One of the largest artist management companies and well-known entertainment brands in China. Considering the scarcity of the company's “Lehua model”, which covers the entire life cycle of artist management, and the growth brought about by diversified business development, we gave the company a valuation premium of a certain valuation premium, giving the company 30 times PE in 2024, corresponding to the target market value of RMB 5.25 billion, with a corresponding target market value of RMB 5.25 billion, and an increase in holdings rating for the first time.

The company has built a “Lehua model” covering the entire life cycle of artist management, leading the artist management business industry. Lehua Entertainment is one of the few companies in China that can provide systematic and professional artist training and operation. The company has established a “Lehua model” covering the entire life cycle of artist management, including trainee selection, artist training, artist operation and promotion. The company uses a matrix of contracted artists to develop music IP production and operation business, and adheres to a diversified strategy to find room for growth. According to Frost & Sullivan, based on 2021 revenue, the company ranked first among all artist management companies in China, with a market share of about 1.9%.

The domestic artist management market has diversified monetization channels. Third-party analysts expect the market size CAGR to reach 12.8% in 21-26. With the increase in per capita disposable income, the pan-entertainment market in Asia and China has maintained steady development in recent years. The artist management market is part of China's pan-entertainment market. The development of the industrial chain shows the characteristics of continuous enrichment on the supply side of artists and diversification of downstream monetization channels. Therefore, the overall growth rate is higher than the growth rate of the Asian pan-entertainment market. The size of the domestic artist management market increased from about 63 billion yuan in 2017 to about 68.5 billion yuan in 2018, an increase of 8.7% over the previous year. Market size declined in 2019 and 2020 due to policy regulation since the end of 2018 and the outbreak of the epidemic in 2020. According to Frost & Sullivan, the size of the Chinese artist management market is expected to reach about 111.7 billion yuan in 2026 and a CAGR of 12.8% in 2021-2026. We believe this is mainly due to 1) the supply-side dimension, the continuous enrichment of artist sources, and the gradual development of professional artist management systems; 2) the demand-side dimension, the continuous enrichment of artist monetization channels; 3) the external environmental dimension, the regulatory trend is normalizing, and macro-adverse factors are gradually weakening.

The company's basic artist management business has a stable position in the industry due to the bilateral effects of artists and resources, and the new business will help future growth. On the artist side, the company currently has two contracted artists with over 40 million followers on Weibo, close to 20 artists, and more than 2 million fans. They have industrial styling capabilities and the ability to negotiate to package and sell long-tail artists on the resource side, while the ability on the resource side will also feed back the company's ability to continuously acquire high-quality new artists. In addition, the company is also actively grasping industry hot spots and exploring diversified business development. Currently, the development of virtual idols has achieved certain results. In 2021 and January to September 2022, virtual artist business revenue was 13.2/9.7 million, respectively. With the rapid development of the virtual idol market, virtual artists may become the company's second growth curve.

Financial analysis: Lehua Entertainment achieved revenue of 6.3/9.2/12.9/98 billion yuan in 2019-2022, respectively, with a CAGR of 15.8% in 2019-2022, and a 24.0% year-on-year decrease in revenue in 2022, mainly due to the impact of the pandemic on the development of offline activities. The artist management business is the most important source of revenue, accounting for 86.9% in 2022. The gross margin for 2019-2022 was 44.3%/53.5%/46.6%/37.0%, respectively. The increase in the artist share ratio led to a decline in gross margin. Affected by the decline in gross margin, the company's adjusted net profit margin declined. In 2019-2022, the company's adjusted net profit margin was 1.2/3.0/3.9/2.7 billion yuan, respectively, and the adjusted net profit rate was 18.9%/32.1%/30.6%/27.2%. We believe that as market demand increases and more long-tail artists participate in commercial activities, the artist share ratio is expected to decline, thereby increasing gross margin.

Investment advice and profit forecasts. The company is one of the few companies in China that can provide systematic and specialized artist training and operation. It is expected that revenue and profit will decline in 2023 due to industry policies and macro-factors. Considering the scarcity of the company's artist management full life cycle model and the growth of management in new business layout and execution, we expect net revenue to resume growth as market demand picks up. The total revenue for 2023-2025 is 8.0/1.27 billion yuan, and the adjusted net profit is 1.1/1.7/2.1 billion yuan, giving the company 30 times PE in 2024 The corresponding target market value is RMB 5.25 billion, and for the first time, it has been given an “increase in holdings” rating.

Risk warning: risk of artist termination of contract renewal, entertainment industry policy risk, negative news or brand reputation risk for contracted artists, diversification strategies falling short of expectations