Swimming against the current

Mon, 13 Jul 2015 E q u i t y R e s e a r c h Meidong Auto (1268 HK) A u t o D e a l e r s/ C h i n a Swimming against the current  Resume BUY with TP of HK$ 2.31, based on 10x FY16 PE, 57% upside  Accelerated growth through M&As  Undemanding valuation and excellent growth prospect Resume BUY rating with TP of HK$ 2.31. We resume our coverage on Meidong Auto (1268 HK) (“MD”) with a BUY rating, and derived a TP of 2.31, based on 10x FY16 PE, representing an upside of 57%. The current valuation is undemanding due to its excellent growth profile, where we anticipate its sales/ EPS to have 21/32% CAGR over the course of FY15-17, plus a 3.5% FY16 yield. Accelerated growth through M&As. In our recent update following their HK$183m share placement (at HK$1.83/share for a 3.7% discount to market) in early June, management disclosed that they are close to acquiring a portfolio comprising of 5 4S car dealer stores: 2 of them being Honda stores located in Jiangxi, opened in 2008 and 2010 respectively, and both reporting losses in 2014 while the remaining 3 are Jaguar Land Rover (“JLR”) Stores in Hunan, Hebei, and Guangdong, all three are yet to commence operations (likely to begin in 2016-17). Management has stressed that the cost of acquisitions will be attractive as the stores are non-preforming or yet to be built, they believe this addition will contribute positively to the group. MD, in our view, should be able to fix the problem and turn it around. MD has proven to be efficient manager as well as quality after-sales services provider, being one of the few with higher than peers margins. Their NP margins in FY14 (2.9%), outperformed listed peers (2.5%), let alone the non-listed ones (1.5% for top 100 domestic dealers). Undemanding valuation, with excellent growth prospects. We project MD to comfortably achieve 21/ 32% CAGR in sales/ EPS over the FY15-17 period. Driven mainly by 1) 24.8% CAGR in store counts and 2) sustainable margins expansion due to higher mix of luxury products (from 39% to 49% of sales over the FY14-17 period). We forecast GP/NP margins to jump from 10.2/2.9% in FY14 to around 10.9/3.7% in FY17. Our valuation is based on 10x FY16 PE, with a forecast yield of 3.5%. BUY. Walter Woo +852 2135 0248 walter.woo@oriental-patron.com.hk Initial Coverage BUY Close price: HK$1.47 Target Price: HK$2.31 (+57%) Key Da t a HKEx code 1268 12 Months High (HK$) 2.34 12 Month Low (HK$) 0.90 3M Avg Dail Vol. (mn) 7.69 Issue Share (mn) 1,100.00 Market Cap (HK$mn) 1,617.00 Fiscal Year 12/2014 Major shareholder (s) Ye Family (68.41%) Source: Company data, Bloomberg, OP Research Closing price are as of 10/7/2015 Pr i c e Ch a r t 1mth 3mth 6mth Absolute % -27.6 -3.2 -15.7 Rel. MSCI CHINA % -14.1 14.5 -13.3 E x h i b i t 1: F o r e c a s t a n d Va l u a t i o n Year to Dec (HK$ mn) FY13A FY14A FY15E FY16E FY17E Revenue 3,479.7 3,854.8 4,707.4 5,887.4 6,931.2 Growth (%) 18.0 10.8 22.1 25.1 17.7 Net Profit 105.9 110.6 149.3 203.5 252.0 Growth (%) 121.7 4.5 34.9 36.3 23.9 Diluted EPS (HK$) 0.172 0.138 0.170 0.231 0.286 EPS growth (%) 115.7 (19.5) 22.7 36.3 23.9 Change to previous EPS (%) 0.00 0.00 0.00 Consensus EPS (HK$) 0.00 0.00 0.00 ROE (%) 23.3 22.0 24.7 27.3 27.3 P/E (x) 8.6 10.6 8.7 6.4 5.1 P/B (x) 2.0 2.2 1.9 1.6 1.3 Yield (%) 2.0 2.0 2.6 3.5 4.4 DPS (HK$) 0.030 0.030 0.038 0.052 0.064 Source: Bloomberg, OP Research 0.00.51.01.52.02.5Jul/14Oct/14Jan/15Apr/15Jul/15HK$1268 HKMSCI CHINA Mon, 13 Jul 2015 Meidong Auto (1268 HK) Page 2 of 25 Table of Contents Table of Contents ......................................................................................................................................... 2 Good time for M&A as market consolidates .................................................................................................. 3 Industry dynamics ........................................................................................................................................ 5 Strong pipeline of store & brand expansions ................................................................................................ 7 “Single City Single Brand” has a high win rate ............................................................................................. 9 Tier 2-4 cities focus generate inelastic demand ...........................................................................................10 Performance by Brands .............................................................................................................................. 11 Robust margins expansion from more luxury ..............................................................................................15 Power shifts from OEMs to dealers ..................