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CSCI-Textile OEM-Shenzhou International (2313 HK)：Initial order suggests a robust 2018 outlook - 20171023

Initial order suggests a robust 2018 outlook

• Our recent update with Shenzhou (SZ) reflects a more positive outlook as management has raised its production capacity expansion targets for its Vietnam (VN) plant in 2018.
• Orders from its key casual wear customer in Japan gets warmer in 4Q17, whilst the order growth momentum in 2018 is looking more positive on the back of DD percentage growth in key sportswear and casualwear customers.
• We have revised up our sales/EPS estimates for FY18E by 1.7%/0.8% and 4.1%/3.3% for FY19E, after adjusting up our sales growth by 2.0% and 2.7% for the respective year, taking into the account of SZ’s latest capacity expansion plan. However, we have trimmed our EPS estimate for FY17E after cutting our GPM estimate slightly by 0.3ppts to 32.3%. We reiterate our BUY rating and revise up our PT accordingly to HKD72.4 (prev. HKD66.3), based on 0x PEG and a revised core net profit 3-yr CAGR estimate of 25.0% (prev. 23.6%). SZ currently trades at 18.4x PER for FY18E.

SZ raises its upstream fabric production capacity expansion target in VN. As of today, SZ’s fabric capacity has reached 190 tons per day (tpd) and will grow to 200tpd by the end of 2017. SZ is now targeting to expand capacity further to 380tpd by the end of 2018, which is 27%-53% higher than its prior guidance of 250-300tpd. Nevertheless, we expect the actual deployment of new capacity to take place in 2019, instead of 2018 as that will max out SZ’s current sewage treatment quota on hand of 220tpd. Hence, it will take time for SZ to obtain a larger quota. Such a capacity expansion plan reflects management’s confidence in its order growth. Meanwhile, SZ has also revised up its production capacity growth guidance to 12% for 2018E, from 10% previously.

Downstream garment production capacity in VN continues to expand along with its fabric plant. SZ’s fabric production in VN is for its downstream garment production only. As of today, SZ’s garment production capacity in VN is c.31mn pieces per annum with 9k workers. The total number of workers will increase to 10k by the end of 2017 and 11k by the end of 2018 and eventually double to 22k by the end of 2019. SZ also plans to expand garment production in Cambodia, from 11k workers at present to 12k workers by the end of 2018 and 13-15k workers by the end of 2019. In the long-run, it expects production capacity from VN and Cambodia to account for an aggregate 50% of the Group’s total, versus 10% at present. For its PRC plants in Ningbo, there is no plan for capacity expansion. However, organic growth benefits from automation are expected to continue to support additional capacity growth from its Ningbo plant.

Valuation and earnings revision. We reiterate our BUY rating and revise up our PT accordingly to HKD72.4 (prev. HKD66.3), based on 1.0x PEG and a revised core net profit 3-yr CAGR estimate of 25.0% (prev. 23.6%). SZ currently trades at 18.4x PER for FY18E.