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Morningstar | Demand for Wuliangye Liquor Stronger than Expected; Raising our FVE to CNY 85

Wide-moat Wuliangye Yibin’s 2018 results were in line with the company’s preliminary numbers, with revenue and net profit up 32.6% and 38.4% year on year, respectively. We’re raising our fair value estimate to CNY 85 per share from CNY 80, as we revise up our revenue growth forecast for its high-end baijiu segment, mainly reflecting our high conviction on volume growth in 2019. In the meantime, profitability will be further improved from a favorable product mix. We maintain our wide moat rating for Wuliangye and expect the company will continue to outperform the baijiu industry underpinned by its strong intangible assets amid a favorable consolidating industry trend. That said, we think the shares as fairly valued at current levels, given the share price has risen drastically 77.5% in a about three months.

Wuliangye plans to increase its high-end liquor shipments by 15% to 23,000 metric tons in 2019. Due to strong demand and healthy inventory level, shipments of the current version of Wuliangye 52% ABV liquor were fully booked with cash deposits from distributors up to now, according to management, meaning 56% of 2019 target shipments were already completed. Meanwhile, the 44% year-on-year growth in the advance payments received from customers on the balance sheet was owing to a significant increase in the fourth quarter of 2018. This not only reversed the trend of shrinking balance, but also confirmed our view that the premium baijiu demand remains robust despite economic growth decelerating. The company will launch the new version (new packaging design) Wuliangye liquor in June and will ship for 35% of the annual sales volume target. The ex-factory prices will be between CNY 879 and CNY 889 per bottle, which is about 12% higher than the current ex-factory prices.

Revenue in 2018 was up 32.6% year on year to CNY 40 billion, with high-end baijiu segment growing 41%, while the mid- to low-end segment increased 13%. Sales volume growth for high-end Wuliangye liquor increased about 20% and average selling prices were up 20%. Gross margin was better than we anticipated, improving by 1.8 percentage points to 73.8%. This was attributable to a better product mix, as higher-margin products grew faster than the lower-margin products. On the cost front, the negative effect of rising consumption tax rate was offset by operating cost/sales ratio reduction. As a result, operating profit and net profit grew 41.2% and 38.4% from last year, respectively, with operating margin and net margin up 2.7 and 1.4 percentage points, respectively, to 43.8% and 33.4%. Dividend payout ratio was maintained at 50%.

Although management seemed to have an optimistic outlook and guided for an aggressive 25% revenue growth for 2019, our 2019 revenue growth forecast is 19% and five-year revenue CAGR is 12.9%, as we assume the strong top-line growth will somehow diminish in the medium term. We anticipate Wuliangye’s gross margin and operating margin will continue to improve from the improving product mix, averaging at 44% and 33.5%, respectively, through 2023. Net profit growth will be 13.1% per year.