XYS’s 2H23 results were as a strong beat as its 1H23 results were disappointing. Looking ahead, its upcoming expansion in Malaysia could come at the prime time when ex-China solar value chain premium is extending from polysilicon to solar glass. The company’s adamant expansion plan for 2024 (+35.2% output YoY) is facing demand uncertainties, in our view, but the ambitious plan may scare off competition as well. Considering the valuation metrics remain attractive after the post-results rally, we upgrade XYS to BUY rating with a higher TP of HK$6.60.
　　Key Factors for Rating
　　Results review. XYS’s 2H net profit of 2,795m (+46% YoY) was c.29% above estimates, mainly driven by an unexpected 11.2ppts HoH improvement in solar glass GPM. It is difficult to reverse-engineer the HoH jump in margins with ASP and input price data points, but the same also applies to its lower-than-peer 1H margins. It may be fair to say that its full-year margin of 21.4% more accurately reflects the full picture of solar glass S/D during the year.
Expansion strategy vs demand outlook. XYS’s 2024 solar glass expansion plan and output guidance surprised us on the upside. The management expects to launch 6 new furnaces this year in Malaysia and Anhui province, with actual output expected to increase by 35% YoY despite discouraging demand in the past two months. The guidance is based on the management’s optimism on 2024 solar PV demand to grow by 20-30% YoY globally. This is stronger than most module producers’ forecasts, who should have more visibility or longer- term order book compared to solar glass makers, in our view.
　　Overseas. The global solar value chain is reshaping quickly due to the policy- driven segregated markets. The US market enjoys a distinct premium that attracts both UFLPA- and AD/CVD-compliant module shipment from outside China and new investment in its domestic manufacturing. The total overseas solar glass capacity is c.5,550 tonnes per day (tpd) based on our database, which satisfy 33GWdc module - lower than estimated US demand of 43GWdc. Longi (601012 CH, NR) has just launched its 5GW JV plant in Ohio in early 2024, further driving up overseas solar glass demand. XYS would more than double its overseas capacity in 1H24 after igniting two new furnaces in Malaysia with 2,400tpd capacity. We expect the overseas margin to support XYS’s overall margin despite weak 1Q24 S/D has pushed up inventories and eliminated 2.0mm glass premium over 3.2mm.
　　Trade on destocking cycle coupled with cost weakness. Solar glass inventory has ended 21-week streak of rising and dropped by 2% WoW last week after demand recovered after CNY holiday. We expect the destocking to last for a few weeks and into 2Q24, when solar glass price may see an uptick in April and boost investor sentiment. Meanwhile, soda ash, one of solar glass’s key raw material, may trade lower in the coming weeks as well. Coupled with off- peak pricing of natural gas, we believe a trading window is open for leading solar glass names such as XYS.
　　We upgrade XYS from HOLD to BUY rating on its undemanding valuations and potential fundamental turnaround in 2Q24. Our new SOTP-based TP is lifted to HK$6.60, implying 11x 2024E P/E and 34% upside. XYS is currently trading at 8x 2024E P/E and 6% dividend yield, which we deem as attractive.
　　Key Risks for Rating
　　Lower-than-expected solar PV module demand;
　　Faster-than-expected industry capacity expansion;
　　Higher-than-expected cost inflation.