Company background: Qihe Environmental Protection is mainly engaged in the collection, recycling, dismantling, sorting and treatment of various scrap metals and other resources to recycle reusable resources. In 2016, the company acquired Scholz Holding GmbH (Scholz), one of the world's largest mixed scrap metal recyclers. With over 100 years of industry experience and the development of advanced technologies, Scholz is one of the few companies in the world capable of handling and recycling a wide range of materials. As a result, Qihe Environmental is now a global leader in the metal recycling and environmental protection industry. Qihe Environmental currently operates more than 300 metal recycling plants in more than 30 countries/regions in Europe, Greater China and North America. The company currently sells high-quality products such as scrap metal and waste PCB boards. Customers include copper smelters, foundries, other metal smelters, steel mills, and aluminum and copper product manufacturers from around the world.

The controlling shareholder changed to promote business recovery. Qihe Environmental Protection was in a loss situation in 2013-2016, mainly due to: 1) falling global commodity prices; 2) the company's poor hedging strategy. In 2015, Qihe Environmental Protection received support from YuShang Investment Group. The latter acquired more than 60% of the former's shares and became its largest controlling shareholder.

With strong support from the Chongqing Municipal Government and the Federation of Industry and Commerce, Yu Shang Investment Group is jointly funded by more than 50 local enterprises in Chongqing, including Longxin Holdings, Huayuan Capital, Longli Real Estate, and Excellent Real Estate. It has a registered capital of 3.42 billion yuan. It is the largest private investment group in Chongqing. Its business development focuses on finance, health care, natural resources and some emerging industries. Qihe Environmental Protection is in line with Yushang Investment Group's business strategy in natural resources and environmental protection. With the advent of Yuishang Investment Group, Qihe Environmental took the first strategic step in 2016, acquiring German metal recycler Scholz. Qihe Environmental Protection changed its name in June 2017, from Qihe Tiandi to Qihe Environmental to reflect the company's business focus on metal recycling and environmental protection.

The acquisition of Scholz enhances the company's position in the metal recycling industry chain. The acquisition of Scholz will help Qihe Environmental obtain upstream scrap metal supply and accumulate advanced metal recycling technology. The acquisition was completed through debt restructuring. Qihe Environmental has paid a total of HK$2.4 billion to buy Scholz's debts from German and American lenders. The debt restructuring was completed in December 2016. Qihe Environmental then bought 100% of Scholz's shares for 1 euro. Scholz is one of the largest waste processing companies in the world. Scholz is a global market leader when it comes to ferrous and non-ferrous metal recycling technology. Companies used to be overly leveraged on debt because they were too aggressive. The acquisition helped Scholz reduce its financial leverage and resume normal operations. For Qihe Environmental, the acquisition brought some synergy between revenue and costs, as it helped Qihe Environmental to obtain a stable supply of raw materials, obtain advanced technology to improve metal recycling efficiency, and also increase bargaining power to reduce raw material costs. Furthermore, the acquisition helps Qihe Environmental expand its business scope to other metal processing and recycling fields.

The recovery in global commodity prices is beneficial to driving the company's profit recovery from 2017 to 2018. Global commodity prices began to rebound in the second half of 2016 and rose to higher levels in the first half of '17. Since the beginning of the year, LME copper spot prices have increased 19.8% from the 2016 average copper spot price. The LME aluminum spot price was 17.7% higher than the 2016 average aluminum spot price. Also, so far this year, the price of hot-rolled steel coils in China has risen 28.8% compared to the 2016 average spot price. The strong recovery in commodity prices this year was mainly helped by: 1) global economic recovery; 2) China actively promoted supply-side reforms. Although there may be downside risks in global economic growth in 2018, we expect China to continue to actively push for supply-side reforms and support commodity prices to maintain their current high levels in 2017-18. According to Bloomberg's comprehensive forecast, global copper, aluminum and steel prices will be basically stable year-on-year in 2018

Conservative profit forecasts and valuation levels. The recovery in commodity prices helped the company return to profitability in 2017. The acquisition of Scholz will also expand the scope of earnings and increase profitability. There are reports that China may ban the import of some scrap metals from 2018. This may have some impact on environmentally friendly businesses, but we think the financial impact will be limited. The increase in production at Scholz's plants in the EU and the US should help offset the impact of production cuts at Chinese factories after the import ban came into effect. We expect the company to turn a loss into a profit this year, and profit will increase by 67.8% next year. According to our assumptions about the basic situation, the company's price-earnings ratio in 2017/2018 is 20.6/12.3 times, and the 2017/18 net price-earnings ratio is 1.7/1.5 times. If compared to international peers, the valuation advantage may be limited. We think investors will take a wait-and-see attitude in the next few quarters to obtain more data to confirm the company's business recovery. Our forecast is relatively conservative, mainly due to the company's poor performance record after the restructuring. If the company can achieve higher profit margins and profits during the recovery process, the company will have room for further revaluation.

Risk: weakening commodity prices; exchange rate risk; regulatory risk