Honghua Group reported 1H18 revenue of Rmb1.1bn （+63.6% YoY） and net loss of Rmb118.4m （animprovement on a net loss of Rmb390.9m in 1H17）， in line with our expectation. Gross marginincreased 4.2ppts YoY to 16.2%, against the backdrop of oil price recovery. We are positive on thefirm’s prospects for a turnaround in 2H18 given flourishing order inflow and completion of its salesof its offshore segment. As such, we maintain our diluted EPS forecasts of Rmb0.02 in 18E （turningaround a 17A net loss）， Rmb0.07 in 19E （+250.0% YoY） and Rmb0.13 in 20E （+85.7% YoY）。 We revisedown our target price from HK$0.79 to HK$0.63 amid weak sentiment, representing 21.0x 18E PE and7.0x 19E PE. With 14.6% upside, we maintain our Outperform rating.
Solid top-line expansion. Thanks to the oil price recovery, land drilling rig sales increased by 293%YoY to Rmb649m, while oilfield services revenue increased by 130% YoY to Rmb125m, driving a 63.6%YoY top-line growth in 1H18. By the end of June 30 2018, the company has land service & equipmentorders on hand valued at Rmb5.8bn, offshore service & equipment orders worth Rmb286m andoilfield services orders worth Rmb754m, totalling Rmb6.9bn. The size of one single underbiddingorder generally exceeds US$100m, including bids for high gross margin advanced drilling machineorders （30-35%）， as well as oilfield turnkey projects （25-35%）。 The substantial orders in-hand enhancesthe visibility of future revenue growth.
Improving operating performance. Thanks to enhanced management efficiency, we note a generalimprovement in operating performance. Administration expenses came to 17.6% of revenue in 1H18（1H17: 24.3%）。 Selling and distribution expenses accounted for 7.7% of revenue in 1H18 （1H17:
23.8%）。 However, the improvement is not significant enough to push operating margin positive, andthe firm booked an operating loss of Rmb56m. Although debt-to-asset ratio increased 5ppts YoY to61% in 1H18, endorsement by state-owned enterprises as well as forex changes reduced interestexpenses by 57% YoY in 1H18.
Promising strategic sales. We expect the disposal of the firm’s offshore segment will be completedno later than 2H18. Without the company’s Rmb0.2bn operating loss in 17A and Rmb0.6bm of relatedimpairments booked in 17A, we expect the sale of the business will benefit Honghua in the long-term,by removing a substantial （66.7%） proportion of the firm’s overall net loss in 17A, and boosting itscash position, with cash received representing 155% of its end-2017 cash balance.
Maintain Outperform. We are positive that the firm will effect a turnaround in 2H18 given flourishingorder inflow and the completion of offshore segment. As such, we maintain our diluted EPS forecastof Rmb0.02 in 18E （turning around a 17A net loss）， Rmb0.07 in 19E （+250.0% YoY） and Rmb0.13 in20E （+85.7% YoY）。 We revise down our target price from HK$0.79 to HK$0.63 amid weak sentiment,representing 21.0x 18E PE and 7.0x 19E PE. With 14.6% upside, we maintain our Outperform rating.