Maintain BUY. We raise FY25E net profit by 10% to RMB36.2bn by lifting sales volume forecast and cutting R&D expenses. We also raise FY25E sales volume forecast to 4.3mn units, as BYD's new PHEV models are more competitive than we had expected. We believe its solid earnings quality could continue in FY25E.

Mixed 2Q24: GPM miss, R&D & government grants beat. BYD's 2Q24 GPM narrowed 3.2ppts QoQ to 18.7% (we estimate auto segment GPM to be 22.4%), lower than our prior forecast. We attribute such miss mainly to a less-than-expected supplier cost reduction. The GPM miss was offset by a QoQ decline in R&D and QoQ increase in government grants, which led to an in-line net profit of RMB9.1bn in 2Q24. We are of the view that BYD's 1H24 earnings quality remained high, as it accelerated PP&E's depreciation and only capitalized 3% of its total R&D investment in 1H24.

2H24 and FY25 outlook. We raise our FY24E sales volume forecast from 3.70mn units to 3.84mn units, assuming that BYD is not to hit 4mn units by sacrificing margins, although it has such capabilities to do so. We expect GPM in 2H24 to improve 0.4ppts HoH amid greater economies of scale, based on our sales assumption. We cut FY24E R&D expenses by RMB2bn following the figure in 2Q24 and considering fewer personnel required for AI-powered autonomous driving training. We also revise up FY24E government grants and VAT refunds by RMB4bn. Accordingly, we raise our FY24E net profit estimate by 10% to RMB36.2bn, or a net profit per vehicle of RMB9,400.

BYD's new PHEVs with its DM-i 5.0 technologies appear to be more competitive than we had expected. Therefore, we expect solid sales growth to continue in FY25E (4.3mn units on our estimates), despite its slower-than- expected sales growth for premium models. We expect higher contribution from overseas sales and premium models to sustain GPM in FY25E despite the prolonged price war. We project R&D expense ratio (as % of revenue) to drop to 5.7% in FY25E from 6.0% in FY24E and 6.6% in FY23. That, along with the top-line growth, could continue to lift net margin in FY25E. We project FY25E net profit to rise 26% YoY to RMB45.7bn with solid earnings quality (same R&D capitalization and depreciation ratio as FY24).

Valuation/Key risks. We maintain BUY rating and target price of HK$262, based on 15x our FY25E EPS (prior 20x FY24E). We roll over our valuation to the next year as we see higher visibility for FY25 and lower our target valuation multiples amid macro uncertainties. Key risks to our rating and target price include lower sales and/or margins than our expectation, as well as a sector de-rating.