Key points of investment

Minhua Holdings announced that 22/23H1's total revenue was HK$9.533 billion (-8.0%, RMB caliber -3.7%), operating income of 9.3 billion yuan (-9.06%, RMB caliber -4.8%), net profit of HK$1,092 million (+10.5%, RMB caliber +15.6%), excluding US Raffel's patent litigation expenses of HK$84.53 million, compared to HK$14.4% (RMB caliber +19.7% compared to the same ratio). The profit side's performance exceeded market expectations.

The revenue side of the first half of the fiscal year was mainly dragged down by the domestic epidemic and the transmission of pressure on real estate. The dividend ratio for the first half of the fiscal year was 54%, with a dividend of HK$0.15 per share.

Domestic sales: Continued channel expansion, smart retail operation, low single-digit closing rate excluding the impact of other revenue such as real estate sales (62 million). During the reporting period, the company achieved revenue of 5.713 billion in the Chinese market (-10.7%, RMB -6.6%, excluding iron frames -3.6%), accounting for nearly 60% of total revenue. In the first half of the year, the company was under double pressure from the epidemic and real estate, and the consumer market was on thin ice, but the company was still poised to prepare for market warming. Let's take a look specifically:

(1) Offline stores achieved revenue of 4.2 billion dollars (-9.7%, RMB volume -5.5%), built a strong offline dealer channel to strengthen dealer profitability; actively embraced and expanded emerging channels to find new growth tracks. During this period, the company added 262 stores (of which mattresses accounted for 1/3 and sofas accounted for 2/3), closed 254 stores, with a closing rate of only 4.2%. At the end of the reporting period, the number of stores reached 6,230 (excluding the style of acquisition and Prini). With the implementation of 20 prevention and control optimization measures at the National Standing Committee, I am optimistic that offline consumption will continue to recover in 22Q4 and next year.

(2) The e-commerce channel achieved revenue of 1,154 million dollars (-0.9%, RMB caliber +3.7%), accounting for 21.6% of domestic sales revenue (excluding iron frames). The e-commerce revenue structure is roughly 30% mattresses and 70% sofas. Chivas, a double 11 company, had sales of 1.28 billion yuan in this round. Based on the sales data of 1.1 billion dollars for the double eleven announced by Yibang Dynamics in 2021, the current Double Eleven increased 16% year on year, growing steadily. Looking at the category segment, the company's popular products, such as the company's Little Orange Sofa 50611B and the functional sofa 10697, occupied the tearful top 1 of the JD sofa, Tmall leather sofa, Tmall/JD function sofa, and Douyin leather bed, respectively, with outstanding product strength.

(3) Digital channel management: strengthen the store management system, empower dealers with the three indicators of “number of experiences, conversion rate, and customer unit price” to promote the increase in single-store business volume; continuously upgrade the store CRM system, deepen VR systems, establish smart product centers, strengthen support for dealers; and lay out smart new retail.

Export sales: The North American and European markets performed steadily. HG's export revenue was affected by the Russian-Ukrainian war of 3,514 million Hong Kong dollars (-4.62%), mainly due to the high base last year and the removal of inventory by overseas customers. Looking at specific markets:

(1) North American market: Achieved revenue of 2,564 million dollars (+0.1%), which is basically the same as the same period last year; the gross profit margin of the North American business was 41.8% (+0.7pct), due to a decline in raw material costs and an increase in the structure of products exported to the US.

(2) European and other overseas markets: revenue of 670 million yuan (+2.1%), steady growth, gross profit margin of 21.3% (-2.9cpt);

(3) HG Group achieved revenue of 279 million (-39.9%), mainly affected by the Russian-Ukrainian war.

By category: Bedding grew steadily, building the competitiveness of single sofa products (1) Sofas & accessories achieved revenue of 6.708 billion (-4.97%), including -11.5% in the Chinese market (-7.4% in RMB caliber), 0.1% in the North American market, and -24.5% in European and other overseas markets; total sales volume of 754,000 sets (-8.0%, China -1.5%, US 19%). (2) Bedding (total domestic sales) reached 1,506 million (2.81%, RMB caliber +7.6%), growing steadily. (3) Smart furniture components (mainly iron frames) 733 million (-33%). (4) Other businesses (real estate, etc.) 62 million (-52.7%).

The company has built a deep brand matrix, vertically built the super competitiveness of sofa products, strengthened product strength, competitiveness and price power, strengthened consumer awareness, and made functional sofas a household for all.

Financial indicators: cost reduction and efficiency, significant increase in gross margin, domestic sales gross margin +4.2pct (1) gross profit margin of 38.8% (+2.6pct). Through the company's active cost management, the 0.7pct increase in gross margin came from savings in manufacturing costs, and 1.9 pct came from a reduction in raw material prices (leather/steel/wood veneer/chemical/wrapping paper prices were -0.5%/-8.5%/+21.2%/-15.8%/0.9%). By market, the gross margin of domestic sales increased 4.2 pct year on year, and the performance was impressive, driven by a new round of price increases after the National Day in '21; the North American market was +0.7 pct year on year, and Europe and other overseas markets -2.9pct. The increase in gross margin for export sales was not clearly due to changes in sea freight accounting methods.

(2) The total cost rate for the period is 26.6% (+1.35pct), of which the sales expenses rate is 19.8% (+0.1ct), the management expenses rate is 6.1% (+0.9pct), and the financial expenses rate is 0.7% (+0.4pct).

(3) The net interest rate was 11.8%, an increase of 2.1 pct over the previous year.

(4) The effective tax rate is 21.5% (18.8% in the same period last year), due to the impact of the Vietnam epidemic+takeover peak and the increase in the tax rate for Macau subsidiaries over the same period.

Profit forecasting and valuation

We expect the company to achieve operating revenue of HK$21,573 billion (+0.35%), HK$24.636 billion (+14.2%), and HK$28.127 billion (+14.17%) in the next three fiscal years; net profit attributable to the mother of HK$2,502 million (+11.34%), HK$2,873 million (+14.8%), and HK$3,296 million (+14.72%); corresponding to the current market capitalization PE is 10.8X, 9.41X and 8.2X, maintaining the “buy” rating.

Risk warning

Raw material prices have risen sharply, market competition has intensified, the foreign trade environment has deteriorated, and the epidemic has been repeated