Sales increased significantly year over year, and profit improvements exceeded expectations. The company recorded 55,328 units in Q4, up 135% year on year; annual sales exceeded 140,000 units, up 30% year on year, mainly due to the implementation of the company's “pure electric+range extension” dual-power strategy, and released models such as the C11 Extender/C01 Super Range in March/September 2023. 2023Q4 revenue increased 75% year over year to 5.28 billion, and gross margin increased by 5.5 pct to 6.7% month-on-month. Gross profit for the whole year was corrected, and gross margin was recorded at 0.5% in 2023. The company's net loss to mother narrowed further to RMB 4.2 billion for the whole year, and the net loss ratio improved by 16 pct to -25% year-on-year. The company has plenty of cash and achieved positive operating cash flow in 2023. Cash and cash equivalents were RMB 11.7 billion. Looking ahead to 2024Q1, the company achieved sales volume of 33,410 vehicles, an increase of 218% over the previous year, and revenue is also expected to increase significantly.

The dual power strategy helped sales grow, and new cars continued to be iterated. Existing models: The company officially released the C11 Extended Range Edition in March 2023. In September 2023, the new C01 Super Range and C11 Super Range models were launched simultaneously. On March 2, 2024, the Zero Run C10 pure electric version and extended range version were officially launched. This model is the first new model in the LEAP 3.0 architecture, which accelerates the implementation of the dual-power strategy. New model side:

We expect the company to release 2 more models, including the C16, during the year, and expect to add several more new models in 2025. Channel side: The company's innovative “1+N” marketing model is user-centered. By the end of 2023, the company had 560 stores, covering 182 cities. We expect the company will continue to benefit from channel optimization and store encryption in 2024.

Stellantis became a new shareholder to jointly explore a new model of going overseas. In November 2023, Stellantis subscribed for Zero Run H shares, became the main shareholder of Zero Run, and obtained 2 seats on the board of directors. Facing overseas markets, the company and Stellantis will establish a joint venture “Zero Run International”. In the future, Zero Run will mainly use an asset-light model to build an international brand around global self-development. Relying on Stellantis's global channels and after-sales service network, it will launch Zero Run brand new energy vehicles on several continents. We expect overseas car sales to begin in the second half of 2024.

Gross profit improved in 2023 and is expected to increase further in 2024. The company's gross margin for 2023Q4 was 6.7%, and the gross margin for the full year of 2023 was 0.5%. We judge that the main driving factors include: 1) the proportion of C-series models with high gross margin continued to increase; 2) the increase in scale effect after the model was added; 3) the rapid year-on-year decline in battery costs; 4) unique technical cost reduction capabilities. The future gross margin is expected to gradually improve as cost control and operational efficiency improve. We expect the gross margin to reach 5%-10% in 2024.

Investment advice: Considering that rapid sales growth reflects economies of scale and high-margin models as the main sales force, the company's losses are rapidly narrowing. We expect the company to sell about 27/49/550,000 vehicles in 2024-2026, total revenue of 300/576/68.8 billion yuan, and a net profit margin of -9%/-1%/1%. We gave Zero Sports a target valuation of HK$48.7 billion, corresponding to 1.5x 2024e P/S, and gave it a target price of HK$43 (9863.HK), maintaining a “buy” rating.

Risk warning: Risk that sales of new models fall short of expectations, risk of improving autonomous driving capabilities and implementation of functions falling short of expectations, and risk of falling short of expected gross margin increase.