2021 and 1Q22 results in line with our expectation

Huaxiang Electronic has announced its 2021 and 1Q22 results. In 2021, revenue grew 4.12% YoY to Rmb17.59bn, and attributable net profit rose 48.87% YoY to Rmb1.27bn. In 4Q21, revenue dropped 14.54% YoY but increased 6.63% QoQ to Rmb4.69bn, and attributable net profit climbed 33.31% YoY and 9.02% QoQ to Rmb322mn. In 1Q22, revenue fell 3.20% YoY and 10.54% QoQ to Rmb4.20bn, and attributable net profit decreased 17.60% YoY and 38.92% QoQ to Rmb197mn. Its 4Q21 results equal the median of its preannouncement, while 2021 and 1Q22 results are in line with our expectation.

Trends to watch

Restructuring of European business bolstered high earning growth; COVID-19 resurgence and adjustment in North American business weighed on 1Q22 results. In 4Q21, Huaxiang Electronic’s attributable net profit rose 33.31% YoY to Rmb322mn. We attribute the growth to the low base in 4Q20 when the company made a Rmb266mn provision for asset impairment losses from the restructuring of its European business. Excluding the impact of the restructuring, we estimate its 4Q21 net profit slid YoY, as its profitability came under pressure due to rising raw material and ocean freight prices. Its gross margin (GM) dropped 0.34ppt YoY to 18.76% in 2021. The COVID-19 resurgence in Changchun and the adjustment in the North American business weighed on Huaxiang Electronic’s profit in 1Q22, in our view. The company's leading customer, FAW-Volkswagen, contributes more than 20% of its total revenue. In addition, it has a thermoforming plant and joint ventures such as Faurecia and FAWSN in Changchun. As a result, we think the shutdown of relevant factories will likely affect its short-term performance.

Increasing R&D investment to improve core competitiveness; operating cash flow solid in 2021. In 4Q21, Huaxiang Electronic’s R&D expense ratio rose 0.37ppt YoY and 1.68ppt QoQ to 4.3%, mainly due to its acquisition of Yirui Auto in 4Q21, business expansion in the field of smart cockpits, and higher R&D investment. The company focuses on improving management efficiency. Its selling and G&A expense ratio dropped 1.84ppt YoY to 5.89% in 2021, and fell 1.26ppt YoY (-0.79ppt QoQ) to 5.78% in 1Q22. We think it has enhanced its operation. In 1Q22, operating cash flow rose 21% YoY to Rmb432mn, reflecting the company’s overall sound performance.

Optimizing global capacity; proactively cooperating with electric vehicle (EV) manufacturers; long-term growth momentum solid. The company has basically completed the restructuring of its European business in 2021, and plans to transfer its production capacity in North America to its plant in Mexico to reduce operating costs. Huaxiang continues to optimize its customer structure and to increase global market share via M&As in both domestic and overseas markets. While providing components for global automakers’ mid-end and high-end vehicle models, Huaxiang also steps up efforts to penetrate into the supply chain of new automakers such as Tesla, NIO and XPeng in order to fully benefit from the development of components for EV and smart vehicles. We expect the company to make breakthroughs via independent R&D and external M&As, and create new profit growth drivers.

Financials and valuation

Given raw material price hikes and COVID-19 resurgence, we lower our 2022 and 2023 profit forecasts 22.8% and 25.0% to Rmb1.33bn and Rmb1.42bn. The stock is trading at 8.2x 2022e P/E and 7.7x 2023e P/E. We maintain an OUTPERFORM rating. As the median of the sector valuation has dropped, we cut our TP 29.4% to Rmb18.5, implying 11.3x 2022e P/E and 10.6x 2023e P/E with 38.1% upside.

Risks

Raw material prices rise more than expected; overseas business integration disappoints; COVID-19 resurgence weighs on capacity utilization rate.