20160601-大和证券-中滔环保-01363.HK-Moving_into_the_marine-transport_WWT_business_12页_1mb

Summary of CTE Document Analysis

Core Content

CTE (CT Environmental) is expanding into the marine-transport wastewater treatment (WWT) segment, specifically focusing on vessel and port wastewater, including river-bed extraction. This move is driven by the anticipation of government regulations on vessel wastewater, expected to be finalized by the end of 2016/2017, which could create a significant new market in China.

The company has started partial operations at its new Nansha plant, which has a capacity of 500ktpa for vessel and port WWT. This plant specializes in oil-based wastewater and has potential to participate in river-clean-up projects due to the contamination of the Pearl Delta River with diesel and metallic pollutants.

CTE is also planning to expand its existing businesses through greenfield projects, including the Nansha, Longmen, and Guangxi Yulin facilities, with a total capex of CNY1.5bn earmarked for 2016. The company is expected to increase its WWT capacity by 11% YoY, sludge treatment by 30% YoY, and industrial solid waste treatment by 79% YoY in 2016.

Main Points

• New Market Opportunity: CTE is entering the marine-transport WWT market, which is expected to grow significantly due to pending government regulations.
• Nansha Plant: The new plant has started partial operations and could be a key player in the marine-transport WWT sector.
• Earnings Contribution: The plant is expected to contribute to CTE's net profit once the regulations are implemented, although minimal contribution is expected in 2016.
• Diversification: CTE is diversifying its environmental businesses, reducing dependence on a single sector and mitigating risks from potential industrial downturns.
• Capital Expenditure: The company has allocated CNY1.5bn for 2016, focusing on three major greenfield projects.
• Financial Performance: CTE's revenue and net profit are expected to grow by 1.8% and 1.9% respectively in 2016. Its core EPS is forecasted to increase by 1.9% YoY.
• Valuation: The DCF-based target price is raised to HKD2.65, implying a 2016E PER of 21x, which is higher than the average PER of 15.3x for China environmental-sector companies.
• Recommendation: CTE is upgraded to a "Buy" rating from "Outperform" due to its strong balance sheet and predictable long-term cash flows.

Key Information

• Current Share Price: HKD2.11 as of 1 June.
• Price Change: +25.5% from the previous price.
• Target Price: HKD2.65, up from HKD2.55.
• Forecasted Revenue and Net Profit (2016E): CNY2,212m and CNY683m, respectively.
• Core EPS (2016E): 0.108 CNY, up by 34.1% YoY.
• Balance Sheet: CTE has a strong balance sheet, with a significant amount of cash and a growing equity base.
• Debt and Leverage: The company's net debt to equity ratio is expected to decrease from 66.4% in 2016 to 19.5% in 2018.
• Free Cash Flow: Expected to rise significantly from 2016 to 2018, with a forecasted increase in 2018 to CNY1,033m.
• Valuation Methodology: A DCF approach is used, incorporating a WACC of 8.3%, which reflects the lower cost of debt from ADB.
• Terminal Value: Based on a 2% terminal growth rate, the estimated terminal value is CNY21,098m as of 30 June 2022.
• Risk Factors: The main risk is increased competition from state-owned enterprises (SOEs).

Financial Highlights

Key Assumptions and Forecasts

• WWT Capacity: Expected to grow from 745ktpd in 2015 to 1,045ktpd in 2018.
• Sludge Treatment Capacity: Projected to increase from 3,142tpd in 2015 to 5,031tpd in 2018.
• Utilization Rates: Expected to improve from 61% in 2015 to 75% in 2018 for WWT.
• Tariff Rates: WWT services are expected to increase from CNY2.6/tonne in 2015 to CNY3.6/tonne in 2018.
• Earnings Growth: The company is forecasted to have a net profit CAGR of 26% over 2015-2018.
• Gross Profit Margin: Expected to decrease slightly from 49.9% in 2015 to 45.0% in 2016, but stabilize around 48% by 2018.
• EBITDA Margin: Projected to decrease from 44.1% in 2015 to 39.3% in 2016, but increase back to 44.2% in 2017 and 44.0% in 2018.

Differentiation from Consensus

• EPS Forecast: Daiwa's 2016-18E EPS forecasts are 2-10% below the consensus, due to project delays and more conservative assumptions.
• Valuation: CTE is expected to trade at a higher PER than its peers due to its cash-based earnings from BOO projects.
• PEG Ratio: The PEG ratio is 0.8x for CTE, which is higher than the 0.4-0.7x range for China peers.

Investment Catalysts

• Government Regulations: Expected to be announced by end-2016/2017, creating demand for marine-transport WWT.
• River-Clean-Up Projects: CTE's Nansha plant may take a share of river-clean-up orders due to its specialization in oil-based wastewater.
• Long-Term Cash Flow: Predictable cash flow from WWT and sludge treatment businesses supports the valuation.
• 13th FYP: Detailed investment plans for the water sector are expected to be announced in 2H16-1Q17E, which could be a positive catalyst.

Conclusion

CTE is well-positioned to benefit from the emerging marine-transport WWT market and is expected to see growth in its existing businesses through greenfield projects. The company's strong balance sheet and predictable cash flows support its valuation, leading to a "Buy" rating. Despite the potential for increased competition from SOEs, the long-term growth prospects and diversification into new markets make CTE an attractive investment.