Shanghai Jahwa:Factoring in higher selling expenses;new targ
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    Despite a slowdown in sales growth in 2Q17, management maintains itsdouble-digit yoy sales growth target for the full year for its core business (exacquisition). However, opex is likely to increase (as in 1H17). As such, wedecrease our FY17/18/19 NP by 14%/11%/5% to reflect higher-than-expectedS&D ratios. Separately, given the completion of the Tommee Tippeeacquisition in 4Q17, full-year SJ results will be based on business combination.

    Valuation and risk

    For 1H17, TT is not included.

    Hikvision is positive on the 2H17 outlook driven by the domestic business recovery, particularly in public safety and transportation, while being cautious on overseas business with growth deceleration due to unstable economies. Management expects GPM to sustain into 2H17 and we attribute this to improving product mix and mild competition. However, opex ratio should rise vs. 2016 on an increase in R&D expenses for new businesses, while selling expenses is on the rise to set up overseas offices to target the project/solution business. Currently, we expect 2017 revenue/profit to grow 28%/28% as higher GPM is being offset by the rising opex ratio with 2017 EPS of CNY1.04.

Higher-than-expected selling expense to hinder 2017 NP growth; Hold

    We maintain BUY and raise our TP from CNY27.3 (50% stock dividend issued on our prior TP of CNY41) to CNY34.5, as we raise 2017/18/19 earnings estimates by 4%/12%/12% to reflect a stronger growth outlook and roll over valuation from 25x 2H17-1H18 to 25x 2018E PE. Our target multiple of 25x remains unchanged and is supported by 34%/36% ROE and 28%/33% earnings growth in 2017/2018, respectively. Risks: market share loss and weak demand.

    Our primary valuation methodology is DCF, employing a COE of 7.82%, beta of0.7 and TGR of 1.5%. This produces a fair value estimate of RMB30.04/share,implying 2017/18E P/E of 50x/40x. Downside risks: stronger competition,brand/product concentration. Upside: b-t-e sales of new products (see page 3).

    In addition to 2Q17 revenue growth at 29% YoY due to continued market share gains, Hikvision delivered 2Q17 GPM of 43%, a significant improvement from 37% in 2Q16 and flat vs. 1Q17. We have been highlighting the stabilizing margin due to management efforts and improving product mix. However, the expenses ratio rose, which we attribute to the rising R&D investment for the innovation businesses and overseas business expansions. Non-op contribution was lower due to CNY88mn forex losses and slower growth in VAT tax return.

    Excluding Kao business, which was terminated at end-2016, sales and NPwere +9.51%/-34.46%. 2Q NP (ex. Kao) was down 51.3% to RMB108m, whilecore sales were up 4.8%, a deceleration from 1Q’s 14.5%. GPM in 2Q was 67%vs. 1Q’s 72%. The slowdown in sales growth was due to change in itsoperating strategy in ecommerce, while the acceleration in 2Q NP decline wasdue to lower GPM for new channels and higher selling expenses.

In-line 1H17 EPS of CNY0.36; maintaining Buy

    Full year 2017 to maintain its double-digit sales growth target

    Margin improvement offset by rising opex ratio

    NP down 42% to RMB216m on sales being down 13.5% to RMB2.7bn in 1H

    In terms of 1H17 product breakdown, front-end equipment remains the largest revenue contributor at 52%, up 25% YoY. The “innovation” business (which consists of Ezvits, auto and robots products) grew the strongest at almost three times YoY from a low base. On geographical breakdown, the overseas business (30% in 1H17) continued to lead the growth at 38% YoY due to share gain, while GPM expanded to 50% with rising solution/project contribution (from 20% in 2016 to 30% in 1H17).

    SJ’s 1H17 sales/NP account for 55%/52% of our 2017 figures (ex TTacquisition). Sales were in line, while NP was short of our estimates due tolower-than-expected GPM (from channel mix shift) and higher opex (highermarketing expenses and new office depreciation) in 2Q. Thus, we lower our2017-19 NP by 5-14%. While we expect 2H sales growth to accelerate to 14%,higher opex cost will weight on margins. We believe the share is fairly valuedwith a revised target price of RMB30.04; Hold.

    Margin improvement offset by rising opex ratio Hikvision reported its 2Q17 results and held a conference call on July 24, 2017. 2Q17 profit was broadly in line with the DB estimate at CNY1.8bn, up 22% QoQ/24% YoY, for EPS of CNY0.2. 1H17 EPS amounted to CNY0.36, up 26% YoY. Management expected 1-3Q17 profits to grow in a range of 15-35% YoY. We maintain our Buy rating.

    New target price of RMB30.04/share, down 7%; risks

    2H17 outlook remains positive

    Growth across all product segments with stronger overseas business

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