We expect Zhongsheng’s new-car sales business to restore growth in 2023 driven by luxury brands, while sales of mid-to high-end brands may further shrink considering the product cycles of Japanese brands.We expect revenue of after-sales services likely to resume double-digit growth in 2023 after the potential miss last year due to plummeted maintenance and repairs in 2H22 amid tightening COVID policies.Thanks to favourable policies and Zhongsheng’s early-mover initiatives in used-car field, we reckon its pre-owned vehicle business will soon replace new-car business as the primary growth driver.Despite slower top-line growth for next development stage, we favour Zhongsheng’s refreshed story with a focus on meticulous internal management epitomised by pre-owned vehicle business. Maintain BUY.
　　Key Factors for Rating
　　Despite slight dip in new-car sales volume last year, brand portfolio further optimised. In 2022, traditional premium market was hit by the accelerated electrification trend and COVID lockdowns. For key luxury brands operated by Zhongsheng, except Benz with flattish retail sales growth, BMW, Audi and Lexus all posted negative growth in 2022, within which Audi and BMW fell 6-7% while Lexus dropped larger at 16.5%. We expect Zhongsheng’s new- car sales of luxury brands to outperform the industry with positive YoY growth.However, owing to sales decline of mid-to high-end brands, we estimate overall new-car sales volume to drop 2% YoY to 515k units in 2022. For 2023, we expect Zhongsheng’s new-car sales business to restore growth driven by luxury brands, while sales of mid-to high-end brands may further shrink considering the product cycles of Japanese brands.
　　2022 after-sales services revenue may miss expectation on COVID lockdowns and control. Thanks to the launch of Worry Free Vehicle Maintenance PLUS ( 养 车 无 忧 ) in 2Q22, Zhongsheng’s after-sales services outperformed peers in 1H22. However, dragged by tightening COVID control measures, the frequency of maintenance and repairs plunged in 2H22, which we expect may dent after-sales services revenue on both YoY and HoH bases.
　　Looking into 2023, along with China’s reopening following its three-year Zero- COVID policy, we expect after-sales services to resume double-digit revenue growth with decent profitability. On the promotion of after-sales management, Zhongsheng focuses on reducing costs and improving efficiency. We believe its effective actions like integration of c.20 paint spray stores into one centre in Dalian may extend to other regions.
　　Pre-owned vehicle business set to witness robust growth following the latest policies removing all restrictions on used-car trading. Since 2021, the government has made great efforts to remove restrictions on pre-owned vehicle trading as a key part to revive automobile consumption, which includes abolishing the restriction policy of used-car relocation and resolving the VAT issue for dealers. We treat pre-owned vehicle business as an independent business for dealers without interference from OEM, but relying on dealers’ comprehensive capabilities in resources management in multiple aspects such as customer, vehicles and capitals. Last year, Zhongsheng commenced eight Used Car Centres (UCC) nationwide, efficiently integrating core elements into second-car sales, ie. goods (vehicle accessibility), people (customer base) and place (stores and operational support), ahead of other peers. Following the favourable policy stimulus and Zhongsheng’s early-mover advantage in used-car sales market, we reckon its pre-owned vehicle business will soon replace new- car business as its primary growth driver. We also anticipate the trade volume for used cars to reach 180k units or above with a 25%+ YoY leap in 2023.
　　Earnings Forecast and Valuation
　　We trimmed our 2022E-24E net profit forecasts by 16%-21% to RMB 6.6bn/8.1bn/9.1bn, respectively, to reflect the lower new-car sales volume estimates and lower new-car sales margin assumption coupled with less contribution from after-sales revenue. Confronted with enormous challenges from tightening COVID-19 control measures and lockdowns, Zhongsheng’s earnings were depressed in 2022, similar to all other listed dealer groups.
　　Looking ahead, we expect the company’s to restore normalised growth, hopefully bolstered by pre-owned vehicle business from a strategic transition view. In terms of brand mix for new-car sales, we expect the company to maintain its leading dealership position for Lexus/Benz/Toyota, and further enhance its presence in BMW which it only owns 5-6% market share in China.
　　Currently, its shares are trading at 11.1x 2023E P/E, below historical average of 15x. We slightly nudged down our TP to HK$58, based on 15x 2023E P/E. We acknowledge its top-line growth may slow due to a string of factors such as i) weakening demand for traditional luxury brands on the sector level; and ii) Zhongsheng’s strong revenue base as the largest auto dealership in China.
　　Nevertheless, we believe it is rewriting a high-quality growth story with a focus on meticulous internal management epitomised by the deployment of pre-owned vehicle business, other than riding through the China’s premium market boom over the past several years. Maintain BUY rating.