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DBS Group Research Summary: Baoshan Iron & Steel Co-A (26 August 2015)

Core Content

• Equity Rating: BUY
• Last Traded Price: RMB5.50
• Price Target: RMB9.09 (65% upside from current price)
• Previous Price Target: RMB10.50
• Potential Catalysts:
  • Potential listing of the e-commerce business
  • Better-than-expected gross profit margin

Key Financial Forecasts and Valuation

• New Price Target Rationale:
  • 1.3x FY15F P/BV
  • 36.6x FY15F PE (including FX losses)
  • 27x FY15F PE (based on core earnings)
• Target Market Cap: RMB149bn
  • Steel business: RMB90.6bn (RMB6.03/sh), 0.78x FY15F P/BV
  • E-commerce business: RMB50.5bn (RMB3.06/sh), 1.7x FY15F P/Sales

Company Overview

• Industry: Basic Materials
• Sector: Industrial Metals
• Headquartered: Shanghai
• Crude Steel Output: 24mt.p.a. by end-2014
• Finished Steel Output: 22mt.p.a. by end-2014
• Market Share:
  • High-end automotive steel: 50%
  • Home appliance steel: 27%
  • High-end oriental silicon steel: 47%
  • Non-standard oil pipes: 26%

E-commerce Business

• Strategic Development: Initiated in 2013 with the Shanghai Steel Trading Center
• Internet Sales Growth:
  • 1H15: 2.91mt, up 63% y-o-y
  • 1H15 sales revenue: RMB7.7bn, up 27% y-o-y
• Online Payment Service: Eastern Tenpay achieved RMB18.5bn in third-party payments
• E-commerce Platform: Ouyeel granted up to 50mt warehouse storage capacity and RMB160bn unused bank credit facility

Earnings and Performance

• 1H15 Earnings:
  • Net profit: RMB3,174mn, up 1% y-o-y
  • Gross profit: RMB9,002mn, 10% below expectations
  • Sales volume: 10.7mt, down 5% y-o-y
  • Sales revenue: RMB80.9bn, down 17% y-o-y
• Unit GP: RMB585/t (up 9% y-o-y)
• Unit Production Cost: RMB3,434/t (down 18% y-o-y)
• ASP: RMB4,019/t (down 15% y-o-y)

Earnings Revision

• FY15/16F Earnings Cut:
  • 40% for FY15F
  • 19% for FY16F
• Reason:
  • RMB2bn FX loss in 3Q15 due to Rmb:USD depreciation
  • Lower full-year steel GP estimates (RMB537/t vs RMB579/t)
• Hedged USD Debts: RMB5bn

Investment Thesis

• Maintain BUY: Despite the earnings correction, the company is still viewed as a strong buy
• Key Drivers:
  • E-commerce growth on track
  • Potential listing of e-commerce business
• Valuation Adjustments:
  • Revised TP reflects lower earnings and FX impact
  • E-commerce valuation based on 1.7x P/Sales

Peer Comparison

Key Assumptions

Sensitivity Analysis

• GP Margin ±0.1%: Net Profit ±3.5%
• Margins Trend:
  • Gross Margins: 9.0% (1H15)
  • Opg Profit Margins: 5.6% (1H15)
  • Net Profit Margins: 4.6% (1H15)

Risks

• Business and Operation Risks:
  • Strong competition in high-end auto steel amid slower demand growth
  • Zhenjiang business operations below expectations
  • Intensifying competition in steel e-commerce

Balance Sheet Highlights

Cash Flow Highlights

Summary of Key Points

• Baosteel is a leading steel producer in China and Asia with significant market share in various steel products.
• E-commerce business is growing rapidly, contributing to 10% of total turnover.
• Despite 1H15 earnings slightly below expectations, the e-commerce growth remains on track.
• FY15/16F earnings are revised downward due to FX losses and lower steel GP estimates.
• The price target is revised to RMB9.09, reflecting the new earnings assumptions and market valuation.
• The company faces competitive pressures in high-end auto steel and steel e-commerce.
• Valuation based on both steel and e-commerce segments is optimistic, with the e-commerce segment showing strong potential.