Although China Meidong Auto’s 1H22 net profit missed our prior forecast, sales volume from StarChase significantly beat our expectation, which provides huge profit improvement potential in 2H22, especially as we estimate StarChase’s new- car gross margin was still about 3 ppts lower than Meidong’s other Porsche stores’.
　　1H22 earnings miss on new-car gross margin. Apart from some non-　operating costs that we did not expect, the net profit miss in 1H22 was mainly from new-car gross margin (5.8% vs. our forecast of 6.3%). As sales volume from StarChase significantly beat our prior forecast, the margin dent was also more severe than our expectation.
　　StarChase still key to 2H22 earnings. We estimate sales volume from　StarChase to be 1,500+ units in May-Jun 2022. Based on its net profit of RMB 83mn, we derive new-car gross margin at StarChase since consolidation was about 3 ppts lower than Meidong’s other Porsche stores’. That provides huge profit improvement potential for the company, should Meidong be able to lift its new-car gross margin significantly. We project Meidong’s Porsche sales volume (including StarChase) to reach 12,000 units in FY22E and expect StarChase to contribute about RMB 270mn in net profit in 2H22.
　　Partnership with new EV brands to watch. Management mentioned that　Meidong would start to work with some NEV start-ups in both new-car sales and after-sales service from 2H22 during the non-deal roadshow that we host.Although it is more like a pilot program with little financial impact in the short term, it could be foundation for future profit growth amid electrification. We agree with management that choosing a right brand to work with is more important than choosing an early time to enter as a dealer.
　　Earnings/valuation. We assume macro uncertainties to linger in 2H22 and thus project net profit of RMB 750mn in 2H22. We are of the view that there are more room for profit improvement for StarChase, including new-car gross margin and after-sales service. Therefore, we project net profit to rise 65% YoY to RMB 1.8bn in FY23E. We maintain BUY rating but lower our target price from HK$ 40.00 to HK$ 25.00, based on 15x (prior 20x) of our revised FY23E EPS estimates to account for uncertainties from both macro and dealer business model. Key risks to our rating and target price include lower sales and/or margins, slower store expansion than our expectation, as well as a sector de-rating.