20140710-光大证券-Premium_dealership_network_to_pay_off_14页_420kb

Zhongsheng Group Summary

Core Content

Zhongsheng Group (881 HK) is a leading automobile dealership group in China, operating 178 dealership outlets as of the end of 2013. The company focuses on luxury and mid-to-high end vehicle brands, including Mercedes-Benz, Lexus, Audi, Porsche, Volkswagen, and others. It is positioned as a major player in the highly fragmented auto dealership industry, where automakers have significantly more market concentration than dealers.

Main Points

Sales and Growth

• Sales Volume: Expected to grow by 12% in 2014, reaching 220,660 units.
• Segment Growth:
  • Luxury Vehicles: Expected to grow by 20% (to 82,000 units).
  • Mid-to-High End Vehicles: Expected to grow by 8% (to 138,000 units).
• Sales Mix:
  • Luxury vehicles account for 35% of total sales in 2013.
  • Expected to increase to 40% by 2015.
• Blended ASP:
  • Expected to decline by 4-5% due to the introduction of more entry-level luxury models.
  • The gross margin for new vehicles is estimated to remain at 4.2% in 2014, while after-sale services maintain a high margin of 46.6%.

After-Sale Services

• Contribution to Profit: Accounts for 59% of total gross profit despite representing only 13% of total sales.
• Growth Potential: Expected to grow at 30% y/y over the next three years.
• Customer Base: Zhongsheng has sold 744,000 new vehicles over the past five years, building a solid foundation for after-sale services.
• Services Offered: Includes repair, maintenance, detailing, and personalized modification.

Valuation and Investment

• Target Price: HK$11.6, based on 2014E diluted EPS of Rmb0.62 and a 14.8x target PE multiple.
• Current Valuation: The 2014 PE of 12.7x is at the high end of the peer range (9.0-14.6x).
• Upside Potential: 17.2% based on the last price of HK$9.90.
• Net Gearing: Expected to drop from 141% in 2013 to 87% in 2014 due to new capital raising.

Key Information

Capital Raising

• New Shares: 238.56 million shares issued at HK$10.799, representing 11.1% of enlarged issued share capital.
• Convertible Bonds: HK$3,091.5 million worth of bonds issued at 2.85% due 2017.
• Total Proceeds: HK$5.6 billion, used for dealership network development and working capital.

Shareholder Structure

• Major Shareholders:
  • Mountain Bright: 22.67%
  • Jardine Matheson Holdings: 11.11%

Industry Outlook

• China Auto Industry:
  • Expected to grow by 8-10% in 2014, with 23.74-24.18 million units sold.
  • Passenger-vehicle sales in May grew by 13.8% y/y to 1.59 million units.
• Sales Restrictions:
  • Expected to have a limited impact, mainly on first-tier cities.
  • Second-, third- and fourth-tier cities will continue to be key growth drivers.

Impact of RRR Cut

• The RRR cut of 0.5% by the PBOC is expected to revive the auto industry and benefit auto dealers through increased auto financing and insurance services.
• This is due to the increased liquidity and lower capital costs for dealers.

Market Position

• Highly Fragmented Industry: Top ten dealers account for less than 10% of total sales.
• Concentration of Automakers: Top ten automakers account for 88% of total sales.
• Bargaining Power: Auto dealers have less bargaining power than automakers.

Growth Outlook

• New Vehicle Sales:
  • Expected to grow at 12% in 2014.
  • Projected to increase to 14% in 2015 and 14% in 2016.
• After-Sale Services:
  • Expected to grow at 27% in 2014, 24% in 2015, and 22% in 2016.
  • Will become the largest contributor to earnings.

Key Financial Metrics

Risks

• Weaker-than-expected sales or deeper discounts in the second half of 2014.
• Potential conflict between China and Japan could affect Japanese brand sales.
• Further tightening of environmental policies or vehicle purchase restrictions could impact vehicle sales.

Conclusion

Zhongsheng Group is well-positioned for growth, particularly through its after-sale services, which are expected to outpace new vehicle sales in terms of growth and contribution to earnings. Despite a decline in blended ASP, the gross margin is expected to remain stable. The company's valuation is favorable, with a Buy rating based on 17.2% upside potential. The capital raising with Jardine Strategic is a significant development, expected to reduce net gearing and enhance financial flexibility.