SIJIA GROUP (HK: 1863) recently saw its shares slump following news of a strong increase in its R&D budget.
However, Oriental Patron Financial Group (OPFG) feels the market overreacted, and is reiterating its ‘BUY’ call on the reinforced polymer materials maker, especially following the Hong Kong-listed firm’s positive profit alert over the weekend.
“We believe the sell-down of Sijia was triggered by a misunderstanding of R&D expenses ratio hike. After talking to management regarding the issue, we conclude that the market was overreacting and we reiterate our Buy rating for the intact business fundamental and attractive valuation,” OPFG said.
The note said that in order to prepare for the roll-out of four new product categories in Shanghai in late FY2011, Sijia conducted the related R&D in Fuzhou, PRC in 4Q FY2010.
“The original plan was to amortize the bulk of these R&D costs (3~4% of FY2010 top line) in FY2011 when the Shanghai plant commences production. When the auditor arrived in factory last week to kick off year-end auditing, management got to know the costs may need to be fully recognized in FY10 and communicated the issue to market in reasonable time.
"Per our understanding, the discussion with auditor is still on-going with final conclusion yet to be made,” Oriental Patron added.
The equity research house said the R&D expenditure uptick was the “right decision.”
“Though hurting FY2010 profit accounting-wise, management’s decision to do R&D in 4Q FY2010 makes a lot of business sense to us. First, Sijia is penetrating 4 brand new product categories. Early R&D can buy Sijia time for marketing and securing orders to better utilize the capacity when the Shanghai plant is ready end-FY2011.
“Second, Sijia integrated the massive trial production with the fine-tuning of 4th lamination line, which was installed by end September FY2010.
"It saved total costs and secured utilization rate of the line in FY2011.”
OPFG said Sijia’s stock is trading at 6.1x FY2011E P/E, an “attractive price given its intact fundamentals.”
“Despite higher R&D expenses, Sijia issued a positive profit alert on Jan 28. The strong growth prospects of Sijia should not be neglected.”
Oriental Patron has a $5.8 hkd target price at 9x FY2011E on Sijia.
See also:
SIJIA GROUP Eyeing Biogas Boom On Beijing’s 23 Bln Yuan Subsidy
Excerpts from analyst report….
Macquarie Equities Research upgrades CHALCO to ‘neutral’ on higher aluminum prices
Analysts: Christina Lee & Calvin Chung
We have upgraded our recommendation on Chalco (2600 HK) to Neutral from Underperform with a new target price of HK$7.5 based on 10x 2011E PER from HK$4.5 based on 1x 2011E P/BV. Our upgrade is mainly due to our commodity team's aggressive aluminium price upgrade for 2011 which is 30% higher than our previous assumption.
Short-term bullish on aluminium. We think aluminium price strength will continue near-term. Our commodity team expects the aluminium price to trade up from its current level of $2,450/t up to $2,650-2,700/t (of note, 2010 average was US$2,173/t)), driven by a rapid inventory drawdown in China, limited supply increase and healthy developed world demand.
Earnings turnaround in 2010, going up 2011. On 17 January after the market close, Chalco made the disclosure that its earnings should turnaround in 2010 compared to net loss in 2009. We estimate Chalco to post Rmb1.7bn net profit in 2010, growing to Rmb9.1bn in 2011. Note that Chalco’s earnings are extremely sensitive to aluminium prices, changing 7-8% to 1% change in aluminium prices due to its thin margin.
But fundamental problems remain. However, Chalco should enjoy rising aluminium prices less than its peers, in our view, given the company’s higher cost compared to the peers, which is also rising faster than the peers due to Rmb appreciation and potential alumina-aluminium price de-linkage (note that Chalco is only 40-60% self sufficient in alumina).
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