imbalance. 4

5 Figure 3: China Cotton Index 328 RMB/tonne 16, ,000.0 China cotton prices rebounded recently after retreat in Aug , , , , , , /15 04/15 07/15 10/15 01/16 04/16 07/16 Sources: WIND, CGIS Research Figure 4: China Cotton Yarn Price Index RMB/tonne 24, , ,000.0 China cotton yarn prices should stabilize at current level 21, , , , /15 04/15 07/15 10/15 01/16 04/16 07/16 Sources: WIND, CGIS Research 5

6 3) Higher profitability despite the strong cyclical nature of the industry Texhong achieves higher than average profitability. Comparing the historical returns of Texhong to its peers, such as Weiqiao Textile [2698.HK], we note that Texhong has earned consistently higher margins and ROE in relative terms. Core spun yarn, which accounted for 56% of the Company s total revenue in 2016, offers better strength, greater stretch and longer durability than conventional yarn. Because of the higher complexity in the production process compared with normal yarns, such niche products usually command a higher selling price and generate correspondingly higher gross margins. The Company estimates that it has a share of over 30% of the core spun yarn market in China. Despite weak cotton prices in 2015 and 1H 2016, Texhong maintained its gross margin above 18%, which shows that the Company s strategy of product optimization is taking effect. Texhong also posted the highest profitability among its global peers, reflecting strong cost controls, quality improvement and distribution efficiency. From a long-term perspective, although the industry goes through strong short cycles, Texhong has maintained strong profitability. Its gross margin and ROE have been higher than the industry average for 10 years, so we believe Texhong is one of the best choices in the textile and garment manufacturing sector with regard to long-term growth potential. Figure 5: Gross Margin Texhong vs. the Average of its Listed Peers (%) 30 Average Gross Margin of Peers Texhong Gross Margin Sources: Bloomberg, CGIS Research 6

7 Figure 6: Net Margin Texhong vs. the Average of its Listed Peers (%) 20 Average Net Margin of Peers Texhong Net Margin 15 Higher than average net margins among listed peers since Sources: Bloomberg, Company Data, CGIS Research Figure 7: ROE Texhong vs. the Average of its Listed Peers Achieved higher than industry average ROE (%) Average ROE of Peers Texhong ROE Sources: Bloomberg, Company Data, CGIS Research 7

8 Figure 8: Key Assumptions for Texhong F 2017F Turnover (RMB m) Stretchable Core-Spun Yarns 3, , , , , , ,767.0 Other Yarns 2, , , , , , ,774.8 Fabrics 1, , , Total 6, , , , , , ,378.5 YoY Change (%) Stretchable Core-Spun Yarns Other Yarns (16.2) Fabrics 10.3 (14.9) (16.7) (14.5) Total Gross margin (%) Stretchable Core-Spun Yarns Other Yarns Fabrics Net margin (%) Cost (RMB m) Cost of Sales (6,317) (6,217) (6,645) (9,176) (8,669) (10,466) (12,561) S,G&A (360.6) (430.2) (542.5) (679.8) (749.9) (936.0) (1,076.7) Financial Expenses (85.7) (137.9) (128.8) (253.8) (431.5) (265.7) (201.2) YoY Change (%) Cost of Sales (1.6) (5.5) R&D Financial Expenses 61.0 (6.6) (38.4) (24.3) CAPEX (HKD m) , Net Gearing (%) Shipment (000 tonnes) Stretchable Core-Spun Yarns 114, , , , , , ,870 Other Yarns 75,322 77,035 97, , , , ,423 Fabrics Shipment YoY Change (%) Stretchable Core-Spun Yarns Other Yarns Fabrics 17 (6) (13) (15) 5 7 ASP (RMB) Stretchable Core-Spun Yarns 32, , , , , , ,294.2 Other Yarns 27, , , , , , ,614.0 Fabrics ASP YoY Change (%) Stretchable Core-Spun Yarns (17.9) 0.2 (9.7) (5.8) Other Yarns (18.1) 1.8 (11.6) (9.1) Fabrics (5.5) (9.6) (3.9) 0.4 (0.2) 3.4 Sources: Company, CGIS Research 8

9 Earnings forecast Solid volume growth We expect Texhong s sales volume to rise by 21.9% and 12.7 % in 2016F and 2017F, respectively, supported by capacity expansion and acquisitions. The growth in capacity will come mainly from Texhong s Vietnam expansion and the company s new Xinjiang production facilities. Texhong reported strong volume growth in 1H 2016; we expect the growth momentum to continue in 2H and 2017, given the Company s increasing market share. ASP to reverse downward trend Gross margin expected to remain at over 18% RMB deprecation no longer a major concern After years of falling ASPs, we think Texhong will start to see a recovery in ASP, given the recent rebound in cotton prices. Although cotton and yarn ASPs are not perfectly correlated, the general trend of yarn prices following cotton prices should hold. The Company s change in product mix has also helped keep its ASP stable in recent years. We expect Texhong to report a 2.2% and 5.2% YoY increase in ASP in 2016F and 2017F, respectively. The price of its key raw material, cotton, has hovered around RMB14,000 per tonne in recent months, in line with transaction price of the cotton reserves. Thus, Texhong s inventory cost has remained low, relative to recently rising cotton prices. As we expect the Company s ASP to rise given its low inventory cost, the FY16F gross margin should be strong at over 19%, with particular strength in 2H16. Texhong s gross margin improved 1.2ppt YoY, from 17.0% in 1H 2015 to 18.2% in 1H 2016, which is comparable to the 18.9% achieved in 2H Management reiterated that the margin improvement was due to product mix optimization and new product development. We share the view that Texhong s product mix optimization and new product development is an ongoing process, which will continue to have positive impact on the Company s gross margin going forward. We believe that Texhong s gross margin will remain at over 18% in the future, given stabilizing cotton prices. Texhong s 2015 financial results were distorted by RMB depreciation as the Company booked RMB300m in forex losses related to its USD bonds and payables in FY15. Texhong has hedged its USD exposure, so the negative impact of RMB depreciation will be reduced in Texhong has been reducing its exposure to USDdenominated debt, cutting it from 99% at end-1h 2015 to 60% at end-aug We factored in a loss of RMB70m from RMB depreciation in After its major expansion plan in 2015 and 2016, we expect Texhong s CAPEX to peak in CAPEX will drop from RMB1.6bn in 2016 to about RMB400m in We expect Texhong to maintain its payout, with an estimated dividend yield of over 4% in

10 Figure 9: Earnings Projections Income Statement (RMBm) FY2013 FY2014 FY2015 FY2016F FY2017F Cash Flow Statement (RMBm) FY2013 FY2014 FY2015 FY2016F FY2017F Revenue 8,229 10,470 10,575 13,016 15,378 Net Income 1, ,397 1,679 Growth yoy% 12.1% 27.2% 1.0% 23.1% 18.1% Depreciation & Amort Gross Profit 1,583 1,294 1,906 2,550 2,818 Change in Working Capital (699) (525) 139 Growth yoy% 40.9% (18.3%) 47.3% 33.8% 10.5% Cash from Ops ,119 2,067 1,435 2,381 Selling General & Admin Exp. (542) (680) (750) (936) (1,077) Capital Expenditure (936) (607) (650) (1,600) (400) Others Operating Expenses/Items Sale of Property, Plant, and Equipment Operating Income 1, ,156 1,614 1,741 Change in Investing Acitivities (6) Growth yoy% n.a. (41.0%) 88.2% 39.6% 7.8% Cash from Investing (942) (585) (650) (1,600) (400) Interest Expense (128.8) (253.8) (431.5) (265.7) (201.2) Net increase in bank borrowings 1, ,181 (400) (700) Interest and Invest. Income Income/(Loss) from Affiliates Issuance of Common Stock Other Non-Operating Inc. (Exp.) (30.1) (86.9) (70.0) 0 Common Dividends Paid (326) (232) (176) (350) (420) Impairment of Goodwill Special Dividend Paid Gain (Loss) On Sale Of Invest Other Financing Activities (244) (326) (566) (481) (461) Gain (Loss) On Sale Of Assets Cash from Financing 526 (341) 439 (1,231) (1,581) Income Tax Expense (114) (48) (147) (229) (275) Minority Int. in Earnings Net Change in Cash ,855 (1,395) 400 Net Income Growth yoy% 131.5% (72.8%) 92.0% 98.4% 20.2% Balance Sheet (RMBm) FY2013 FY2014 FY2015 FY2016F FY2017F Ratios FY2013 FY2014 FY2015 FY2016F FY2017F ASSETS Profitability Cash And Equivalents 946 1,138 2,188 1,802 2,202 Return on Assets % 15.5% 3.4% 5.7% 10.2% 11.5% Receivables 1,315 1,610 1,485 1,822 2,153 Return on Capital % 22.6% 8.0% 12.1% 15.3% 16.2% Inventory 2,280 1,636 1,893 1,822 2,768 Return on Equity % 37.9% 9.0% 16.0% 27.0% 26.9% Other Current Assets Total Current Assets 4,555 4,385 5,627 5,507 7,184 Margin Analysis Net Property, Plant & Equipment 3,804 4,158 4,998 5,453 5,296 Gross Margin % 19.2% 12.4% 18.0% 19.6% 18.3% Long-term Investments SG&A Margin % 6.6% 6.5% 7.1% 7.2% 7.0% Other Intangibles EBIT Margin % 12.6% 5.9% 10.9% 12.4% 11.3% Deferred Tax Assets, LT EBITDA Margin % 15.9% 9.7% 14.8% 16.7% 15.0% Other Long-Term Assets Net Income Margin % 13.7% 2.9% 5.6% 9.0% 9.1% Goodwill Accounts Receivable Long-Term Asset Turnover Total Long Term Assets 4,390 4,754 5,774 5,949 5,792 Total Asset Turnover 0.9x 1.1x 0.9x 1.1x 1.2x Total Assets 8,944 9,139 11,401 11,456 12,976 Fixed Asset Turnover 1.9x 2.2x 1.8x 2.2x 2.7x Accounts Receivable Turnover 7.0x 7.2x 6.8x 7.9x 7.7x LIABILITIES & EQUITY Inventory Turnover 3.6x 6.4x 5.6x 7.1x 5.6x Accounts Payable 2,405 2,107 2,913 2,407 3,643 Accrued Exp Liquidity Short-term Borrowings ,671 1,540 1,340 Current Ratio 1.7x 1.8x 1.2x 1.4x 1.4x Curr. Port. of LT Debt Quick Ratio 0.8x 1.1x 0.8x 0.9x 0.9x Curr. Income Taxes Payable Avg. Days Sales Out Unearned Revenue, Current Avg. Days Inventory Out Other Current Liabilities Avg. Days Payable Out Total Current Liabilities 2,686 2,491 4,625 3,988 5,024 Avg. Cash Conversion Cycle Long-Term Debt 2,802 3,117 2,741 2,614 2,114 Net Debt to Equity 61% 67% 57% 50% 22% Def. Tax Liability, Non-Curr Other Non-Current Liabilities Growth Over Prior Year Total Liabilities 5,564 5,684 7,463 6,699 7,235 Total Revenue 12.1% 27.2% 1.0% 23.1% 18.1% Common Stock Net Income 131.5% (72.8%) 92.0% 98.4% 20.2% Additional Paid In Capital Payout Ratio % 29.2% 29.7% 29.9% 29.9% 29.9% Retained Earnings 3,191 3,265 3,722 4,541 5,525 Treasury Stock Comprehensive Inc. and Other Minority Interest Total Equity 3,380 3,455 3,939 4,757 5,741 Total Liabilities And Equity 8,944 9,139 11,401 11,457 12,976 Sources: Company, CGIS Research 10

11 Oct-09 Feb-10 May-10 Aug-10 Nov-10 Mar-11 Jun-11 Sep-11 Dec-11 Apr-12 Jul-12 Oct-12 Jan-13 May-13 Aug-13 Nov-13 Mar-14 Jun-14 Sep-14 Dec-14 Apr-15 Jul-15 Oct-15 Jan-16 May-16 Aug-16 Valuation Texhong is one of the largest yarn manufacturers in China, with more than a 30% share of the core-spun yarn sub-market. Texhong is trading at 7.0x 2016E PER, which is a discount to the average of its HK-listed and A-share listed peers. Trading at a discount to its HK -listed and A-share listed peers We maintain the view that Texhong is a solid industrial name with a growth story. It is trading at 7.0x 2016E PER and 5.8x 2017E PER, which we think is undervalued compared to its HK-listed peers (13.3x and 11.0x on average). We are re-initiating our coverage of Texhong with a BUY rating and a target price of HK$13.79, based on 9x 2016E PER (lower than both its peer average of 13.3x and its historical average). Share price catalysts include (a) details on the Company s expansion plan for 2018 and beyond, (b) its 2016 results announcement, and (c) news flow on its downstream expansion. Figure 10: Texhong PER band HKD x 19x 13x 8x 3x Sources: Bloomberg, CGIS Research 11

12 Figure 11: Peer Comparison Ticker Company PE EV/EBITDA P/B ROE ROA Div yield Price Market Cap 2016F 2017F 2018F 2016F 2017F 2018F F F F F 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. 1.6 n.a n.a. 5.4 n.a. 3.1 n.a. Average n.a. n.a. n.a. n.a. n.a. n.a. 1.6 n.a n.a. 5.4 n.a. 3.1 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 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. n.a. n.a. 2.6 n.a. n.a. n.a HK Pacific Textiles Holdings , HK Victory City Intl Hldgs Ltd n.a. n.a. n.a. n.a. n.a. n.a. 0.2 n.a. 7.7 n.a. 2.3 n.a n.a HK Shenzhou International , HK Art Textile Technology Intl n.a. n.a. n.a. n.a. n.a. n.a. 1.3 n.a n.a n.a. 0.0 n.a HK Kam Hing International Holdi n.a. n.a. n.a. n.a. n.a. n.a. 0.2 n.a. 2.9 n.a. 1.0 n.a. 2.7 n.a. Average Garment manufacturing 311 HK Luen Thai Holdings 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. 4.2 n.a. 2.3 n.a. 6.6 n.a. 333 HK Top Form International Ltd n.a. n.a. n.a. n.a. n.a. n.a. 0.7 n.a. 6.1 n.a. 4.4 n.a. 5.6 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 n.a. 0.3 n.a. 0.0 n.a HK Embry Holdings Ltd n.a. n.a. n.a. n.a. n.a. n.a. 0.9 n.a n.a. 5.7 n.a. 3.1 n.a. 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. 1.2 n.a. 1.8 n.a. 0.3 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 CH Bros Eastern Co Ltd-A , n.a. n.a. n.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. n.a CH Henan Xinye Textile Co -A n.a. 0.7 Average n.a. 2.4 Other OEM/ODM Names 1477 TT Makalot Industrial Co Ltd n.a TT Eclat Textile Company 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. 0.9 n.a. 3.3 n.a. 0.2 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. 3.6 n.a n.a. n.a. n.a KS Youngone Corp , n.a. 0.5 Average Sources: Bloomberg, Company, CGIS Research estimates for covered stocks 12

13 Major risk factors Downside risk factors to our forecast: (a) A collapse in domestic cotton prices following the removal of the government s support policy or irrational offloading of cotton reserves by the Chinese government; this would suppress the domestic selling price of yarn and would damage profitability. (b) Slower-than-expected utilization ramp-up at new plants and weaker -than-expected performance of its downstream operations in Vietnam. (c) The failure of the company to achieve a high sales/production ratio after its aggressive expansion plan, presenting downside risk to our sales assumptions. 13

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Explanation on Equity Ratings BUY SELL HOLD : : share price will increase by >20% within 12 months in absolute terms share price will decrease by >20% within 12 months in absolute terms : no clear catalyst, and downgraded from BUY pending clearer signal to reinstate BUY or further downgrade to outright SELL Copyright Reserved No part of this material may be reproduced or redistributed without the prior written consent of China Galaxy International Securities (Hong Kong) Co., Limited. China Galaxy International Securities (Hong Kong) Co. Limited, CE No.AXM459 Room , 35/F, Cosco Tower, Grand Millennium Plaza, 183 Queen s Road Central, Sheung Wan, Hong Kong. General line: