Rating:BUY(Initiation) 

Target price: RMB31.00 

Share price (4 Aug): RMB22.77 

Market Cap (RMBm): 58,728.7 

Up/downside: 36.1% 

We initiate coverage with a BUY call and target price of RMB31. With Gortune and Beiterui in the picture, and market-driven management practices, we expect to see an efficiency lift in Baoan’s operations, while its cathode tech premium andhigher anode capacity continue to drive growth. 

New controlling shareholder could raise management efficiency 

Baoan, a conglomerate with nearly 200 subsidiaries, had tracked a conservative development path under its SOE identity until recently. Beiterui chairman He Xueqin became its vice president in Aug 2020, and in 2021, Baoan shareholder ShaoguanGaochuang (韶关高创: a wholly owned subsidiary of Gortune Investment) removed clauses that had hindered standard management changes,including those on early dismissal. These had subjected the company to a lump-sum financial compensation equal to more than 10x of annual salary plus benefits. Thus the liberalization paved the way to market-driven management. With Gortune and Beiterui inthe picture, we believe the company’s operations will improve. 

Baoan core asset is 68% stake in Beiterui’s lithium battery business 

Cathodes: incremental production capacity lifts and quality customer structure 

1) Beiterui consistently provided the world's highest anode shipments and its annual production capacity is growing. Effective production capacity was 106000 tons in 2020 and slated to reach 160000/260000 tons in 21/22E. 

2) Its customer structure is high-quality and it is the key producer in the overseas supply chain. Major overseas battery factories are its customers: Panasonic, Samsung SDI and LG Chem. Having cooperated with these companies for nearly 10years, we believe Beiterui will continue to lead the supply market. 

Cathodes: two new technologies increase efficiency and reduce cost 

Efficiency:silicon-based anodes perform well and enjoy a tech premium. Its silicon carbon anodes have been supplied to Samsung SDI since 2013 and silicon oxide anodes to Panasonic and Tesla since 2017. Witha current silicon capacity of 3,000 tons, its tech premium leads to net profit of RMB65000 per ton. 

Cost reduction:we believegraphitization technology advances are helping to reduce cost by ~30% vs. traditional processes. Graphitization is a major cost component in man-made cathode production and most of Beiterui’s peers reduce cost by building bases in areas with low electricityprices and improving their furnace installation methods. Beiterui has innovated a continuous graphitization process, but as this is in its early stage of application, we assume it is being used mainly to make low-end anodes. We estimate that with process maturity,its graphitization cost could reduce ~30%. 

Anodes: better capacity utilization; mostly-overseas customers lift quantity, profit 

It is rolling out incrementalproduction capacity increases more quickly. We expect effective production capacity of 33,000/59,000 tons in 2022/23E. Its high-nickel anodes have been certified by Panasonic and SKI. 

Valuation and risks 

We expect Baoan’s revenue to arrive at RMB16bn/24.8bn in 2021/22E and net profit of 1.2bn/2bn, up 85%/62%, corresponding to PEs of 48/30x. With a sum-of-the-parts valuation, we assign to Beiterui a PE of 45x and 20x to Mayinglong Pharmaceutical,corresponding to Baoan’s total market value of RMB80bn. We initiate coverage with a BUY call and a target price of RMB31.Risks include: lower-than-expected production capacity roll-outs; cathode prices falling below expectations; weaker-than-expected electric vehicle sales; high-than-expected coke prices; and worse-than-expected company governance changes.Note: our calculations are subjective. 

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