We visited the gearbox and sapphire substrate factory of China High Speed Transmission Equipment (CHSTE, 658 HK/HK$5.70, NR) in Nanjing, Jiangsu, on 16 July. The management expects 20% YoY growth for wind gearboxes, flat growth for traditional gearboxes, and breakeven for its sapphire wafer business. The company is expected to deliver profit turnaround in 1H14.
Key Takeaways
Wind gearbox business
Maintaining 20% growth guidance with confidence in its gross margin. It reaffirmed its guidance for 20% YoY growth in 9GW gearbox shipments in 2014, and 10% YoY growth next year. Management is confident that its gross margin can be kept at 29% this year at least. Although CHSTE has no plan to increase its 10-11GW gearbox capacity, the company does not expect a capacity bottleneck if demand beats their expectation, as it could lease idle capacity from other gearbox companies. The company applies a two-shift system for workers, which means its equipment generally runs for 16 hours a day.
More shipments of multi-MW gearboxes. Although the company has not increased its product selling prices, its gross margin is supported by the larger sales of multi-MW gearboxes (2MW-5MW), which normally carry a higher gross margin. The management guided that 40-50% of the gearbox shipments this year will come from WTG of more than 1.5MW, which should be the key support for the company’s gross margin this year. The company has launched commercial production for 3MW gearboxes (149 units in 2013) and been able to deliver 5-6MW ones this year, while there is no more capex need for such production. Compared to direct driver WTG, management considers double-fed WTG to be more sophisticated and believes it will be able to garner a 65% market share. However, CHSTE holds cautious views on China’s offshore wind power development.
Overseas business growth expected at 30-40% YoY this year. Its overseas business accounts for 25-30%. CHSTE expects to have 25-30% of its shipments (that is, 2.25-2.7GW) to the US, and will start its shipments to Alstom SA (ALO FP/€27.75, NR) this year in the Spanish market as it forays into the European market (with expected contribution of RMB100m this year). The company has become one of the key suppliers of General Electric (GE US/US$26.61, NR), and signed an MOU with GE to supply the gearboxes for 50% of its WTG capacity (GE’s annual shipments at around 4,500-5,000MW per year). Despite the narrowing of its price discount to 4-5% compared with overseas competitors (the discount was 25% previously), management still expects to deliver 30-40% growth in overseas shipments and is positive on further market share expansion. CHSTE has signed a contract with Alstom to deliver gearboxes for their WTG installed in Spain. Such business expansion is the fruit of the two companies’ early cooperation in urban light rails.
Financials
Accounts receivable likely to improve in 2014. The management sees its cash flow as getting better after collecting some delayed accounts receivable this year, but maintains the tight payment terms for non-SOE turbine companies and Sinovel Wind Group (601558 CH/RMB2.98, NR). Overseas customers enjoy longer t idhih it d 90120 d Financial cost increase to 7.5% could be a concern. CHSTE expects general financial interest cost at 7.5% this year, and wishes to tap offshore funding to lower its financial cost. The company projects financial cost hike this year as the RMB500m corporate note issued this year carries an 8.5% interest rate compared to 6.2% for the same amount last year.
Sapphire wafer business
Its sapphire wafer business is expected to break even in 2014. The company believes it is the largest LED substrate company in China, and one of the few which could export four-inch sapphire wafers to overseas customers. Management saw the ASP of two-inch sapphire wafers rebound 18% YoY to US$7/piece currently from US$6.1/piece last year given the demand pick-up in LED. It also believes this business will break even in 2014, but further profit improvement will require more capex on ingot capacity ramp-up. CHSTE has hired a professional team from Taiwan for wafer production, whereas the ingot production team is trained in-house.
Capacity able to supply four-inch LED substrate. Nanjing J-Crystal is a wholly- owned subsidiary of CHSTE, and has annual capacity equivalent to 7.2m two-inch pieces currently (four-inch capacity equals four times two-inch capacity). Current shipments are 300,000 pieces/month for two-inch wafers and 75,000 pieces/month for four-inch wafers. The company’s own ingot capacity covers 1/4 of its wafer production (monthly production of 5,100kg of sapphire ingots equals 150,000 pieces of two-inch wafers). The company’s ingot production base is in Baotou, Inner Mongolia, and the production uses the Kyropoulos method (KY method) to produce ingots of 85kg.
Still cautious on demand for cell-phone screens. Management currently holds a conservative view on the demand for cell-phone screens, as the price of a sapphire screen (about US$30/piece) made with the KY method is 10x more expensive than that of a glass screen (about US$2/piece), and the yield of the CZ method for making iPhone screens is low. There are two methods of sapphire ingot production, namely the KY method and the CZ method. The former is popular and involves sophisticated technology for LED substrate production to achieve its stable quality, while the CZ method is able to lower cost but results in less stable quality.