Rating: BUY (Initiation) 

Target price: RMB101.00 

Share price (6 Sep): RMB61.99 

Market Cap (RMBm): 5,457.4 

Up/downside: 62.9% 

We are optimistic about the company’s laser-cut system market growth, on top of subsidiary Kaitong Automation’s growth prospects in CNC machine tools. We initiate coverage with a BUY call and a target price of RMB101. 

An industrial motion control systems market leader 

Weihong’s main products are industrial motion control, servo driver and industrial Internet of Things (IOT) systems, which are usually deployed in computer numerical control (CNC) machine tools. Its motion control products include engraving and milling control (woodworking, 3C, metal), cutting control (laser, water, flame) and manipulator systems. In January 2021, the company acquired Kaitong Automation, which augmented its turning and milling product line and enhanced the company’s competitiveness. Revenue growth reached a fundamental inflection point and grew strongly in 1H21. 

Question 1: What is the market scale of laser-cut control systems? 

Benefiting from all types of metal and non-metal parts, the laser-cut process equipment market is growing well. A motion control system represents the brains of a laser-cut machine. We expect China's laser equipment market to reach RMB77bn in 2021E, with a laser-cut equipment market scale of RMB19.7bn and annual sales of 72,000 units. We believe the laser-cut control systems market size (RMB1.34bn in 2020) will reach RMB3.72bn in 2025E, with high-powered systems growing faster. 

Question 2: What is the outlook for Weihong’s laser-cut products market share? 

Shanghai Friendess Electronic Technology, the domestic leader in laser-cut control systems, accounted for 70% of the low to medium-powered market and 15% of the high-powered market in 2020. Weihong’s laser-cut systems differ little from those of Friendess in product structure, control precision and speed. The company aims to differentiate its products with in-depth cooperation with lead customers, and had good results in terms of product development and customer expansion in 1H20. Its low to medium-powered product market share increased to ~20%; in the high-powered 10,000-20,000W segment, its products entered the trial phase. We believe its market share gap with Friendess will continue to narrow and that its market share will increase in the future. 

Question 3: How will the integration of Kaitong impact Weihong’s future growth? 

Kaitong Automation is positioned in motion control systems in the CNC machine tool market. In a meeting in August 2021, the State-owned Assets Supervision and Administration Commission (SASAC) emphasized technological innovations, ranking industrial 「mother」 machines ahead of high-end chips. China’s CNC machine tools market has grown rapidly but still lags the ones in developed countries. In addition, the localization rate of high-end global CNC machine tools is relatively low, so we see large potential market. We believe that the essence of high-end CNC machine tools is industrial software, especially for CNC systems. The localization of CNC systems is the key to the localization of high-end CNC machine tools, in our view. After acquiring Kaitong Automation, we expect Weihong to step up its products and R&D toward the high-end market, which implies broad headroom for growth. 

Valuation and risks 

Taking into account Weihong's laser-cut market growth and subsidiary Kaitong Automation’s growth in CNC machine tools, we expect total revenue of RMB439m/615m/819m in 2021/22/23E, with net profit at RMB100m/168m/226m. We initiate coverage with a BUY rating and a target price of RMB101 (target market value of RMB9.2bn). Risks include: industry profitability coming in less than expected; laser-cut product R&D and customer expansion falling below expectations; and intensifying competition. Note: our forecast assumptions are subjective. 

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