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CSCI-Auto-Great Wall Motor (2333 HK)：Upward product cycle for WEY - 20180122

Up-cycle on WEY, but down-cycle on Haval

• In contrast to Haval SUVs, with shipments having declined by 9% in FY17, the WEY models demonstrated a strong product cycle on ramp-up in 2H17 shipments, which may favour total sales growth in 1Q18 given the lower inventory levels in 4Q17.
• With less than 20% of total sales volume in FY17 being contributed by the high-margin models (i.e. WEY and the new H6 with a more than 20% GPM)and on assumption that such contribution will improve to c.40% at most in FY18E,we do not foresee a significant recovery in the company’s gross margins in the near-term.
• We have lowered our FY17E/18E earnings estimates by 35%/ 12% respectively to reflect the lower margins that are weighed by the sluggish product cycle of Haval, and derived a new PT of HKD9.1 pegging on FY18E 8.0X PER, maintain HOLD.

Up-cycle on WEY, but down-cycle on Haval. Both the WEY VV5 and VV7 models posted robust sales growth momentum in 2H17, with monthly shipments reaching more than 10,000 units during the last two months of FY17. Leveraging on the plan to ramp up the number of WEY’s independent retail stores to 300 by end-FY18E from 100 as of 31 Dec-17, the company expects such strong product upcycle to be driven higher in FY18E following the launch of the PHEV P8 SUVs in Apr-18 and VV6 model in 2H18 with total shipments of WEY models anticipated to reach 250,000 units by end-FY18E. On the contrary, the Haval SUV models, including the M6 model derived from the best-selling and older H6, saw sales dropped 9% YoY to 851,000 units in FY17E from 938,000 units in FY16 amid intensifying competition of the mid-to-low end SUV segment. On such basis, we foresee Haval’s contribution to total SUV sales to decline further to c.80% in FY18E from c.90% in FY17E. Meanwhile, as the inventory turnover days have reduced slightly to c.36 days as of end-FY17E from c.45 days as of end-3Q17, it will likely favour new vehicle sales during 1Q18, in our view.

Margin concern remains an overhang in FY18E. Looking forward, we believe gross margin contraction (most rapid since 1Q17), due to price cuts and other promotion activities in order to reduce inventory levels and stabilise sales growth, for the previously best-selling H6 model in particularly, will continue to remain an overhang in FY18E. Meanwhile, given that the aggregate sales of new H6 and WEY models had made up only 20% of total FY17E sales as per our estimates, we do not foresee the new H6 and WEY models will have much of an impact in terms of driving a substantial recovery in the company’s gross margins in FY18E on assumption that these two new models will account for at most 40% of total FY18E vehicle sales with only 50% of the H6 to be sold in FY18E being the higher-priced new H6 version. All in all, continued new vehicle sales slowdown and price cuts leading to further gross margin contraction will continue to weigh on its valuation in the foreseeable future, in our view.

Limited recovery on margin in FY18E: In view of anticipation of limited margin recovery on the back of 40% sales are high-margin models in FY18E at most, we have lowered our FY17E/FY18E earnings estimates by 35%/12% respectively to reflect lower profitability, deriving a new PT of HKD9.1, pegging on FY18E PER of 8.0x (prev. 8.0x FY17E PER). Maintain HOLD.