Beneficiary of the upcycle in China’s construction machinery industry;initiate at Buy
Initiate at Buy with TP of HK$4.30 We like Lonking for three main reasons: 1） it stands tobenefit from the current upcycle in China’s construction machinery sector; 2） product priceincreases should spur further business momentum; 3） market share gains demonstrate itscompetiveness. We forecast net profit will rise 81% and 24% respectively in 2017/18, andthat net profit will see a CAGR of 37% during 2016-19. We initiate our coverage with a Buyrating and target price of HK$4.30, based on 15x 2018E P/E and 2.0x 2018E P/B, itshistorical averages since 2006, and a 10% discount to the average 2018E P/E of itsinternational peers.
Upcycle in China’s construction machinery industry Construction machinery salesvolume in China has been on the rise since 2H16. In 9M17, loader sales volume came in at67,786 units, up 48% YoY, while excavator sales volume was 101,934units, up a substantial100% YoY. This strong sales volume has been driven by steady FAI in China’s infrastructure,property and mining sectors, and replacements of machines sold during 2010-2012, after 6-8years’ use. Meanwhile, the high utilization rate for machines currently being used shows thatdownstream demand remains robust. The previous upcycle for loaders and excavators lastedfor eight years （2004-11）， and was followed by a downcycle lasting 4.5 years （2012-1H16）。We believe China’s construction machinery industry is now in a period of recovery, andexpect the upward trend to last until at least 2020.
Product price increases will help strengthen profitability Some loader manufacturers,including Liugong Machinery （000528 CH） and Shantui Construction Machinery （000680 CH），increased their prices on Oct 1. Although Lonking has not officially made a similarannouncement, we expect it to follow suit, given strong demand. Lonking is also not ruling outa price hike for its excavators, given solid demand in 9M17. We believe an increase in ASPwould help to pass on cost pressure to clients. More importantly, this shows that demand forloaders is solid, and that an increase in volume and product prices would help to strengthenprofitability.
Ongoing increase in competitiveness The company has seen an ongoing rise in its marketshares for its two main products, loaders and excavators. Its share of the loader marketincreased from 13.7% in 2012 to 24.4% in 1H17, making it the biggest loader manufacturer inChina. Its excavator market share is small, but has expanded form 1.9% in 2012 to 2.7% in1H17.
New forklift production facility to support volume growth Continued development inChina’s logistics industry has spurred demand for forklifts. The company’s forklift productioncapacity is now operating at full capacity, and the company is building a new forklift facilitywith capacity of 15,000 units per year （58% of current capacity） in Yixing, and targets to beginoperation by the end of 2017.
Targeting 20% YoY revenue growth in its overseas business in the next few years Thecompany’s proportion of sales from overseas markets is small, accounting for just 7.4% oftotal revenue in 1H17. But with demand related to the One Belt One Road initiative,management aims to achieve 20% YoY revenue growth in its overseas business in the nextfew years.
Key risks: 1） Reliance on the Chinese economy; 2） Slowdown in China’s FAI; 3） Weakerthan-expected replacement demand; 4） Greater-than-expected cost pressure.