1H24 largely in line; tough operating environment in 3Q

XYS's 1H results of HK$1.96bn was in line with its profit alert as solar glass gross margin remained resilient at 21.5%. As solar glass price continued to slide in July while demand visibility remains blurry, we expect 3Q margin to plunge to historical lows. We understand that investors are tempted to bottom fish when the industry is at its worst, but slowing solar PV demand growth and tough solar glass competitive landscape are de-rating factors we have to face. We maintain HOLD rating for XYS with a lower TP of HK$4.20, implying 11x 2024E P/E.

Key Factors for Rating

1H results. XYS's 21.5% GPM in solar glass segment is slightly higher than our estimates, thanks to continual improvement in production efficiencies. Solar farm business was a slight drag, as curtailment woes dragged on margins.

3Q could be the worst quarter ever. Solar glass's profitability has materially worsened in the last two months as inventory build-up drove down ASP and margins at unprecedented pace. Solar glass inventory has been increasing for 15 weeks in a row to historical high of 32.5 days, and 3.2mm solar glass price has dropped by 10% since May. Alarmingly, 2.0mm product ASP dropped faster than that of 3.2mm by 22%, and is trading at a discount to 3.2mm for the first time. This would be particularly bad for margins as 2.0mm used to command higher ASP per unit weight. We estimate leading solar glass makers' GPM could drop to c.10% in 3Q, while lower-tier players are suffering from cash losses.

Hope of 4Q recovery - and what it only warrants a rebound, not a re- rating. Some may argue that solar glass's harsh days during weak demand season is a given due to its nature of around-the-clock production, and its fate may quickly flip when demand recovers. We reckon that current supply levels, even after recent cold repair, requires 20% MoM demand recovery to destock, which may again trigger another round of new furnace ignition. Although XYS slowed down its capacity expansion to 6,400tpd this year, the industry has more than 10,000 tonnes new capacity ready to be ignited in 2H24 if demand picks up on our estimates. Meanwhile, XYS's long-term expansion plans in Qujing, Shangrao, Dalad Banner and Indonesia are a bit ambitious against our cautious forecasts of long-term solar PV demand growth rate. Therefore, we see a possible destock cycle in 4Q24 and a rebound opportunity for solar glass names, but may soon be dampened by the emergence of new capacities.

Key Risks for Rating

Stronger/weaker-than-expected solar PV demand.

Valuation

We cut XYS's 2024-26E EPS by 36-37% to reflect lower ASP and GPM assumptions. TP cut to HK$4.20 based on unchanged 11x 2024E P/E, roughly - 0.6SD vs historical mean. Maintain HOLD rating.