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Morningstar | Strong Beverage Sales and Better Product Mix Boosted Tingyi's 2Q Result; Raising FVE to HKD 13. See Updated Analyst Note from 28 Aug 2018

No-moat Tingyi Holding Corp, or Tingyi, posted an upbeat second-quarter result that beat our forecast, with revenue and EBITDA growing 11% and 20% year on year, respectively, driven by strong beverages and high-end instant noodles sales. Profitability also saw improvement from last year, with gross margin and EBITDA margin up 256 and 85 basis points, respectively, to 32.7% and 12.1%, thanks to better product mix and price hikes, along with effective cost control. Although management guided for conservative growth in the second half, we believe Tingyi is well-positioned to capture the prevailing premiumization trend and think the moderate growth is likely to be sustained over the medium term.

We are increasing our fair value estimate for Tingyi by 8% to HKD 13 per share from HKD 12 after taking into account higher revenue growth and gross margin forecasts, partially offset by the depreciation of the Chinese yuan against the Hong Kong dollar. We raise our five-year revenue CAGR to 6.1% from 5.6% previously and revise up average gross margin assumption to 32.1% from 31.3% previously. We now anticipate operating profit and net profit to grow at CAGRs of 17% and 21%, respectively, from 13% and 17% previously. That said, we retain our no-moat and stable trend ratings, given we don’t foresee the firm's competitive advantage will be strengthening for the next 10 years. We still view the shares as overvalued, trading at a 16% premium to our new fair value estimate.

Tingyi's second-quarter revenue came in strong at CNY 16 billion, up 11% year on year, accelerating from 6% year-on-year growth in the first quarter and beating our 7% full-year revenue growth forecast. On the product front, sales from the beverages business rose 13% year on year, accelerating from 5% year-on-year increase in the first quarter, while the instant noodles segment delivered 8% revenue growth. The outperformance of the beverage business stemmed from strong sales growth of tea drinks and carbonated drinks, up 20.6% and 28.3%, respectively, partially offset by 12% year-on-year decline in bottled water. Meanwhile, the solid instant noodles revenue growth was helped by better product mix, as high-end packet and bowl segment grew 12.5% and 7.2%, respectively, from the year-ago quarter.

Encouragingly, gross margin saw further improvement, up 2.6 percentage points from last year to 32.7%, which was higher than we anticipated, thanks to better product mix and price hikes for product upgrade on the back of management's premiumization strategy, as well as improving economies of scale. On the cost front, the selling expense as percentage of sales slightly increased 34 basis points to 21.5%, while the administrative expense ratio remained unchanged at 3.8%. EBITDA was up 19.5% year on year to CNY 1.93 billion and net profit surged 123% from last year to CNY 594 million.