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China Consumer Discretionary 20 July 2016 Guangzhou Automobile Group (2238 HK) Guangzhou Automobile Group Target price: HKD8.50 (from HKD8.30) Share price (19 Jul): HKD10.38 | Up/downside: -18.1% Downgrading: time to take profit Kelvin Lau (852) 2848 4467 Unlike the market, we see lower 2H16 sales growth from Japan JVs [email protected] Gross margin for its popular GS4 likely to come under pressure in 2H16 Brian Lam (852) 2532 4341 Downgrading our rating on the stock to Sell (5) from Hold (3) [email protected] What's new: We are downgrading our rating on Guangzhou Automobile Forecast revisions (%) (GAC) by 2 notches to Sell (5) and revising our earnings forecasts for Year to 31 Dec 16E 17E 18E 2016-17. We are doing this as we believe the current share price has Revenue change 1.7 7.1 7.0 Net profit change 0.7 1.8 3.4 factored in the market’s expectations of strong earnings over this period but Core EPS (FD) change 0.7 1.8 3.4 fails to reflect the impact of a likely slowdown (vs. 1H16) in GAC’s Japan Source: Daiwa forecasts JV sales volume growth and margin erosion for GAC Motor’s main growth driver, its popular GS4 SUV, in 2H16. Share price performance (HKD) (%) What's the impact: Japan JV sales volume growth likely to slow in 11 195 2H16E. Unlike other analysts, we assume GAC Toyota’s sales volume 9 166 growth will be limited by its capacity constraints until 2018, when it adds 7 138 6 109 220,000 units, and that it is also facing the impact of a high base effect. 4 80 Similarly, we expect this high base to have a negative effect on GAC Jul-15 Oct-15 Jan-16 Apr-16 Honda, slowing its sales volume growth for 2H16 (-0.1% YoY), vs. a 2% Gzhou Auto (LHS) Relative to HSI (RHS) YoY actual decline for 2Q16 and 27% YoY growth for 1Q16. 12-month range 4.88-10.42 GAC Motor also facing high base and slowing margin improvement. Market cap (USDbn) 8.61 GAC Motor’s sales volume growth is now mostly driven by its Trumpchi 3m avg daily turnover (USDm) 15.41 Shares outstanding (m) 6,435 GS4, launched in May 2015. However, given tough competition from Major shareholder GZ Auto Industry Grp (57.6%) domestic SUV OEMs, and corresponding ASP cuts by peers (Haval 6 and CS75), we expect its sales growth to slow to around 26% YoY for 2H16E, Financial summary (CNY) from 170% YoY for 1H16. Likewise, we don’t expect GAC Motor’s 2H16E Year to 31 Dec 16E 17E 18E gross margin to perform as well as it did for 1Q16 (up 5pp YoY, PRC Revenue (m) 47,350 52,559 55,456 GAAP), with expansion of only 2.5pp YoY for full-year 2016E. Operating profit (m) 1,083 1,210 1,292 Net profit (m) 5,625 6,123 6,750 Core EPS (fully-diluted) 0.874 0.951 1.049 Despite these headwinds, we raise our overall GAC 2016-18E revenue by EPS change (%) 34.2 8.8 10.2 2-7% and core EPS by 1-3% on our overall higher sales volume Daiwa vs Cons. EPS (%) (9.4) (13.3) (11.6) assumptions. Accordingly, our 12-month TP rises to HKD8.50, from PER (x) 10.2 9.4 8.5 Dividend yield (%) 3.1 3.4 3.8 HKD8.30, on unchanged target PER of 8x on the average of our 2016-17E DPS 0.282 0.307 0.338 EPS (previously 2016E). PBR (x) 1.3 1.2 1.1 EV/EBITDA (x) 13.3 10.9 9.1 ROE (%) 13.8 13.6 13.6 What we recommend: We think the current share price reflects the Source: FactSet, Daiwa forecasts market’s expectations of strong 1H16 results, and thus recommend investors take profit now before investor sentiment turns weak in 2H16. The current share price implies 2016-17E PERs of 9-10x, which we see as unattractive, particularly if we factor in the declining popularity of Japanese brands in China. The key upside risk: stronger-than-expected PV sales. How we differ: Our target price is lower than the consensus view (HKD10.5), due mainly to our revised 2016-18E EPS being 9-13% lower and our target multiple (8x) being lower (consensus: 8.6x). This reflects our concern that sentiment on the stock would turn weaker in 2H16 on its slower sales volume growth. See important disclosures, including any required research certifications, beginning on page 19 Guangzhou Automobile Group (2238 HK): 20 July 2016 Table of contents Time to change direction ......................................................................................... 6 Valuation no longer cheap .................................................................................................6 Japan OEMs sales volume unlikely to surprise ..................................................................7 GAC Motor may see more margin pressure in 2H16 ..........................................................9 GAC Fiat may break even this year, but its earnings contribution is likely to be limited .... 10 Our counter-consensus view ............................................................................................ 12 Valuation and recommendation .............................................................................14 New 12-month target price of HKD8.50 ........................................................................... 14 Risks to our view .............................................................................................................. 14 Appendix ..................................................................................................................16 2 Guangzhou Automobile Group (2238 HK): 20 July 2016 How do we justify our view? Growth outlook Valuation Earnings revisions Growth outlook GAC: adjusted net profit and growth We look for GAC’s net profit to rise by 34% YoY to (CNYm) CNY5.6bn for 2016, on the back of Japanese JV sale 8,000 170% 7,000 volume growth of 5-7% (but lower than 1H16). We expect 120% GAC Motor’s sales in 2016 to be driven by its GS4 model, 6,000 boosting GAC Motor’s gross margin by 2-3pp. Meanwhile, 5,000 70% we expect GAC Fiat to turn from a net loss of CNY500m 4,000 20% for 2015 to breaking even on the strong performance of the 3,000 2,000 Cherokee, but still unlikely to record a net profit due to the (30%) recent additional capacity coming online at its factory in 1,000 0 (80%) Guangzhou. For 2017 and 2018, we forecast net profit 2011 2012 2013 2014 2015E 2016E 2017E 2018E growth of 9% YoY and 10% YoY, respectively, mainly Net profit (LHS) YoY Growth (RHS) driven by GAC Motor’s growing sales and GAC Fiat’s Source: Company, Daiwa forecasts improved margin. Valuation GAC: 12-month forward PER (x) We raise our 12-month TP to HKD8.5 (from HKD8.30), (PER) based on an unchanged target PER of 8x on the average 15 of our 2016-17E EPS, which is at the low end of the target 13 PER range of 7-11x that we apply to the auto OEMs in our 11 universe. 9 We think GAC’s Japanese JV sales volume will be limited 7 by capacity constraints in 2H16 and affected by the fierce 5 competition from both the European brands in the tier-1 Jul-14 Jul-13 Jul-15 Jul-16 Jan-15 Jan-16 cities and domestic brands in the lower-tier cities. Jan-14 Mar-14 Mar-15 Mar-16 Sep-13 Nov-13 Sep-14 Nov-14 Sep-15 Nov-15 May-14 May-15 May-16 Meanwhile, we don’t expect GAC’s domestic brand to be PER +1 SD Average PER -1 SD able to sustain the fat gross margin of 1Q16 as we expect Source: Bloomberg, Daiwa forecasts more promotions due to the competition. Earnings revisions GAC: consensus 2016-17E EPS revisions We have been seeing the Bloomberg consensus make (CNY) upward earnings revisions for the stock since April 2016 1.15 due to GAC Motor’s improved gross margin and its 1.05 0.95 satisfactory 4Q15-1Q16 earnings. However, we think the 0.85 current share price now reflects the market’s expectations 0.75 for 2016 and 2017. Our EPS forecasts for 2016-17E are 0.65 now 9-13% below consensus, as we assume weaker PV 0.55 sales volume growth for GAC Honda and GAC Toyota on 0.45 the capacity constraints and high base effect, and 0.35 Jul-15 Jul-16 Oct-15 Apr-16 because we see limited margin expansion for GAC Motor Apr-15 Jan-15 Jun-15 Jan-16 Jun-16 Feb-15 Mar-15 Feb-16 Mar-16 Aug-15 Sep-15 Nov-15 Dec-15 May-15 May-16 due to the severe competition in the domestic SUV market. 2016E 2017E Source: Bloomberg 3 Guangzhou Automobile Group (2238 HK): 20 July 2016 Financial summary Key assumptions Year to 31 Dec 2011 2012 2013 2014 2015 2016E 2017E 2018E Volume - GAC Honda (unit) 362,000 316,000 435,000 480,000 580,000 620,000 634,000 646,000 Volume - GAC Toyota (unit) 274,000 250,000 303,000 374,000 403,000 418,000 430,000 450,000 Volume - GAC Motor (unit) 31,000 59,000 109,000 135,000 195,000 328,000 373,000 384,000 Volume Growth - GAC Honda (%) (6.2) (12.7) 37.7 10.3 20.8 6.9 2.3 1.9 Volume Growth - GAC Toyota (%) 1.9 (8.8) 21.2 23.4 7.8 3.7 2.9 4.7 Volume Growth - GAC Motor (%) (20.5) 90.3 84.7 23.9 44.4 68.2 13.7 2.9 Profit and loss (CNYm) Year to 31 Dec 2011 2012 2013 2014 2015 2016E 2017E 2018E Vehcicle-related operations 10,719 12,713 18,124 21,560 28,285 45,877 50,791 53,335 Other revenue 266 251 700 823 1,133 1,473 1,767 2,121 Other Revenue 0 0 0 0 0 0 0 0 Total Revenue 10,984 12,964 18,824 22,383 29,418 47,350 52,559 55,456 Other income 836 8 117 357 412 663 736 776 COGS (10,560) (12,274) (16,830) (19,831) (25,975) (40,633) (45,094) (47,565) SG&A (1,806) (2,147) (2,784) (3,724) (3,904) (6,298) (6,990) (7,376) Other op.expenses 0 0 0 0 0 0 0 0 Operating profit (545) (1,449) (672) (814) (48) 1,083 1,210 1,292 Net-interest inc./(exp.) (41) (193) (169) (307) (310) (166) (168) (156) Assoc/forex/extraord./others 4,643 2,641 3,470 4,187 4,744 5,152 5,563 6,146 Pre-tax profit 4,057 1,000 2,629 3,066 4,386 6,068 6,605 7,283 Tax 110 65 (101) (131) (400) (759) (826) (910) Min.
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