The 2022 results fell short of our previous expectations

The company announced its 2022 results: operating income was -6.6% year on year to 2.17 billion yuan, net profit was -8.5% year on year to 659 million yuan, corresponding to 2H22 operating income of +6.8% to 1.27 billion yuan year on year, and Guimo's net profit was +12.7% year on year to 400 million yuan. The dividend rate for the full year of 2022 is 40%. The performance fell short of our previous expectations, mainly due to the impact of the 2H22 pandemic and the resumption of pressure on catacombs sales.

Cemetery services: Revenue in 2022 was -8.3% to 1.75 billion yuan year on year, corresponding to 2H22 +8.8% to 1.02 billion yuan; although 2H22 was compensated for consumption by high-weight cemeteries such as Shanghai (demand affected by the epidemic in the first half of the year was delayed to the second half of the year), 4Q22 sales were under pressure due to the pandemic (especially in places such as Henan and Northeast China). The operating tomb sales service revenue of comparable cemeteries was -7.3% compared to the same period last year (sales volume -13.7%; average price +7.4%, mainly due to product structure and contributions from different cemeteries).

Funeral services: Revenue in 2022 was +8.3% to 360 million yuan (corresponding to 2H22 +14.8% to 200 million yuan), of which the service revenue of comparable funeral facilities was +4.1% (service volume +7.3%; average unit price -3.0%, mainly due to the expansion of the scope of cooperation projects with local governments and new expansion of basic funeral services with lower unit prices).

Operating profit margin was +0.4ppt to 47.4% year over year. Among them, cemetery services were +0.9ppt to 56.4% year over year (the proportion of cemeteries in Shanghai, which has higher profit margins increased slightly), funeral services were -1.5ppt to 13.5% (restrictions on high-value-added projects and newly expanded basic farewell services for some funeral facilities); other services turned losses year-on-year into profits, mainly due to revenue related to design and construction, partially offset by cremators and Fushouyun's investment.

Development trends

Optimistic demand recovery drives growth; focus on policies and new business developments. We expect demand for cemeteries delayed due to the pandemic last year to be made up for 1H23 (looking back at the impact of the March to March epidemic in 2022, June revenue increased +12.6% year-on-year). Combined with last year's low base, we are optimistic about this year's year-on-year increase. On the policy side, funeral regulations have been incorporated into the Ministry of Civil Affairs's legislative work plan; the Director of the Social Affairs Department of the Ministry of Civil Affairs proposed speeding up the formulation of funeral standards during the 2/24 National Funeral Standards Technical Committee working meeting1. Focus on the development of pre-life contracts (they have successively completed implementation service plans in more than 10 provinces and nearly 40 cities across the country, and launched the Jingdong Mall, with the number of contracts signed in 2022 +21.8% compared to the same period last year), digital products, and value-added funeral services. Furthermore, in December last year, the company signed a strategic cooperation agreement with the Civil Affairs Bureau of Wenshan Zhuang and Miao Autonomous Prefecture in Yunnan.

Profit forecasting and valuation

Considering new product development and cost investment, the 2023 profit forecast was lowered by 5% to 860 million yuan, and the 2024 forecast of 950 million yuan was introduced. The current stock price corresponds to 13 times/12 times the 2023/2024 price-earnings ratio. Maintain an outperforming industry rating, consider valuation switching factors, and maintain a target price of HK$7, corresponding to 16 times/14 times the 2023/2024 price-earnings ratio, with an upward margin of 21%.

risks

The endogenous growth of stock projects fell short of expectations; extension expansion fell short of expectations; policy risks.