20140106-新鸿基金融集团-Research_Idea__Don_t_Get_Caught_In_The_Value_Trap_14页_1mb

Harbin Electric (1133.HK) Summary

Core Content

Harbin Electric (1133.HK) is a Chinese power generation equipment company that operates in several segments including thermal power equipment, hydro power equipment, nuclear power equipment, ancillary equipment, and AC/DC motors. The report provides a Sell rating with a 12-month price target of HK$4.00, indicating a 19% downside from current levels.

Main Points

1. Thermal Pricing Pressure Is Here To Stay

• Thermal power equipment is facing structural pricing pressure, leading to declining ASPs and increased competition.
• Harbin is most exposed to the thermal power segment, which is experiencing negative margin trends.
• A 100 bps decline in thermal margins is estimated to reduce Harbin's EPS by -13% for 2013E.
• Pricing pressure is expected to continue, and we do not foresee a significant reversal in the near term.
• The company's profit warning on Friday highlights the risks to its fundamentals.

2. Nuclear Landscape To Remain Challenged

• While Harbin is well-positioned for Gen-III nuclear technology, the nuclear business is still in its infancy.
• Government focus remains on safety and regulatory review, which could delay nuclear projects.
• Sanmen 2 is expected to start production in Q3 or Q4 of 2015, but the review process for nuclear projects is a key uncertainty.
• The nuclear capacity target for 2020 is 58 GW under operation and 30 GW under construction, but the timeline for expansion is uncertain.
• Benefits from nuclear growth are expected to come in 2015, but near-term catalysts are limited.

3. Fundamental Drags Remain In Place

• Harbin's fundamental metrics are weaker than its peers:
  • ROE is expected to decline from 12.5% in 2012 to 7.0% in 2015E.
  • ROA is projected to fall from 2.7% in 2012 to 1.5% in 2015E.
  • FCF yield is expected to improve from -8% in 2012 to 5% in 2014E and 1% in 2015E.
  • Days sales outstanding (DSO) and cash conversion cycle (CCC) are higher than peers, indicating poor liquidity management.
• The stock has historically underperformed in the first quarter and is discounted compared to global peers and competitors like Dongfang Electric and SEG.

Key Information

• Current Price: HK$4.88
• Market Cap: HK$6,719M (US$866M)
• Free Float: 96.7%
• 3M Avg. Turnover: HK$18.7M (US$2.5M)
• Valuation Scenarios:
  • Upside: HK$5.75 (0.7x 2015E BVPS)
  • Base Case: HK$4.00 (0.5x 2015E BVPS)
  • Downside: HK$3.00 (0.4x 2015E BVPS)
• Valuation Metrics:
  • P/E 2014E: 5.8x (vs. global peers at 12.1x)
  • P/B 2014E: 0.4x (vs. global peers at 0.8x)
• Performance:
  • YTD: -3% (vs. HSI -2%, global peers -3%, Dongfang and SEG -3%)
  • 1Q Performance: -6.5% on average (vs. HSI -5.7%)

Valuation Table

Summary of Key Financials

Risks

• Faster than expected margin improvement
• Faster than anticipated coal-fired equipment ASP recovery
• Shorter than expected nuclear postponement time frame
• Longer than expected nuclear capability build out
• Lack of clear management guidance

Conclusion

Harbin Electric is rated a Sell due to its high exposure to the declining thermal power equipment segment, challenging nuclear growth prospects, and underperforming fundamentals. While the stock is relatively cheap, the downside risks and poor cash flow generation outweigh the potential for growth. The company is expected to underperform its peers in the near term and remain undervalued unless there is a material improvement in thermal margins or a faster-than-expected nuclear project approval.