QSLI:Leading potash producer at premium valuation;initiating with Hold

Initiating with Hold and price target of RMB22.2

    We initiate on QSLI with a Hold and a PT of RMB22.2. The potash balance isset to deteriorate for the next five years with upcoming new capacity, leadingto a 9.6% cut in global utilization rates. After falling 14% in 2015E, QSLI’s EPSshould recover this year driven by a 43% increase in capacity and a narrowingof chemicals losses. However, the current valuation prevents us from beingmore bullish and largely reflects the upcoming positives, in our view.

    Potash capacity +43% in 2016E; chemical segment benefits from gas price cut

    QSLI’s new potash capacity will come on-stream in 2H16E, increasing its totalcapacity by 43% to 5.0mnpta. However, the growth in 2016E will be partiallyoffset by weakening potash fundamentals. Following the RMB0.7/cm gas pricecut in Nov 2015, we expect the chemical segment loss to narrow in 2016E.QSLI has used c.600mcm of gas in 2015E, which will reach 800mcm assumingfull operations. We expect chemicals’ gross loss margin to narrow from -29%in 2015E to c.-1% in 2016E.

    What could make us turn more bullish?

    The key earnings drivers for QSLI are potash prices and chemical products.The global potash utilization rate is set to drop in 2016E, with new capacity tooutpace demand growth. We could turn positive if 1) new global potashcapacity is delayed or production discipline emerges; 2) the gas price is cutfurther; 3) the lithium and magnesium business expands; 4) non-core assetsare divested; or 5) the equity issuance price is higher than expected.

    Valuation and risks

    The stock trades at 25x /1.4x 2016E P/E and P/B, at a 164% premium to theaverage of its global peers on a P/E basis but a 19% discount on P/B. Our pricetarget of RMB22.2is based on DCF with a WACC of 6.3% (based on a beta of0.91, ERP of 5.6%, RFR of 3.9%) and terminal growth of 2%. The major risks toassumptions are volatility in potash/chemical prices, and sales volumes.