1H18 results miss expectations
　　Fufeng Group announced 1H18 results: Revenue rose 6.4% YoY toRmb6.6bn. Net profit attributable to shareholders declined 51% YoYto Rmb315mn, or Rmb0.12 per share. The results missed ourexpectations, with gross margin declining 5.6ppt due to: 1） erosion ofMSG and starch sweetener profitability, as costs of major rawmaterials like corn kernels and coal rose significantly; and 2） a drop inproduct prices amid weak demand for threonine.
　　Trends to watch
　　Profitability to improve in 2H18 as environmental inspections limitMSG supply and support prices. With inventory extremely low andindustry utilization rates averaging 50%, MSG prices have risensharply since July, even in the slack season. Fufeng and its peers needtime to increase utilization, and we expect MSG prices to remain highin 2H18, significantly boosting the firm’s gross profit.
　　Xanthan gum volume and prices rise on demand recovery. Oil rigcounts are gradually increasing as oil prices recover, which shouldsupport demand for xanthan gum. We believe the worst has passedand xanthan gum gross margins will improve from here.
　　Longjiang base phase II to start trial production in 4Q18, contributemore in future. Phase II （300,000 tonnes of annual starch sweetenercapacity and 200,000 tonnes of lysine） of the Longjiang base shouldfurther enrich Fufeng’s product offerings and scale advantages.
　　Earnings forecast
　　We raise our 2018 EPS forecast by 33% from Rmb0.57 to Rmb0.76 toreflect the sale of land in Baoji in August, which should result in aone-off gain of Rmb1bn and bolster MSG profitability in 2H18.Meanwhile, we lower our 2019 earnings forecast 10% from Rmb0.66to Rmb0.59 to reflect weak threonine and lysine prices.
　　Valuation and recommendation
　　The stock is trading at 4.4x 2018e and 5.6x 2019e P/E. Maintain HOLDand HKD5.4 target price （5.8 2018e and 7.4 2019e P/E; 33% upside）。
　　Risks
　　Soaring raw material prices, lower MSG prices, falling valuations