Dim Sum Express. A-Share Market. Hong Kong Market. Equity Research. Jan 12, 2018

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1 Equity Research Dim Sum Express Key index performance Chg (%) EPS (%) P/E Market 1D 1M YTD 17E 18E 17E 18E HSI HSCEI MXCN SHSZ SHCOMP SZCOMP INDU SPX CCMP UKX NKY Hong Kong ADRs HK ticker Company Local (HK$) Daily (%) ADR (US$) Daily (%) 700 TENCENT ICBC CCB PETROCHINA HSBC CHINA MOBILE PING AN BANK OF CHINA SINOPEC CHINA LIFE Source: Bloomberg A-Share Market Building Materials: 2018 Sector Outlook - ST positive on cyclicals; growth stocks preferred in mid term Sector fundamentals offered quite a few positive surprises in 2017, and we maintain a positive outlook on fundamentals in We remain upbeat about investing in the sector in 2018, with opportunities likely to come from: 1) Nov 2017 to 1Q18 is a period when market expectations are likely to catch up with the fundamentals of cyclical companies; 2) subsector leaders which posted a strong run in share price in 2017 should still demonstrate steady share price growth in 2018 if they have strong fundamentals and attractive valuations; 3) we are positive on excess returns from quality growth stocks in Hong Kong Market Yuexiu Property (123 HK, Buy): Key takeaways from conference call with management cooperation with Guangzhou Metro to boost valuation and sales Dec contract sales rose 47% YoY, while GFA sold was down 14% YoY; 2017 full-year contract sales was up 35% YoY, while GFA sold was down 7% YoY. The company achieved 114% of its 2017 fullyear sales target. Management still expects contract sales to grow at a CAGR of 30% during (much higher than market expectation), with a stable gross margin of 25-30%. The company will launch the first-batch of projects through its cooperation with Guangzhou Metro in 2018, which should boost its valuation and sales, in our view. We see its current valuation as cheap given its premium land bank and improving sales growth outlook. The United Lab (3933 HK, Buy): Shares up 11% yesterday; positive FY17 profit alert likely TUL s shares rose 11% yesterday, extending its year-to-date gain to 14%. Following the turnaround in its 1H17 results, we expect the company to issue a positive profit alert for its FY17 results in March. Earnings recovery momentum may have accelerated in 2H17 given the API price recovery strengthening since end-2016, and we anticipate faster growth for recombinant insulin. The market price of 6-APA, which rebounded by 6% and 24% HoH in 1H17 and 2H17 respectively, is key to a turnaround in the company s earnings in FY17, and we see a better 2H17 for its insulin franchise. The stock is a laggard among H-share pharma peers. 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 Building Materials: 2018 Sector Outlook - ST positive on cyclicals; growth stocks preferred in mid term Investment highlights: ST positive on cyclicals, LT positive on growth stocks Sector fundamentals offered quite a few positive surprises in 2017, and we maintain a positive outlook on fundamentals in In terms of investment strategies, better-than-expected fundamentals brought investment opportunities in 2017 (mainly in subsector leaders and cyclical stocks). Based on our expectations of sector fundamentals, we remain upbeat about investing in the sector in 2018, with opportunities likely to come from three areas. Firstly, we think Nov 2017 to 1Q18 is a period when market expectations are likely to catch up with the fundamentals of cyclical companies. We like Huaxin Cement ( CH) and Anhui Conch ( CH), and also suggest watching Wannianqing Cement ( CH); we also highlight upcoming supply-side changes in the glass industry with leader Kibing Group ( CH) likely to offer opportunities. Secondly, subsector leaders which posted a strong run in share price in 2017 should still demonstrate steady share price growth in 2018 if they have strong fundamentals and attractive valuations. We like Oriental Yuhong ( CH), China Jushi ( CH), Beijing New Building Materials ( CH) and Sinoma Science & Technology ( CH). Thirdly, we are positive on excess returns from quality growth stocks in We particularly like Pacific Quartz ( CH), Monarch Sanitary Ware ( CH), SKSHU Paint ( CH), TB New Decoration Material ( CH), Changhai Composite Materials ( CH) and Triumph Science & technology ( CH), while also highlighting Zaisheng Technology ( CH). Main theme of building materials sector in 2017: fundamentals stronger than expected Firstly, the prices of cement and glass exceeded expectations. The national average cement price had risen 63% from the beginning of 2016 to Dec 10, 2017, while the national average price of glass had risen 35%, both exceeding expectations. Secondly, industry leaders such as Anhui Conch ( CH), Kibing Group ( CH), Beijing New Building Materials ( CH), Oriental Yuhong ( CH) and China Jushi ( CH) posted much stronger-than-expected earnings growth in 9M17. Short- and mid-term factors behind stronger-than-expected growth and implications for 2018 In terms of short-term factors, with infrastructure demand remaining stable, the duration of property market strength and supply contractions beat expectations. The most recent property market upcycle (29 months long from April 2015 to Aug 2017) was the longest of the three since In addition, production cuts was a key factor at play in the sector last year with a focus on rotational production halts and environmental inspections. In terms of mid-term factors, the sector showed strong resilience and industry concentration was rising with leading players remaining strong. Since 2012, the building materials sector has been in a process of deleveraging and de-capacity with a decreasing debt-to-asset ratio and LT debt to total asset ratio and decelerating growth in fixed assets + projects under construction. The turnover in fixed assets + projects under construction (i.e. capacity utilization) in 3Q17 rose to the highest level since Based on conditions in both asset-heavy and asset-light industries over the past few years, rising industry consolidation and leading players consolidating strength tend to be two phenomena that fortify each other. We expect demand to decline moderately in 2018 with downside protection and improvements to be seen on the supply side. On the demand side, the pace of decline in the property market is easing, as policymakers remain focused on maintaining stable economic growth. On the supply side, we believe strict environmental regulations will remain in place over the medium term (e.g. rotational production halts, environmental inspections and reviews, a pollutant discharge permit system, an environmental tax). We expect the sector to maintain a tight supply-demand balance in Key sector changes worth watching in 2018 Large property companies to give rise to large building material companies As the domestic property industry becomes increasingly concentrated, centralized material procurement and the popularization of home furnishing provided by developers will benefit large building material companies with strong branding, a strategic focus on business cooperation with large developers and a competitive advantage in their respective fields. Page 2

3 Advanced manufacturing: from "import substitution" to "global leadership" Chinese glass fibre companies have now overtaken overseas leaders. The high-end quartz glass industry is showing strong business conditions with Chinese players on track to achieve import substitution at a quickening pace. CNBM-Sinoma merger nearing execution, business integration to produce synergy Asset and business integration between the two groups will have several positive effects on their fundamentals, including business synergy, growth momentum brought by an effective internal competition mechanism, and reduced costs/expense ratios thanks to improved capital structure and internal business procedures. Risks A significant drop in demand, raw material prices rising sharply, and supply-side policies being relaxed. Yuexiu Property (123 HK, Buy): Key takeaways from conference call with management cooperation with Guangzhou Metro to boost valuation and sales Key takeaways from conference call with management We had a conference call with management; key takeaways below. The company s Dec contract sales revenue rose 47% YoY to Rmb5.0bn, while GFA sold was down 14% YoY to 0.2m sqm full-year contract sales revenue was up 35% YoY to Rmb41bn, while GFA sold was down 7% YoY to 2.2m sqm. The company achieved 114% of its 2017 full-year sales target of Rmb36bn. The company has formed a partnership with state-owned Guangzhou Metro Group in its property development business. Guangzhou Metro Group currently operates 231 stations in Guangzhou, including 28 interchange stations, and 390.7km of lines. Its total operational capacity is set to exceed 600km by In the next decade, Guangzhou Metro will acquire a sizable premium land bank near its new subway stations; Yuexiu Property will develop and sell a large proportion of these property projects acquired by Guangzhou Metro. Mutual parties will share the related sales revenue and profits from the projects. Management has reaffirmed its expectation that contract sales revenue will grow at a CAGR of 30% during , with a stable gross margin of 25-30%. During these years, management aims for net earnings to grow at a CAGR of about 20%, and expects to book solid earnings growth in Management expects to spend at least Rmb20bn annually on new land bank acquisitions over the next three years, with 60% of this in the Guangdong-Hong Kong-Macau Bay Area. The company has a 7.0m sqm premium land bank in Guangzhou and other cities in the Bay Area. Management expects land prices in the Bay Area to double in the next five years, given a consistent inflow of capital, skilled workers and business opportunities. Our analysis At present, the company has available-for-sale property projects with a market value of around Rmb320bn. Given the premium locations of its property projects, we forecast a CAGR in contract sales revenue of 30% over the next three years, expecting sales revenue to reach Rmb100bn in In our view, its cooperation with Guangzhou Metro will provide long-term premium land banks at a relatively cheap cost, which will boost its gross margin and sales scale in the next three years. In addition, its new management is focused on faster sales and asset turnover, which will boost its ROE in Reiterate Buy and maintain TP of HK$2.60 Management s contract sales growth target of 30% in is much higher than market consensus for annual growth of 10-20%. The company will launch the first-batch of property projects through its cooperation with Guangzhou Metro in 2018, which should boost its valuation and sales, in our view. The stock is trading at 0.5x 2017E P/B, which we see as cheap given its premium land bank and improving sales growth outlook. We maintain our Buy rating and target price of HK$2.60, representing 1.0x 2018E NBV. (Dennis Yao, Research Analyst, SFC CE No. ALK994, dennisyao@gfgroup.com.hk ) Page 3

4 The United Lab (3933 HK, Buy): Shares up 11% yesterday; positive FY17 profit alert likely What s new? TUL s shares rose 11% yesterday, extending its year-to-date gain to 14%. Following the turnaround in its 1H17 results, we expect the company to issue a positive profit alert for its FY17 results in March. Earnings recovery momentum may have accelerated in 2H17 given the API price recovery strengthening since end-2016, and we anticipate faster growth for recombinant insulin. 6-APA price reached Rmb230/kg in Dec The market price of 6-APA, which rebounded by 6% and 24% HoH in 1H17 and 2H17 respectively, is key to a turnaround in the company s earnings in FY17. In addition, the price of semisynthetic penicillin and benzylpenicillin potassium also gained 13% and 14% HoH respectively in 2H17. Better 2H17 for its insulin franchise Management previously guided for human insulin sales volume to reach 13m vials during FY17, meaning 19-20% volume growth in 2H17. More provincial coverage for insulin glargine is expected to drive sales of Rmb15-20m in FY17 vs Rmb5m in 1H17. Laggard among H-share pharma peers; maintain Buy and TP of HK$7.90 The company is trading at about a 35% discount to its peers average. We see room for it to catch up since major pharma companies are trading at an average PEG of 1.4x on FY17-19 EPS. Our target price of HK$7.90 is based on FY18 EPS on a 26.4% FY17-19 diluted EPS CAGR and 0.9x PEG. (Natalie Chiu, Research Analyst, SFC CE No. AVH029, nataliechiu@gfgroup.com.hk ) Page 4

5 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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