2023Q3's performance is in line with our expectations. The performance of the company's traditional strengths in the electromagnetic compatibility, reliability, and measurement and calibration sectors continues to excel; the food environment business is actively transforming and increasing profit margins have been very effective; as the country's economy stabilizes, moderates, and improves, the company is expected to benefit fully from the high growth in downstream demand and achieve rapid growth in performance by leveraging its earlier work in fields, capabilities, and personnel. We adjusted the company's 2023-2025 EPS forecast to 0.47/0.59/0.75 yuan to maintain the company's “buy” rating, with a target price of 19 yuan.

The 23Q3 results are in line with our expectations. From 2023Q1 to Q3, the company achieved operating income of 1,963 billion yuan, up 18% year on year; realized net profit of 133 million yuan, up 77% year on year; converted to basic EPS of 0.23 yuan. On a quarterly basis, the company achieved operating income of 732 million yuan in 23Q3, an increase of 10% over the previous year; realized net profit of 73 million yuan, an increase of 30% over the previous year; and the converted basic EPS was 0.13 yuan. The performance was in line with our expectations.

Revenue growth has slowed, but structural improvements have achieved remarkable results, and cash flow performance has been excellent. The company continued to perform well in traditional areas of strength such as electromagnetic compatibility, but EHS consulting business revenue declined due to declining market demand, and food environment business revenue declined slightly due to structural adjustments, making the company's 23Q3 revenue growth rate lackluster. Recently, the company placed more emphasis on structural improvements in the food environment business rather than revenue growth and received good results, and with a slight increase in the share of revenue from the traditional advantageous business with high margin, the company's 23Q3 gross margin increased by 3.5 pcts to 43.5% year on year. The company's 23Q3 sales/development/management expense ratio changed -1.4/+0.2/+0.3 pcts respectively, and the overall cost rate was relatively stable. The company calculated credit impairment losses of 26 million yuan in 23Q3 according to the accounting age method, reducing the concentrated impairment pressure in 23Q4, and we expect a high probability of a reversal in the future. The company's net cash flow from operating activities increased by 34% year-on-year in the third quarter, driven by the company's continued strengthening of accounts receivable management.

Continued high growth in traditional areas of strength can be expected, and the cultivation sector is expected to turn losses into profits. The company is in a leading position in the industry in the fields of electromagnetic compatibility, reliability testing and measurement. It has complete testing capabilities and a perfect service network. It still achieved good growth in the weak macro environment of Q1-Q3 this year. As downstream demand recovers, the company's new test base in Guangzhou has been successfully put into operation. In the future, the company's revenue is expected to continue to grow rapidly in areas of traditional advantage, and the profit-side growth rate is more flexible due to the company's highly leveraged operations. The profit side of the food environment business that the company is cultivating has also improved markedly since this year. In the future, driven by the transformation of the business structure and increased demand for soil testing, the food environment testing field is expected to turn a loss into a profit next year.

The introduction of equity incentives helps motivate employees, and performance targets reflect the company's confidence in long-term development. On October 19, 2023, the company announced that it intends to grant incentive plans to 623 core employees. The total number of options and restricted stocks shall not exceed 17.25 million shares, accounting for about 3% of the company's total share capital at the time of the announcement. The introduction of equity incentives is expected to motivate the company's core employees and outstanding talents, which is conducive to the long-term development of the company. The company's performance assessment targets cover profit, profit margin, cash flow, and R&D investment. Among them, in terms of profit assessment, the target for deduction of non-return net profit from 2024 to 2026 is not less than 233 million/292 million/352 million yuan, respectively. At the same time, the company's assessment requirements for profit margins, cash flow, and R&D investment also show the company's determination to improve efficiency and consolidate its competitive advantage.

Risk factors: the company's business development falls short of expectations; the company's brand credibility is affected; market demand falls short of expectations; increased market competition, etc.

Investment advice: Considering that the company's EHS business development is lower than expected, we slightly lowered the company's 2023-2025 EPS forecast to 0.47/0.59/0.75 yuan (original forecast 0.49/0.65/0.85 yuan). The current stock price corresponding to PE is 31/24/19 times, respectively. Considering the company's EHS and the food environment business nurtured, the company's equity incentive plan has been introduced, and the certainty of good long-term growth is guaranteed to a certain extent. Therefore, we used the company's historical average PE for the past three years minus one times the standard deviation as the target PE, and gave the company 40 times the target PE for 2023, with a corresponding target price of 19 yuan (original target price of 16 yuan), maintaining a “buy” rating.