GAC’s 3Q22 earnings were below our prior expectation mainly due to unexpected impairment and QoQ decline of equity income. Accordingly, we cut our FY22-23E net profit by 13% and 9%, respectively. Yet, we are still of the view that GAC’s valuation is attractive and we maintain our BUY rating.
　　3Q22 earnings miss. GAC’s 3Q22 net profit of RMB 2.3bn was RMB 900mn lower than our prior forecast, as equity income from joint ventures (JVs) and associates missed and the company booked an impairment of RMB 655mn.SG&A expenses were better than our expectation and net loss excluding equity income and impairment narrowed by RMB 700mn QoQ. Unexpected impairment in 3Q22 reminds investors of FY16-17 when impairment resulted in many earnings surprises. We also raise our forecast for FY22E impairment from RMB 1bn to RMB 1.2bn, as we believe another round of impairment in 4Q22 is likely.
　　GAC Toyota’s 3Q22 earnings miss could be a signal for next year.Management attributes equity income QoQ decline mainly to GAC Toyota, as it increased incentives to dealers. Based on our channel checks with GAC Toyota dealers, the lifted incentives in 3Q22 were to compensate dealers’ loss in 2Q22. The incentives for 4Q22 should be similar or slightly higher than 3Q22 in a bid to achieve the 1mn sales volume target. Although we projected price war in Aug 2022, GAC Toyota’s profit decline was still larger than we had expected, especially as GAC Toyota recorded an all-time high net margin in 1H22. We lower our forecasts for FY22-23E equity income by 5% and 4%, respectively. Yet, we believe Toyota is better positioned than most foreign brands in China.
　　Valuation/Key risks. We use sum-of-the-parts (SOTP) valuation to factor in Aion’s planned spin-off. We value Aion HK$ 3.7 per share, based on 1.0x FY23E P/S given it is still loss-making and current P/S valuation of 1-2x for the NEV trio. We value HK$ 4.2 per share for JVs and associates based on 3.0x our FY23E P/E, which is equivalent to a very conservative dividend discount model assuming equity income to decline YoY significantly from FY25E and become 0 in FY30E. We value 0 for Trumpchi. Accordingly, we maintain BUY rating and target price of HK$ 8.00. Key risks to our rating and target price include lower sales volume and margins at GAC especially for Aion and a sector de-rating.