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CSCI-Auto-Geely (175 HK)：Value emerges as strong growth momentum intact - 20180327

Value emerges as strong growth momentum intact  

• Margin improvement likely to continue in FY18E, despite higher CAPEX from R&D and production capacity expansion, on the back of economies of scale after shipment volume exceeded 1mn units, in our view.
• As we believe the production of 2.0T engines for Lynk 01 will be ramped up in the near-term at the Zhangjiakou powertrain plant starting in March 2018, we foresee modest improvement in Lynk 01 sales volume in 2Q18 prior to the launch of the version equipped with the 1.5T powertrain system.
• We reiterate our Buy rating and PT of HKD30, pegging on FY18E 13x PER plus a premium of Lynk. We see good re-entry opportunities below HKD25 on the back of the broad market sell-off post the trade war news.

Margin improvement on track, regardless of higher capex for FY18E. Geely posted a 1.03ppt GPM improvement with SG&A expenses down 1.07ppts in FY17 on higher economies of scale brought about by shipment expansion, which led to a 107% YoY operating income growth that outpaced a 73% revenue growth. Meanwhile, however, total Capex increased 2-fold to RMB7.8bn as compared to FY16 with two-thirds coming from R&D and the remainder set aside for capacity expansion. Nonetheless, although we anticipate total Capex will likely increase further to c.RMB11bn in FY18E, given that the company’s capacity is estimated to reach c.2mn units by end-FY18E, it will not significantly weigh on margin improvement in the year, in our view.

Lynk 01 production constraints to be eased from Apr-18. With a total of 70-100k units of Lynk 01 expected to be rolled off from the Luqiao plant (currently operated by Volvo) following the production capacity ramp-up by end of FY18E, we think the remaining Luqiao production capacity will be used for the Volvo CMA cars (XC40) in 2H18. Meanwhile, the Zhangjiakou plant, with a designed production capacity of 200k units, will be devoted to the production of Lynk 02 and 03 models starting in 2H18E and likely to roll out a total of c.70k-100k units for FY18E. In view of the supply shortage of 2.0T engines, given the production capacity constraints at both the Luqiao and Zhangjiakou plants, which had primarily led to the limitation in shipment growth, the company has picked up production of such engines at the Zhangjiakou powertrain plant by means of increasing the number of shifts at this plant, thus, we anticipate a modest improvement in Lynk 01 shipments after Mar-18.

Expect a significant increase of NEV to Geely’s revenue in FY18E. Although the company’s total NEV shipments amounted to merely c.25k units in FY17 with majority being the Emgrand EV models and almost half of the shipments were contributed by bulk sales to Caocao (曹操专车), a Geely-backed car sharing service provider, we believe NEVs’ contribution to total sales will increase significantly in FY18E, given that (1) the new Emgrand EV 450 will benefit from the adjusted subsidy scheme due to its more than 450km range per charge which will receive the top subsidy of RMB50,000; and (2) the imminent launch of new Lynk and Geely NEV models, including BEV, PHEV or HEV (48v mild-hybrid), scheduled post the Beijing Auto Show in April this year.

Correction makes valuation increasingly attractive. We reiterate our Buy rating and PT of HKD30, pegging on FY18E 13x PER plus a premium of Lynk. We see good re-entry opportunities below HKD25 on the back of the broad market sell-off post the trade war news.