Share Price HK$6.15
Target Price HK$6.00
Takeaways From NDR
We did a NDR with Dah Chong Hong last Friday. Management believes profit margins from car sales in China have stabilised since 1H13 and will return to the normal mid-single-digit levels in due time. The company is shifting its focus to after-sales services, including 4S dealerships and car service stations. We believe negatives have been priced in. Maintain HOLD. Target price: HK$6.00. Entry price is HK$5.20.
• Sales growing in line with store numbers. Excluding the termination of Bentley’s distributorship business and the tumble in Isuzu sales, Dah Chong Hong’s (DCH) vehicle sales remained flat yoy in 1H13. This was because same-store sales (SSS) have remained flat given rapid dealership expansion by OEMs and that DCH added only four stores in 2012 amid a tough operating environment. Looking ahead, management indicated that automobile sales would continue to grow in line with store openings.
• To add over 10 stores in 2013. DCH would accelerate store openings in 2013 given the stabilising dealership business. In 1H13, DCH acquired two Toyota dealership stores, opened seven greenfield stores (two Chevrolet, two Audi, two Toyota and a Lexus) and closed six dealerships (including FAW Jilin, Mazda, Qingling and Renault). As such, DCH added a net three dealership stores in 1H13, raising its total store count to 72 as of Jun 13. DCH has 16 dealership stores under construction, of which 10 will open in 2H13.
• Automobile margins stabilised. Automobile margins have stabilised at 2.5% in 1H13 (1H12: 3.8%, 2H12: 2.6%). Car margins in China were lower than the normal mid-single-digit levels (gross margin: 1-3%). Pricing has improved from 2H12 to 1H13, but weakened ytd due to seasonal factors. Management believed cars’ margins will return to normal in the longer term.
• Shifting focus to after-sales services. Management indicated it is shifting focus from car sales to after-sales services. In 1H13, revenue from after-sales services grew 17% yoy, outpacing car sales. The growth was driven by a 2-3% growth in service volume and a mid-teen spike in ASP. It expects revenue from after-sales services to continue to grow faster than car sales in the next few years.
. • Apart from the conventional 4S dealerships, DCH is venturing into a new service store format – independent service outlet. DCH believes customers will eventually shift from 4S dealerships to independent service outlets where prices are 30% cheaper. DCH has a client retention ratio of 70% (ie 70 out of 100 customers would return to its stores for after-market services beyond the warranty period) vs 30-40% in developed markets. Management expects the retention ratio to drop in due time.
• DCH has a chain of six independent service outlets (under MotorMech) in Guangdong that provide repair and maintenance services for vehicles of most major brands. MotorMech remains small so far as its development is reined in by the supply of auto parts, which is still monopolised by authorised dealerships of OEMs. The government is conducting an antimonopoly investigation on imported cars. If the market for auto parts in China is liberalised, this would create a huge market for DCH to exploit.
• China’s food business emerging as a new driver. Management remained optimistic on the food distribution business in China. DCH’s China food business has revenue of HK$1.2b vs HK$5b from its Hong Kong food business. Management guided that operating margin of the China food business will improve from 3% now to 5% when its revenue grows to HK$5b in the next few years. DCH now imports and sells various packaged food products in China. In 2H13, it will introduce several dairy products into the China market.
• The disappointing 1H13 results have triggered earnings downgrades and de-rating on the stock. However, we believe the stock’s underperformance (over 30% price correction from March to now) and fair valuation (12.7x 2014F PE) should have priced in the poor earnings. Looking ahead, we expect DCH’s earnings to stabilise as margins of its car dealership business in China are now so low. It is unlikely for OEMs to further push DCH’s dealerships into losses. Furthermore, other businesses are being ramped up, including after-sales services and the FMCG business.
• We keep our core net profit forecasts for 2013-15 at HK$783m (-20% yoy), HK$885m (+13% yoy) and HK$979m (+11% yoy) respectively. Our earnings estimates are 21%, 28% and 31% below consensus respectively due to our lower margin assumptions.
• Target price at HK$6.00. DCH now trades at 14.3x 2013F PE and 12.7x 2014F PE, vs its historical mean one-year forward PE of 11x and global peers’ 15x. The recent stock correction should have factored in the soft growth outlook in 2013. Our target price is HK$6.00, or 12x 2013F PE, on a par with its historical mean one-year forward PE of 11x and global peers’ 15x.
Publish date: 19/08/13