Lower the target price of profit forecast and maintain the "buy" rating
After a recent review, we expect the company's growth to slow in the first half of the 2023 fiscal year (end: March 31). It involves short-term macro and industry reasons: (1) the devaluation of RMB reduces profits; (2) additional financial expenditure; and (3) project construction slows down under epidemic prevention and control. We have lowered our shareholder net profit forecasts for the 2023-25 fiscal year by 12.9%, 9.9% and 5.5% respectively, and correspondingly reduced the target price projected by the discounted Cash flow (DCF) analysis from HK $12.10 to HK $9.70, corresponding to 6.9 times the 2024 price-to-earnings ratio and 64.4% room for growth. Repeat "buy".
The devaluation of the RMB lowers profits and increases the real financial burden
As the suppliers / service providers and customers are located in the mainland and settled in RMB, the devaluation of RMB will not affect the day-to-day operation of the company, but it will reduce the profits of the company's financial statements settled in Hong Kong dollars. In addition, as the company's loans are mainly in foreign currencies (US dollars), the depreciation of RMB increases the actual financial burden of the company. As of the end of March 2022, 53.1 per cent of corporate loans in Hong Kong dollars amounted to HK $11.6 billion. The remaining 3.6 per cent and 43.3 per cent were Hong Kong dollar and renminbi loans with amounts of HK $800 million and HK $9.47 billion respectively. The exchange rate of the renminbi against the Hong Kong dollar rose from 1.10 in April 2020 to 1.25 in the first quarter of 2022 and has since depreciated to its current level of 1.08.
We estimate that of the above-mentioned US dollar loans, about 3x4 are floating rate loans. The company's loan structure is relatively affected by fluctuations in US dollar interest rates. The recent rise in dollar interest is expected to lead to an additional increase in the company's financial expenses. We expect that the company will try to reduce the proportion of US dollar (floating rate) loans in order to reduce the impact of exchange rate and interest rate risks.
Project construction slows down under epidemic prevention and control
The operating income of the company's water supply business as a whole will not be affected by epidemic prevention and control. Even if some areas are quarantined, the needs of residents and industrial and commercial users can generally offset each other. However, under the prevention and control of the epidemic, personnel mobility and building materials logistics will be affected, so project construction slows down, affecting the company's tap water and direct drinking water construction income in the short term. Construction revenue accounted for 40.9% of total revenue in fiscal year 2022.
Risk tips: (1) the water source is polluted, (2) the rate and progress of water price increase is lower than expected, and (3) exchange rate risk.