Incidents: On October 31, 2023, Sanmei Co., Ltd. released its three-quarter report for 2023. The company's operating income for the first three quarters was 2,609 billion yuan, a year-on-year decrease of 30.76%; net profit was 238 million yuan, a year-on-year decrease of 48.45%; net profit after deducting non-net profit was 170 million yuan, a year-on-year decrease of 60.94%. The corresponding company's 3Q23 operating income was 873 million yuan, down 8.97% from the previous month; net profit was 108 million yuan, down 1.27% from the previous month.

The 3Q23 results are in line with market expectations. The company's revenue in the fluorine refrigerant/fluorine foaming agent/hydrogen fluoride sector in the first three quarters was 20.16/1.36/405 billion yuan, YoY was -30.95%/-44.64%/-15.86% respectively; sales volume was 9.74/0.62/556 million tons, YoY was -12.45%/-54.95%/-6.78% respectively; average product price was 20696/22024/7290 yuan/ton, YoY was -21.13%/22.88%/-9.75%, respectively. The company's sales expense ratio for the first three quarters was 1.62%, up 0.33pcts year on year; management expense ratio was 4.24%, up 1.20pcts year on year; financial expense ratio was -7.05%, down 3.11pcts year on year; and R&D expense ratio was 1.24%, up 0.54pcts year on year. The company's net profit declined in the first three quarters. The net profit margin was 9.12%, down 3.13pcts from the previous year. The main reason for this was the double decline in the volume and price of fluorine refrigerant products and the rise in the price of fluorite, the main raw material, due to insufficient downstream demand.

The company's various net cash flows changed significantly in the first three quarters. Net cash flow from operating activities was $427 million, down 28.76% year on year; net cash flow from investment activities was -417 million yuan, down 136.01% year on year; and net cash flow from fund-raising activities was -146 million yuan, down 567.52% year on year. The balance of cash and cash equivalents at the end of the period was $3,369 million, down -0.08% year on year. Accounts receivable decreased by 35.68% year over year, and the turnover ratio of accounts receivable increased from 6.99 in the same period in 2022 to 7.98. Inventories fell 12.28% year on year, and the inventory turnover rate declined from 6.51 times in the same period in 2022 to 4.84 times.

With the implementation of the quota plan, third-generation refrigerants may enter a boom cycle. On October 24, 2023, the Ministry of Ecology and Environment held an executive meeting to review and approve the “2024 Total HFC Quota Setting and Allocation Plan”. The supply restrictions for three generations of refrigerants have been officially implemented, and industry supply will gradually tighten. We believe that with the upgrading of consumer consumption and the acceleration of the urbanization process, there is still plenty of room for improvement in the global penetration rate of household and automobile air conditioners, refrigerators, etc., and it is expected that the number of residents holding products such as air conditioners and refrigerators will continue to increase. Combined with the maintenance demand for existing equipment, driving the continuous expansion of the third-generation refrigerants market, and demand continues to improve. We believe that there are still intellectual property barriers for fourth-generation refrigerants, and the synthesis process is more complicated. Currently, product prices are expensive, and it is difficult to replace third-generation refrigerants on a large scale in the short term. Demand for third-generation refrigerants continues to improve under the long-term trend. The continuous increase in demand combined with the gradual tightening of supply will drive product prices to continue to rise, and third-generation refrigerants may enter a business cycle. According to the company's interim report, the company has a production capacity of 65,000 tons of HFC-134a, 52,000 tons of HFC-125, 40,000 tons of HFC-32, and a production capacity of 10,000 tons of HFC-143a, and a production capacity of 10,000 tons of HFC-143a. Based on this, mixed refrigerants such as R410A, R404A, R407C, and R507 are mixed. In a context where the price of third-generation refrigerants is expected to rise, we are optimistic about the company's third-generation refrigerant production capacity layout, and the refrigerant sector's profit level is expected to continue to rise.

The company's ongoing projects are progressing steadily. According to the company's investor relations notes on October 17, 2023, the company's 6000t/a lithium hexafluorophosphate (LiF6) project is expected to enter trial production in the first quarter of 2024, and the 5000t/a polyperfluoroethylene propylene (FEP) and 5000t/a polyvinylidene fluoride (PVDF) projects are expected to enter trial production around December 2024; Shengmei Lithium will produce 3000t/a lithium bifluorosulfonimide (LiFSI) project. The first phase is 500t/a, and is expected to begin testing in the fourth quarter of 2023 Production; we are optimistic about the gradual completion of the company's projects, which is expected to open up a new revenue growth curve for the company.

Investment suggestions: We expect the 2023-2025 revenue of Sanmei Co., Ltd. to be 36.57/47.41/5.557 billion yuan, up -23.34%/29.62%/17.22% year on year, and net profit of 322/6.88/936 million yuan respectively, up -33.68%/113.68%/36.06% year on year, corresponding to EPS of 0.53/1.13/1.53 yuan, respectively. Combined with the company's closing price on November 3, the corresponding PE was 53/25/18 times, respectively. We are optimistic about the company's production capacity layout for third-generation refrigerants and the gradual production of new construction projects to maintain the “buy” rating.

Risk warning: risk of raw material price fluctuations, risk of falling short of expectations, project construction risk, environmental policy risk