Aspects that are inconsistent with the forecast

Dunhuang seed Industry reported a net loss of 53 million yuan in the first quarter of 2012, the largest net loss since the company was founded, and well below the Gaohua / Wande 2012 net profit forecast of 80 million-149 million yuan. Similar to the situation in Denghai seed Industry (002041.SZ, Neutral, RMB 22.28), Dunhuang seed sales for the 2010 and 2011 farming years were advanced to the fourth quarter, resulting in lower profits in the first quarter but higher profits in the fourth quarter. Compared with farming years, total income from the fourth quarter of 2011 to the first quarter of 2012 was 1.367 billion yuan (up 7% from the same period last year) and net profit was 53 million yuan (down 57% from the same period last year), indicating weak income growth and a decline in gross profit margin (down 13 percentage points from the same period last year). The reason is that excessive supply of corn seeds has prompted producers to cut prices and compete by offering more rebates to dealers. According to the Ministry of Agriculture, the surplus of corn seed supply in China will rise to 660000 tonnes by the end of the farming year 2011 (end of March 2012), 65 per cent higher than the inventory of 400000 tonnes at the end of 2010 / 2011. We expect the market to show price competition and restrained corn seed profit margins by the end of 2012. In addition, Dunhuang Pioneer JV received an administrative penalty of 11 million yuan from the Jilin Provincial Agricultural Commission for mislabeling two seed products in 2010, which led to weak performance in the first quarter of 2012.

Investment impact

We cut our 2012 earnings per share forecast by 19% and adjusted our 2013 / 14 earnings per share forecast slightly to include lower-than-expected corn seed gross margins. We have lowered our 12-month target price to RMB8.10, which is based on a forward price-to-book ratio of 1.4 times 2012 and an expected average return on equity of 7 per cent for 2012-13 (the original target price is RMB8.90. based on a price-to-book ratio of 1.6 times and a return on net assets of 8%), the reduction in valuation multiples reflects our expected decline in returns. Maintain a selling rating. The main risks are: (1) the approval and progress of the listing of the new maize variety "Jixiang 1" is faster than expected; (2) the improvement of cost control is better than expected.