The company's performance is in line with the profit advance announcement.
Honghua Group announced its 2019 results. The company recorded 4.4 billion yuan in revenue for the whole year, an increase of 5% over the same period last year, and its net profit increased 31% to 110 million yuan over the same period last year, in line with the company's previous profit growth rate of no less than 20%. However, it is weaker than the company's guidelines at the beginning of 2019, we believe that the main reason is that large orders for drilling rigs in the Middle East landed later than expected, as well as larger impairment losses on financial assets during the year.
2H19's spare parts and equipment sector performed prominently, with revenue up 39% year-on-year and sector profits up 11%. The company's core equipment electric fracturing pump sales reached 8 sets as scheduled, and top drive sales also reached a recent high of 240 million yuan. we believe that the growth of this sector mainly benefits from the domestic shale gas development business cycle and increased demand for spare parts.
2H19 drilling rig sales fell sharply, with revenue and distribution profits both falling 74% compared with the same period last year. We believe that the main reason is the decline in overseas drilling rig sales, while overseas drilling rigs usually have higher sales unit prices because of the use of imported parts and higher equipment requirements, so the decline in drilling rig sales has directly led to a decline in the company's profit contribution in this sector. In 2019, the company sold 24 sets of drilling rigs, an increase of 1 set compared with the same period last year, but the average price of drilling rigs dropped sharply to 56 million yuan (100 million yuan last year).
At the same time, we believe that the profit margin of 2H19 oil service sector is lower than expected, and the company explains that it is mainly affected by some historical projects and the decline in the proportion of overseas high gross margin business.
Trend of development
Continue to be optimistic about the oil service plate, the next 1-2 years profit release is expected to accelerate. Considering that 1) by the end of 2019, the outstanding contract of the company's oil service sector has reached 780 million yuan; 2) the company may continue to expand its fracturing contract service in the next few years; 3) the lease cost of the electric fracturing pump sold by some financial leases expires and profits begin to release, we continue to be optimistic about the oil service sector, and it is expected that the sector's revenue growth is expected to reach more than 30% this year.
The short-term risk of the drilling rig plate remains, and the spare parts plate may rise steadily. We expect the company's rig sector risk to remain in 2020, mainly considering the more cautious attitude of upstream oil and gas companies towards capital expenditure at low oil prices, but we expect orders from domestic developers to be better than those from overseas. At the same time, we expect the company's spare parts sector to show a steady rise in 2020, mainly considering that some businesses in this sector have lower requirements for upstream capital expenditure, such as drilling rig transformation services, top drive, mud pumps and so on.
Profit forecast and valuation
Taking into account the current epidemic and the uncertainty under low oil prices, we cut the company's profit in 2020x21 by 67% to 120 million yuan / 200 million yuan. Although the company's short-term business may be under pressure, we are still optimistic about the company's long-term profitability, so we maintain the company's target price of HK $0.9, corresponding to 35 times 2020 price-to-earnings ratio, and maintain an outperforming industry rating. The company's current share price trades at 9.2 times 2020 earnings.
Risk
Oil prices have been in the doldrums for longer than expected; the company's new orders are not as good as expected.