XYE announced an unexpected shake up of its long-standing dividend policy since its IPO in 2019, changing from fixed percentage of distributable income to essentially discretionary decision of the board.Interim dividend of HK$3.4 cents represents 49% payout ratio based on EOP shares outstanding, down 56% YoY. We believe the change will hurt its investment case, especially when the Fed has just pushed the interest rate to a new high. We downgrade XYE to HOLD with a lower TP of HK$2.20 to reflect its diminishing dividend appeal.
　　Key Factors for Rating
　　1H23 review. XYE’s revenue inched up 2.4% YoY against a 26.1% YoY growth of power generation, primarily due to 1) depreciating RMB, which XYE’s power sales are denominated in; 2) some projects’ tariffs are rebased to align with the subsidy verification results last year; 3) new projects are grid-parity and have lower tariffs compared to historical average. Net profit declined by 9% to HK$567m, mainly on higher interest expenses YoY.
　　Dividend policy change a negative surprise. Despite stable operations in 1H23, the major surprise came from the unexpected change in dividend policy.XYE has adopted a fixed percentage (90-100%) of its distributable income as the calculation basis for dividend since its IPO in 2019, which has offered investors sufficient visibility on its yield offering. From 1H23 onwards, however, that system will evolve into a discretion-based mechanism, under which the board will consider financial resources and funding requirement before arriving at the recommended dividend payout. For 1H23, XYE’s board recommended an interim dividend of HK$3.4 cents, down 56% YoY in absolute term and represents c.49% payout ratio based on the EOP shares outstanding.
　　Diminishing investment value. XYE was structured as an yieldco since its IPO, and granted, its major appeal to investors is its highly visible dividend offering. The rising offshore interest rate has already dampened XYE’s profitability and yield gap, and any blurring of its visibility is the least thing investors would want to see, in our view. Assuming a 55% full-year payout, we estimate XYE’s 2023 div yield at 3.4% - an almost 2% negative yield gap to 3M HIBOR of 5.3%.
　　Key Risks for Rating
　　Faster/slower-than-expected capacity expansion
　　Valuation
　　Downgrade to HOLD. While we concur XYE’s capacity expansion may accelerate and new project profitability may enhance, we believe the downside of losing dividend visibility dwarfs the potential fundamental improvements.