As a domestic expert in motion control systems, Weihong is mainly engaged in the motion control systems for laser and metal cutting. Its laser motion control systems have been developing rapidly in recent two years, while its engraving, milling, and cutting control systems are poised for a resurgence. The Company's core product framework has been basically well-refined, and its software development on the proprietary Phoenix platform is becoming mature steadily. Intelligent manufacturing-related products are also thriving, along with the commissioning of smart industrial parks, suggesting strong potential for rapid earnings growth in the coming years. We forecast 2023E-25E attributable net profit (ANP) of Rmb98mn/133mn/174mn, equivalent to EPS forecasts of Rmb0.90/1.22/1.60. Considering both the PE and discounted cashflow (DCF) valuation methods (with the valuation of 53.45x 2023E PE for its comparable company, Friendess Electronic (688188.SH), as a reference), we assign a target price of Rmb40, corresponding to a target market cap of Rmb4.4bn, and initiate coverage with a "BUY" rating.
A leader in motion control systems.
As a domestic leader in industrial motion control systems, Weihong has dedicated itself to providing customers with core digital manufacturing-related products and holistic solutions. Since its establishment, the Company has been expanding business coverage on multiple fronts, with numerical control systems and servo drives as core business while consistently venturing into various industries such as laser, computer, communication, consumer electronics (3C), and furniture. Recently, Weihong has been embracing the prevailing trend of intelligent manufacturing by attaching particular importance to NcCloud, an online platform monitoring the operation and production of machine tools, to build a presence in smart manufacturing and intelligent factories, so as to enhance its intelligent levels. After years of accumulation, Weihong has developed three product layers of software, hardware, and drivers. In the meantime, it has been seamlessly integrating software and hardware into the proprietary Phoenix platform featuring an open system framework, which reduces development complexity while providing a competitive advantage in tailored development, making it an irreplaceable player in the market.
Broad downstream applications with a diverse industry profile refuels growth on multiple fronts.
Weihong has gained a solid foothold in engraving, milling, and computer numerical control (CNC) systems, continuously expanding its application scenarios in industrial control systems since its establishment. Currently, it serves a wide range of industries through its downstream customers, covering home decor, metal cutting and forming, and 3C manufacturing. In other words, Weihong’s overall business development is tied to downstream industries. The Company has managed to capitalize on emerging industries such as laser processing, while expanding its 3C screen cutting technologies into automotive touch screen glass and curved glass production, with viable solutions including tool processing (eg, metal milling, turning, 3C, wood, and glass) and energy processing (eg, laser and waterjet cutting)。 1) Laser: The laser industry has been growing both at home and abroad in recent years, with laser cutting as a significant niche in laser processing. The Company's laser cutting control systems, as a core part in laser cutting equipment, is known for high technological content and profit margins. So far, Weihong has gained a market share of approximately 17% in the mid-to-low-power sector, only next to that of Friendess Electronic. In terms of high-power systems, there's vast headroom for import substitution. According to the information disclosed by the Company on EasyIR, a major interactive investor platform established by the Shenzhen Stock Exchange (SSE), Weihong may continue to gather strength in laser-related fields and develop high power products, which will likely further expand its market share. 2) Metal Cutting: In 2021, Weihong ventured into metal cutting through the acquisition of Kaitong Automation. Its products are mainly applied to various types of CNC machine tools, milling machines, turn-mill multitasking machine tools, etc. From a 10-year or 20-year perspective, the current machine tool market is still at a relatively low level of prosperity. The downstream market has expanded rapidly over the past few years, forming a sizeable existing market of machine tools. Looking ahead, the replacement and incremental demand driven by equipment depreciation may continue to support the machine tool market to achieve a larger market size and refuel another upswing cycle. In domestic CNC metal cutting systems, achieving the localization of CNC systems is crucial for mid- and high-end CNC machine tool production, which is currently dominated by foreign companies, leaving vast headroom for import substitution. By acquiring Kaitong Automation, Weihong is poised to integrate resources and enhance efficiency. As the industry gradually recovers, the production capacity of low- and mid-end metal cutting sectors may expand further, while high-end product lines will likely post stable development.
Controller tech and software generate synergies, and equity incentives resonates with downstream recovery.
Backed by strong government support for smart manufacturing, Weihong follows a development strategy dubbed as “2+1”: “2” for the Phoenix platform and the computer-aided design (CAD)/computer-aided manufacturing (CAM) platform, and “1” for the internet of things (IoT) technology. The well-refined CAD/CAM platform on the processing side effectively secures the processing R&D and efficiency enhancement, enabling a seamless integration with manufacturing execution system (MES) to build a full presence along the processing line. Leveraging reusable controllers, the Company has been proactively offering technically cost-effective customized services via its industrial internet platform based on general standard controllers, which may help attract top-tier clients going forward. Internally, in terms of incentives, Weihong launched an equity incentive plan to 118 employees based on its 2022 earnings results, while setting a target revenue increase of 30%/69%/120% for 2023E-2025E, aiming to align key talents’ interests with Company earnings and highlight its growth confidence. In terms of external market conditions, we have witnessed positive development trends in downstream laser fields, along with signs of improvement in the furniture industry in 1H23. In the meantime, its legacy business of metal cutting recorded a slowdown and may bottom out in 2H23. As a player in the midstream and upstream along the value chain, we expect Weihong to benefit further and post stable earnings growth, leveraging its accumulated technical know-how and market presence build-up.
Potential risks: Macro environment and downstream industry volatility; intensified market competition; product R&D risks; an overall decline in the gross profit margin (GPM); disappointing performance of the laser sector; the business integration with Kaitong Automation missing expectations; goodwill impairment.
Investment recommendation: Considering the Company’s rapid development in laser motion control systems in recent two years, we anticipate an imminent recovery in CNC machine tool control systems. In the meantime, Weihong’s core product framework is basically well-refined. In addition, with the maturing of the proprietary Phoenix software platform, smart manufacturing-related products stand well to thrive, alongside the commissioning of new smart industrial parks, which may post rapid earnings growth going forward. We forecast 2023E-25E ANP of Rmb98mn/133mn/174mn, equivalent to EPS forecasts of Rmb0.90/1.22/1.60. With the valuation of 53.45x 2023E PE for Weihong’s comparable company, Friendess Electronic (688188.SH), based on consensus estimates as a reference, and given that Friendess Electronic is a leading player in laser motion control systems, we assign 45x 2023E PE. By combining the absolute DCF valuation result, we arrive at a target price of Rmb40, corresponding to a target market cap of Rmb4.4bn, and initiate coverage with a "BUY" rating.