The Zhitong Finance app learned that on October 24, China and Thailand International released a research report stating that the mainland economy has continued to recover in recent months, and statistics from various entities have improved. This may indicate an increase in social demand for tap water use, especially in the industrial and commercial industries. The bank believes that the benefits of water demand will gradually become apparent starting from China Water (00855) 2H FY24. Economic recovery also gave the government more room to raise water prices. Considering the impact of factors such as rising interest rates, the bank lowered China Water's FY24-Y25 shareholders' net profit forecasts by 8.6% and 13.2% respectively, and added the FY26 forecast. The target price is HK$7.60, corresponding to the FY24 target price-earnings ratio of 6.0 times and a margin of increase of 55.1%, and reaffirms the “buy” rating.
The main views of China-Thailand International are as follows:
Higher interest rates erode short-term profits
The company's revenue growth rate has been limited by factors such as the recent rise in HKD/USD interest rates. FY23 (Year end: March 31) The company's revenue increased 9.6% year over year to HK$14.20 billion, but the bank believes that as the US dollar interest rate stabilizes, the company's risk control and the explosion of pipelined drinking water business will support the company's long-term development.
Since this year, the rise in the HKD/USD interest rate has led to an increase in interest expenses, but the company has continued to increase the share of RMB borrowing to obtain lower interest rates. FY23 RMB borrowing rose 26.1% year on year to HK$11.94 billion, and the share of borrowing increased 7.2 percentage points year over year to 50.5%. Over the same period, HKD/USD borrowing fell 5.7% year on year to HK$11.70 billion, and the share of borrowing fell to 49.5%. Related interest savings benefits will have a positive effect on net profit in 2H FY24. The year-on-year growth rate of net interest expenses is expected to drop from 36.1% of FY23 to 31.6%, 12.1%, and 2.5% of FY24-26, respectively.
However, economic recovery indicates an increase in demand for tap water use
The mainland economy has continued to recover in recent months, and statistics for various entities have improved. This may indicate an increase in social demand for tap water use, especially in the industrial and commercial industries. Total retail sales of consumer goods increased 6.8% year-on-year in the first three quarters of 2023, up from 0.7% in the same period last year. The year-on-year growth rate of national power generation also reached 4.2% in the same period in 2023, an increase of 2.0 percentage points over the previous year. The bank believes that the benefits of water demand will gradually become apparent from the company's 2H FY24. Economic recovery has also given the government more room to raise water prices. Due to repeated outbreaks of the epidemic, only four water supply projects of FY23 received water price increases, less than the 9 and 10 of FY21 and FY22, respectively. It is expected that the water price increase activity will resume from 2H FY24.
Combining the above two factors, the bank expects revenue from tap water operations to shift from FY23 down 0.2% year on year to FY24-26 up 8.4%, 2.4% and 2.9% year on year to $3.64 billion, $3.73 billion and HK$3.84 billion, respectively.
Pipeline drinking water business is in a period of explosion
The company's piped drinking water business is in a period of explosion. Since the official launch of this business in FY20, the share of total revenue has continued to grow, from 1.4% in FY21 to 5.4% and 9.2% of FY22-23, respectively. The company has prioritized human and financial resources for this business to expand customer coverage. According to the Frost & Sullivan Report, in terms of sales amount in 2022, the company has become the largest piped drinking water company in China, with a market share of 7.3%, higher than the second and third largest, 4.1% and 3.1%, respectively. Demand is strong among residents and non-residents from schools, hospitals, public places, government agencies, etc. The bank expects direct drinking water revenue from the FY24-26 pipeline to increase by 72.5%, 40.7%, and 38.5%, respectively, to HK$2.26 billion, 3.18 billion, and HK$4.40 billion, with the share of total revenue increasing to 14.5%, 19.4% and 25.7% respectively.
The spin-off listing plan is expected to be completed within 2H FY24
In June of this year, the company submitted a main board listing application to the HKEx. It plans to split its tap water and piped drinking water business, but maintain a controlling interest. The bank believes that the spin-off and listing plan is expected to be completed within 2H FY24, which can unlock the potential value of related businesses and increase the company's overall market value.