1H22 results miss our expectations

Ocean's King Lighting Science amp; Technology （Ocean King） announced its 1H22 results: Revenue fell 5.2% YoY to Rmb800mn, and attributable net profit dropped 27.0% YoY, missing our expectations as COVID-19 resurgences weighed on professional lightening demand. In 2Q22, revenue fell 6.3% YoY to Rmb496mn, and attributable net profit dropped 22.5% YoY to Rmb53mn.

COVID-19 resurgence weighs on development of professional lightening business; MingZhiHui performs well in engineering business. In 1H22, revenue from the company's professional lighting business dropped 20.5% YoY to Rmb528mn, as the COVID-19 resurgence weighed on door-to-door services and product marketing. Revenue from the construction engineering business increased 51.4% YoY to Rmb272mn, thanks to subsidiary MingZhiHui's business reform. Due to the change in business structure, the company's overall gross margin decreased 4.1ppt and 4.9ppt YoY to 53.6% and 52.9% in 1H22 and 2Q22. The gross margin of professional lighting decreased 0.6ppt YoY to 63.9% and that of construction engineering increased 1.1ppt to 33.7%.

Due to changes in business structure, the company’s expense ratio in 1H22 decreased 1.2ppt YoY, and the selling expense ratio decreased 2.5ppt YoY. In 1H22 and 2Q22, the company's net margin decreased 2.6ppt and 2.2ppt YoY to 8.8% and 10.7%. Due to a decrease in income and revenue, the company's net operating cash outflow in 1H22 rose to Rmb148mn.

Trends to watch

COVID-19 affected professional lighting business; performance may recover as pandemic eases. The company adopts a direct sales model, and its downstream clients are mainly state-owned enterprises （SOEs）。 This model requires sales staff to visit clients and provide them with customized solutions. However, business development was under pressure amid COVID-19 resurgences. In our opinion, COVID-19 delayed downstream demand growth, though demand for professional lighting solutions may recover soon on relaxed travel restrictions.

Acquisition of MingZhiHui on track; securing large orders. Since the acquisition of MingZhiHui, the company’s performance has maintained steady growth. It is transforming from landscape lighting to a more integrated lighting engineering business. On September 2, the company announced that MingZhiHui secured a deal to build an Rmb613mn engineering, procurement, and construction （EPC） project for E Lighting Group. This EPC project should take 300 days to build; the value of the order exceeded the annual revenue of MingZhiHui （Rmb422mn in 2021）， indicating the market competitiveness of MingZhiHui in lighting engineering.

Financials and valuation

Considering the lighting business has come under short-time pressure due to COVID-19 resurgences, we lower our 2022 and 2023 EPS forecasts 12% and 12% to Rmb0.58 （ #43;14% YoY） and Rmb0.76 （ #43;31% YoY）。 The stock is trading at 21.2x 2022e and 16.1x 2023e P/E. Given lower earnings forecasts, a valuation rollover, ample orders for the engineering business and faster growth expectations for the period after COVID-19 resurgence, we maintain our target price Rmb13.77 （17x 2023e P/E）， offering 13% upside. We maintain an OUTPERFORM rating.

Risks

Disappointing recovery from COVID-19 impact; market competition intensifying.