Action
Fufeng Group announced 2017 results: Revenue rose 10.4% to Rmb13bn; net profit rose 26.5% to Rmb1.38bn, or Rmb0.54/share, inline with our expectation. Expecting weak MSG prices in 2018, wedowngrade Fufeng to HOLD and cut our target to HK$5.4.
What’s changed?
MSG supply & demand balance deteriorating. After Fufeng’stechnological upgrades, we expect domestic MSG productioncapacity to grow 5.2% to 3.00mn tonnes in 2018 from 2.85mntonnes at end-2017. Meanwhile, capacity utilization rate atEPPEN （200,000t/annually） has jumped from 20% to 70% andcould rise further. Demand growth is likely to hold around 2%,making ASP hikes difficult.
Rising raw material prices to weigh on MSG and other aminoacid gross margins. MSG-corn spreads averaged a respectiveRmb3,530, Rmb2,933, Rmb2,839 and Rmb4,003 in 1–4Q17 andhave narrowed 23% QoQ and 13% YoY YTD to Rmb3,065. Weexpect Fufeng’s blended gross margin to slip 0.9ppt to 22% in2018.
How do we differ from the market? Our agriculture team expectsaverage corn prices to increase 8% in 2018. With new capacity （starchsweeteners, threonine, etc.） coming on the market, Fufeng shoulddeliver decent revenue growth, but earnings growth will likely slowdue to ASP pressure and cost hikes.
Potential catalysts: Rising ASPs for major products; falling corn pricesFinancials and valuation
To reflect likely declines in MSG prices and Fufeng’s gross margin, welower our 2018 MSG price assumption to Rmb6,700/t （including tax）。
We cut our 2018 EPS forecast 15% to Rmb0.57 and introduce a 2019EPS estimate of Rmb0.66. Fufeng is trading at 6.8x 2018e and 5.9x2019e P/E. Downgrade to HOLD and cut TP 13% to HK$5.4（equivalent to 7.5x 2018e and 6.5x 2019e P/E）。
Risks
Falling prices of major products; rapid rise in corn prices; decliningsector valuation.