1H20 results in line with earnings alert
1H20 revenue declined 19.4% YoY to Rmb8.21bn; net profit dropped97.8% YoY to Rmb10.5mn. This is in line with the earnings alert.
Apparel brands’ shipment delay and order cut weighs on upstreamOEMs. Yarn, as its core business segment, accounted for 75.9% of itstotal revenue and recorded a 19.3% decline, of which volumedropped 9.8% and ASP decreased 10.6% YoY. Given demand sideuncertainty and prior years’ capacity expansion, the capacityoccupancy rate became Texhong’s top priority. This led to thecompany shifting to an unfavorable product mix shift and resulted inASP headwinds and a segment GPM squeeze. By leveraging theoperating knowhow from its newly-acquired Winnitex business, thewoven garment fabrics segment contributed 13.5% of total sales andsaw margin expansion amid sales decline. The knitted garmentfabrics’ segment GPM also benefited from an internal reorganization.
In the jeans business, profitability also improved and room forexpansion still exists. The also company initiated its non-woven fabricoperation in 1H20 and saw QoQ improvement.In sum, downstream businessessaw higher stability during the pandemic, proving the necessity ofTexhong’s vertical integration as a strategic focus.
The company’s semi-annual earnings declined by Rmb461mn YoY,mainly attributable to a gross profit drop of Rmb444mn （a 2.1pptmargin squeeze）。 Administrative expense increased 18% due toWinnitex’s 6 months consolidation in 1H20 vs. 3 months in 1H19, aswell as reclassification of some costs and expenses. With theutilization its credit line as a rainy day reserve and disciplined capexand WC management, its cash balance totaled Rmb4.1bn, comparedwith Rmb1.8bn at the year beginning.
Trends to watch
Texhong guided a full-year sales decline of about 20% and a HoHimprovement based on a recovery since July. It also expects anormalized debt level at year-end and a tight annual capacity budget（Rmb400–500mn）。 Internationalization and vertical integrationremain its long-term core strategy.
Financials and valuation
Due to orders cut, we cut our 2020 and 2021 EPS forecasts 62% and45% to Rmb0.45 and Rmb0.76 on the company’s updated guidance.
The stock is trading at 12x 2020 and 7x 2021 P/E. MaintainOUTPERFORM and slightly cut TP 6% to HK$7.90 as the outbreak is aone-off effect （roll over to 9x 2021 P/E）， offering 28% upside. Risks:
Uncertainty in vertical integration and end-market recovery.