Zhengtong hosted a conference call earlier today after the release of 3Q17 resultsfor Wuhan Zhengtong United, its core earnings contributor. Our key takeawaysare as follows:
In 3Q17, Zhengtong United's operating revenue increased 37.1% YoY toRMB10.5bn （with RMB9.0bn revenue for new car sales and RMB1.2bnfor after-sales） and its net profit surged 2.1x YoY to RMB348m. This doesnot include the profit from Dongzheng Auto Financing, another subsidiaryof Zhengtong.
Management attributes the jump in net profit to 1） better-than-expectednew car sales volume （28,854 units in 3Q17）； 2） improvement in newcar sales margin; 3） strong growth in after-sales business with increasingthroughputs; and 4） commission income growth for extended servicessuch as insurance.
To elaborate on the new car business, Zhengtong's core brand portfolioachieved more than 80% of the annual sales target in 9M17 and with ASPresilience. On an individual brand basis, the company expects to sustaina decent margin of above 4% for the BMW brand, driven by the new 5-series ramp-up. Besides this, sales momentum at Audi brand stores hasimproved significantly since 3Q17.
Regarding Dongzheng, its capital increase was completed and theoutstanding loan size was about RMB6.5bn as at the end of 3Q17.
Zhengtong targets to grow the loan size to RMB10bn by end 2017 andto RMB30bn by end 2018.
DB view: 9M17 beat expectations; Zhengtong is our preference among dealersZhengtong United's 9M17 profit is more than 90% of our FY17 earnings forecastfor the entire Zhengtong （including Dongzheng）。 Thus, we were conservative inour original earnings expectation. In summary, we believe that 1） Zhengtong canbenefit from stronger-than-expected premium car pricing, and 2） it can take fulladvantage of booming China auto finance demand. We increase our FY17-19revenue forecasts for the company by 0.2-0.8% on slightly higher new car ASPassumptions. We also raise our FY17-19 net profit estimates by 10.1-14.7%,considering higher new car sales margin assumptions.
Our new DCF-derived target price of HKD9.5 （vs. HKD9.1 previously） assumes aWACC of 9.7% （a 3.9% risk-free rate, a 5.6% market risk premium and 1.3 beta）and 1% terminal growth, on our view of a mature growth rate for Chinese autodealers' incomes. This implies FY18E P/E of 13.0x. We believe this is justifiedas we expect Zhengtong to deliver a 51% FY16-19E three-year fully diluted EPSCAGR. The implies an FY18E P/BV target of 1.8x, which appears reasonable,in our view, with a 14-15% forecast sustainable ROE. We maintain our Buy onZhengtong, considering: 1） a new-car business recovery in FY17E and 2） the rampupof its auto financing business. It is our only Buy in the Chinese auto dealersector. Key downside risks: a weakening new-car margin, slow auto financingloan growth and rising NPL ratios.