Large core earnings loss in 2H; CAPEX stayed high
Yurun made a net loss of HK$851mn (recurring; exl. HK$133mn government subsidies) in 2H12; its profitability has further deteriorated since 2H11. Sales declined 10% YoY to HK$14,252mn and GM was squeezed 3.6ppt/1 .2ppt YoY/HoH to 0.9%. FY12 slaughtering volume was 13.7mn heads (-10%) while production capacity further expanded to 56.65mn heads on ~HK$2,000mn CAPEX. Utilization rate declined to 30% (vs. 43% in FY11).
Factors to watch
We remain cautious on Yurun’s turnaround considering its historical corporate governance issue and no clear sign of improvedfundamentals. We believe 2013 could be another year of pain, with Yurun staying in the red:
No strong sales volume rebound. Volume growth could recover in 2013 backed by newly-constructed capacity, new channel development (hotels & restaurant chains) and efforts to restore Yurun’s damaged brand image (heavy direct price discount promotions). Yet, we expect volume growth to be soft since: 1) mgm’t may focus on margin recovery first; and,2) we expect industry slaughtering volume to grow at a single digit pace and do not expect Yurun to outperform the market.
Margin recovery could be limited: 1) hog procurement costswill not decline in 2013, despite the recent low of Rmb12/kg, and is expected to pick up in 2H13; 2) utilization rate will staylow at ~30% given no significant volume increase and D&A costs could remain high; and, 3) given its unrestored image, we do not anticipate substantial ASP increase and S&D exp./sales ratio retreat.
Gov’t subsidies trend down as CAPEX decelerates.
Management has guided that 2013 CAPEX will drop to ~HK$1.2bn (vs. >HK$2bn in 2011) to relieve cash flow stress, while its capacity expansion plan (upstream slaughter volume: 700,000 heads; meat processing volume: 300,000t) is to be delayed 1~2 years. We thus expect much fewer subsidies.
Valuation and recommendation
We substantially revise down Yurun’s 2013/14e earnings and cut our end-2013 TP from HK$5.2 to HK$5.0, based on our DCF model. We apply a 20% discount given its uncertain financialnumbers. Maintain HOLD. Risks include faster-than-expected margin recovery.