Calc HK$8.42 - BUY Snoopinaround Small-caps research C o Timothy Lee, CFA Raising forecasts m [email protected] p Strong financial management to boost growth a +852 2600 8461 n The recent positive 1H16 profit alert amidfaster finance lease realisation y and partial CB repurchase both suggest CALC's strong financial u Tim Cheung p +852 2600 8588 management capability to drive earnings growth on top of the steadily d a t growing core aircraft leasing business,which is on track. Trading at e 16/17CL PE of 8.4/6.8x and PB of 1.9x/1.6x, valuations remain undemanding given 29.0% 15-18CL EPSCagr and c.26-27% ROE. We maintain BUY with a new target price of HK$10.10(from HK$10.00)amid an earnings upgrade. 7 July 2016 Positive 1H16 profit alert China CALC estimated its 1H16 profit to grow c.100% YoY, which is mainly driven by the 4 finance lease realisations (1H15: nil) plus the steady core aircraft leasing Financial services business. Given depreciation of Rmb and other currencies, USD-denominated Reuters 1848.HK assets becomemore valuablenow, the gain per deal in 1H16 is likely higher Bloomberg 1848 HK than the HK$27m gain from each of the 2 deals done in 2H15, and the proceeds should facilitate faster fleet size addition.The 18 additions made in Priced on 6 July 2016 HS CEI@ 8,503.1 2015 (to 63 in total by end-15) also hadfully contributedin 1H16. 12M hi/lo HK$10.58/5.33 Partial CB repurchase to reduce interest costs 12M price target HK$10.10 CALC also announced it wouldrepurchase HK$581.85mout of its HK$892.17m ±% potential +20% CB outstanding. Despite a premium price of 101.5%, this helps reduce interest costs given the CB carries effective interest of 11.8%-14.1%, versus effective Shares in issue 622.8m Free float (est.) 27.9% interest of c.4.7% for other borrowings. Market cap US$676m Core aircraft leasing business remains on track 3M average daily volume Another 7 aircraft havebeen delivered YTD out of the 18 secured deliveries HK$6.2m (US$0.8m) this year, suggesting on-track operation with high-growth visibility.One major goal for the company is globalization to capture more opportunities on leasing, Foreign s'holding 65.1% aircraft buy/sell and financingchannels, despite potentially resultingin slightly Major shareholders higher operating expenses. CE Aerospace34.9% FPAM31.7% Maintain BUY on still strong earnings momentum We adjusted our 16/17/18CL core profit forecasts by +6.7%/+2.7%/-3.9%to factor in more finance lease realisations (from 6 to 8this year) and higher gain per deal, as well as the partial CB repurchase. We also lift our TP from HK$10.00 to HK$10.10 on the same 8x 17CL PE.We maintain BUYon still Stock performance (%) solid earnings momentum with 29.0% 15-18CL EPS Cagr and c.26-27% ROE. 1M 3M 12M Absolute 9.8 5.4 (5.1) Relative 14.5 7.4 36.5 Financials Abs (US$) 9.9 5.4 (5.1) Year to 31 December 14A 15A 16CL 17CL 18CL 15.0 (HK$) (%) 250 Revenue (HK$m) 1,145 1,549 2,185 2,575 2,924 12.9 200 Rev forecast change (%) - - 6.9 2.7 (0.3) Adjusted net profit (HK$m) 316 393 635 789 961 10.8 150 NP forecast change (%) - - 6.7 2.7 (3.9) 8.7 100 Adjusted EPS (HK¢) 57.0 64.2 100.8 123.6 150.7 6.6 50 CL/consensus (6) (EPS%) - - 121 116 122 Adj EPS growth (% YoY) 54.5 12.6 57.1 22.6 21.9 4.5 0 Jul-14 Jan-15 Jul-15 Jan-16 Adjusted PE (x) 14.8 13.1 8.4 6.8 5.6 Calc (LHS) Dividend yield (%) 1.9 2.6 4.2 5.2 6.3 Rel to CEI (RHS) ROE (%) 22.4 19.3 26.1 26.7 26.9 Source: Bloomberg Net debt/equity (%) 805.3 868.2 863.5 836.6 776.6 www.clsa.com Source: CLSA Find CLSAresearch on Bloomberg, Thomson Reuters, Factsetand CapitalIQ -and profit from our evalu@tor proprietary database at clsa.com For important disclosuresplease refer to page9. Prepared for: ThomsonReuters Raising forecasts Calc - BUY 1H16 positive profit alert 1H16 profit estimated to CALC earlier announced a profit alert, expecting its 1H16 profit to log double on finance lease approximately100% growth. From the reported 1H15 profit of HK$117m, the realization profit alert implies 1H16 profit will be at around HK$234m, or c.39% of our original full-year 16CL estimate (43.1% of Bloomberg consensus full-year forecast), compared with the previous 3 years when 1H profit only contributed c.23-30% of fullyear. This suggests that consensus islikely to upgrade itsearnings forecasts. Management commented that the significant profit growth came from: (1) Increasing lease income from continuously expanding aircraft scale. The company has 18 secured aircraft deliveriesin 2016 (with 7 deliveriesmade YTD) from 63 aircraft by end-2015. The full-year contribution of 2015’s addition and those added this year will continue to drive steady and visible growth for the company. (2) Gain from realization of 4 financial lease receivables (1H15: nil), and we had originally assumed 6 realizations for full- year 2016 in our model. This demonstrates the company’s strong financial management capability to securitize receivables for financial gains as well as generating cash flows for faster aircraft additions.Even thoughrealizations will mean forfeiting the long-term lease income from that aircraft, the proceedsshould allow CALC to purchase more aircraft, and thus there is upside risk to our aircraft addition forecasts. Figure 1 Solid aircraft portfolio Calc’s aircraft portfolio growth 120 Forecast Secured 100 99 100 81 81 80 63 60 44 40 25 20 16 10 5 8 1 0 2007 2008 2010 2011 2012 2013 2014 2015 2016CL2017CL Source: Company data, CLSA CB repurchase Repurchasing CB to CALC also announcedit wouldrepurchase part of its outstanding CB, with a reduce interest costs principal amount of HK$581.85m (out of HK$892.17m in total). Out of this, HK$77.58m is repurchased from China Everbright (the largest shareholder holding c.34.8% of CALC). After the repurchase, China Everbright would continue to hold HK$310.32m of CB. The repurchase price would be HK$590.58m, ie,101.5% of principal, plus accrued interests and arrangement fees. Despite the premium price on the repurchase, this can actually help CALC reduce interest costs, given the CB carriesaninterest rate (3%) + arrangement fee (3.5%) and effective interest rate of 11.8%-14.1%, much higher than the effective interest rate of c.4.7% for other types of borrowings. Assuming the repurchase is funded by normal 7 July 2016 [email protected] 2 Prepared for: ThomsonReuters Raising forecasts Calc - BUY borrowings, we estimate this can potentially boost CALC’s 16/17CL core profit by 2.3%/5.6%. Figure 2 Figure 3 Calc’s revenue Calc’s recurring net profit* 3,500 (HK$m) (%) 120 1,200 (HK$m) (%) 120.0 Revenue YoY growth (RHS) Recurring net profit YoY growth (RHS) 3,000 100.6 100 1,000 100.0 99.0 93.5 2,500 80 800 80.0 66.7 61.4 2,000 71.2 60 600 60.0 1,500 35.3 53.4 40 400 24.3 40.0 1,000 41.0 24.3 21.9 17.8 13.6 500 20 200 20.0 0 0 0 - 2011 2012 2013 2014 2015 16CL 17CL 18CL 2011 2012 2013 2014 2015 16CL 17CL 18CL Source: Company data, CLSA Source: Company data, CLSA. *Excluding IPO expenses, share option expenses and FX. Figure 4 Key assumptions for Calc 2011 2012 2013 2014 2015 16CL 17CL 18CL No. of aircraft Finance lease 10 14 23 40 57 73 90 106 Less: finance lease realized 0 0 (1) (5) (7) (15) (23) (31) Net no. of aircraft generating finance lease income 10 14 22 35 50 58 67 75 Operating lease 0 2 2 4 6 8 10 12 Total no. of aircraft 10 16 25 44 63 81 100 118 Total no. of aircraftgenerating lease income 10 16 24 39 56 66 77 87 Average annualized lease rate per aircraft (US$m) Finance lease 2.9 3.9 3.4 3.2 3.1 3.3 3.3 3.3 Operating lease - 11.3 11.3 7.7 6.8 6.2 5.8 5.7 Source: Company data, CLSA Figure 5 Revenue breakdown for Calc HK$m 2011 2012 2013 2014 2015 16CL 17CL 18CL Finance lease 223 364 478 715 1,015 1,304 1,600 1,833 Operating lease - 84 145 182 224 297 354 408 Other income 0 0 64 248 310 583 621 682 Aircraft disassembly - - - - - - - - Total 223 448 687 1,145 1,549 2,185 2,575 2,924 As % Finance lease 99.9% 81.2% 69.6% 62.4% 65.5% 59.7% 62.1% 62.7% Operating lease 0.0% 18.7% 21.2% 15.9% 14.5% 13.6% 13.7% 14.0% Other income 0.1% 0.1% 9.3% 21.7% 20.0% 26.7% 24.1% 23.3% Aircraft disassembly 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% Total 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% Source: Company data, CLSA 7 July 2016 [email protected] 3 Prepared for: ThomsonReuters Raising forecasts Calc - BUY Figure 6 Target price increases CalcPE valuation from HK$10.00 to 17CL diluted EPS (HK$) * 126.1 HK$10.10, maintain BUY Target PE (x) 8 Target price (HK$) 10.10 Source: CLSA.*After accounting for the potential dilution impact of CB.