Cangzhou Mingzhu:Initiating with Buy for exposure to separator demand

Aggressive expanding separator and mild improving pipe; initiating with Buy

    Separators: expanding capacity three-fold to catch up with strong demand CZMZ is expanding separator capacity three-fold to catch up with strong demand from EV battery supply chain at a CAGR of 30%. This accounts for c.25% of gross profit in 2017, rising to 41% by 2019E and underpins our positive outlook on the company. Separately, it has a consistently strong plastic pipe business (c.40% of gross profit) which will benefit from coal-to-gas switch projects and may increase volume at a CAGR of c.15% in the next three years. The BOPA business (c.35% of gross profit) will likely see profitability decline but the strong separator and pipe operations should boost its bottom line at 21%/13% YoY in FY17/18E. We initiate coverage with a Buy.

    Separators: expanding capacity three-fold to catch up with strong demand

    We believe that the separator industry will continue to face a supply shortage over the next few years due to strong demand and a lack of quality producers, able to provide large scale volume. CZMZ has decided to increase its capacity three-fold by 2019, increasing its global market share from 4% in 2016 to 6% in 2019. Although pricing for industrial separators could continue to decline, CZMZ is likely to maintain high margins above 50% in the next three years, with: 1) cost cuts from technology improvements and economies of scale; and 2) more value-add through coating.

    Pipe business: a major beneficiary of ‘coal-to-gas switch’ projects

    The traditional plastic pipe business grew at 25% YoY in 2016, when ‘coal-to-gas switch’ projects were being constructed in Northern China to deal with the smog issue. CZMZ may continue to be one of the major beneficiaries of ‘coal-to-gas switch’ projects in the next three years due to: 1) geographic advantage within the c.500km transportation radius of plastic pipes; 2) capability of providing a full set of pipe products including connectors, which require higher manufacturing technology; and 3) strong client relationships.

    High visibility growth with a CAGR of 17% 2017-18E; initiating with Buy

    The BOPA business has outperformed since 2016, the result of an unbalanced market demand/supply after the exit of a major player. However, we believe that super high profitability will revert back to the historical long-term average level of c.15% when more supply is added. Despite this, the strong expanding separator and improving pipe business should boost the bottom line at CZMZ with a CAGR of 17% in 2017-18E and keep ROEs c.20%. We set our target price at RMB26, based on 25x FY18E EPS, which is the average of lithium battery components industry, implying 24% upside potential. Major risks: significant EV subsidy policy changes; capacity expansion being slower than expected (cf p.5).