Investment positives

Royal Group is a bellwether in the dairy industry in thesouthwestern region. It has been moving into the culture andmedia industry since 2014. The dairy business hasmaintained stable growth in recent years, and itprovides strong support to earnings. The firm has built abusiness structure for the cultural industry, coveringmovie/TV, preschool education and internet finance. Itis based on a cloud platform.

Movies/TV: The industrial chain of content production – mediaoperation – terminal communication – derivative development”fuels growth. Preschool education: T2O2O commercialclosed-loop built through TV and on- and offline (T2O2O)deployment. Internet finance: The company has establishedthe Yingshibao crowd-funding platform and invested in PerfectOnline (UnionPay electronic bill service provider).

Financials

We expect 2016/17/18e operating revenue ofRmb2.43bn/2.97bn/3.55bn, up 44.4%/21.8%/19.7%YoY, and net profit of Rmb380mn/509mn/650mn, up105.9%/33.8%/27.0% YoY.

Valuation and recommendation

We expect the dairy and movie/TV businesses to contribute netprofit of Rmb148mn and Rmb352mn in 2017. Given the businessstructure, we adopt a SOTP method for valuation. We assign 25x2017e P/E for dairy business, implying a market cap ofRmb3.7bn, and assign 34x 2016e P/E for the movie/TV business,with a market cap premium of 15%, implying market cap ofRmb13.8bn. The target market cap is Rmb17.5bn. The2016e P/E is 46x, with TP of Rmb20.8. Initiate with BUY.

Risks

Dairy competition increases; acquisition performancedisappoints; business integration risk.