China Toll Road Sector：Stay defensive in 2H15

Deutsche Bank Markets Research Asia China Transportation Road / Rail Industry China Toll Road Sector Date 29 July 2015 Forecast Change Stay defensive in 2H15 Get defensive players in a volatile stock market; Buy ZJE and JSE ________________________________________________________________________________________________________________ Deutsche Bank AG/Hong Kong Deutsche Bank does and seeks to do business with companies covered in its research reports. Thus, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. DISCLOSURES AND ANALYST CERTIFICATIONS ARE LOCATED IN APPENDIX 1. MCI (P) 124/04/2015. Phyllis Wang Research Analyst (-) - - phyllis.wang@db.com Key Changes Company Target Price Rating 0177.HK 11.24 to 11.20(HKD) - 0576.HK 14.19 to 12.09(HKD) - 0548.HK 5.45 to 6.00(HKD) - Source: Deutsche Bank Top picks Jiangsu Expressway-H (0177.HK),HKD9.71 Buy Zhejiang Expressway Ltd (0576.HK),HKD9.05 Buy Source: Deutsche Bank Companies Featured Jiangsu Expressway-H (0177.HK),HKD9.71 Buy 2014A 2015E 2016E P/E (x) 14.0 14.6 13.1 EV/EBITDA (x) 8.5 9.7 8.1 Price/book (x) 1.8 1.8 1.7 Zhejiang Expressway Ltd (0576.HK),HKD9.05 Buy 2014A 2015E 2016E P/E (x) 11.3 11.6 10.3 EV/EBITDA (x) 4.8 5.0 4.3 Price/book (x) 1.3 1.2 1.2 Shenzhen Expressway-H (0548.HK),HKD5.80 Hold 2014A 2015E 2016E P/E (x) 7.8 10.2 9.4 EV/EBITDA (x) 5.3 7.0 6.1 Price/book (x) 0.8 0.8 0.7 Source: Deutsche Bank This report changes target price and estimates for companies under our coverage. For details, see Figure 2 and 3. Toll road sector has risen 4% ytd, outperforming the HSCEI index (-7%) due to the sector's defensiveness. We suggest investors stay with the sector in 2H15 given solid earnings growth and good dividend yield. We believe China's toll road operators will see solid toll income growth in 2H15 due to a likely truck traffic recovery and continued healthy passenger traffic growth. In addition, traffic diversion on JSE's SNEX and SZE's Qinglian Expressway might gradually fade away in 2H15. Furthermore, potential extension of concession periods and more M&A could benefit the sector in the long run. We like both ZJE and JSE for their visible earnings profiles and +5% dividend yields. Amended regulation: potential extension of concession period and more M&A The Ministry of Transport recently published a draft amendment to the Regulation on the Administration of Toll Roads. We think the amended Regulation might relieve local governments’ financial situations. More private investors interest in investing in greenfield toll road projects with the prospect of higher returns thanks to more flexible concession periods. The concession periods for ZJE’s SHNE and SZE’s Shuiguan Expressway have the possibility to be extended, enhancing valuations by 12% for ZJE and 1% for SZE, if the two roads’ concession periods are extended by five years. Our models do not reflect the potential extension as there are still uncertainties regarding the regulation changes. In addition, we expect M&A opportunities to increase as returns on expressway projects become more attractive. Toll income might gradually recover in 2H15 We are positive on toll income growth in 2H15, as our macro team expects GDP growth to recover in 4Q15. We believe an economic recovery should support traffic growth (especially for trucks). In addition, we think passenger traffic growth is still solid as passenger vehicle fleet size should record mid-teens growth in the next two years. We expect toll income for ZJE to grow 9% in 2H15 (6% in 1H15), partly benefiting from construction work on Hangjinqu Expressway in 3Q15. We expect JSE’s toll income to grow 23% in 2H15 (3% in 1H15) with consolidation of the acquisition, while SZE’s to grow 3% in 2H15 (-5% in 1H15) with the fading of traffic diversion on Qinglian Expressway. 1H15 results preview: solid earnings growth within market expectations ZJE enjoyed better traffic growth than SZE and JSE in 1H15, which were negatively affected by traffic diversions to neighboring road networks, especially for truck traffic. ZJE, JSE and SZE are due to release results by end- August. We believe their 1H15 results should be largely in line with the market. We forecast ZJE’s net profit in 1H15 to grow 25% yoy, driven by the securities business. JSE and SZE’s recurrent earnings are expected to increase 3-4% yoy. Earnings forecast and target price changes; DCF-based valuation; risks We fine-tune our earnings forecasts for ZJE, but cut our target price to HK$12.09 (HK$14.19) due to lower P/B valuation for its securities business. We cut our 20