Sound Global

DBS Group Research, May 8

Q1 2013 was hurt by higher interest expenses and taxes. A net profit of 61.5 million yuan or $12.3 million (-20 per cent y-o-y, -25 per cent q-o-q) was 10 per cent below forecast despite higher sales. If 5.3 million yuan forex gain is excluded, the core profit would be 56.2 million yuan.

A key shortfall was finance costs, which skyrocketed to 76.8 million yuan from 30 million yuan because the interest for the US-dollar senior notes surged to $41.7 million versus our forecast of $29.3 million because of withholding tax. The tax rate was also higher at 25 per cent against our assumption of 15 per cent. Q1 2013 gross margins were higher at 32.9 per cent compared to 30.4 per cent in Q1 2012 and 29.2 per cent in Q4 2012.

All business segments improved. Sales grew 17 per cent y-o-y to 519.3 million yuan, about 20 per cent above our estimates. O&M grew the most, up 164 per cent y-o-y to 41.6 million yuan, forming 8 per cent of group sales from less than 4 per cent previously. After deducting Q1 2013's revenue, we estimated that Sound Global's current EPC orderbook would be around three billion yuan.

Finally, growing O&M would contribute to a good base of recurring income. Unfortunately, high finance costs have negated the benefits as reflected by Q1 2013 results. Unless future sales can generate substantially higher returns or higher margins, O&M can offset steep borrowing costs, earnings growth would be compromised. We have cut FY2013/2014 estimates to reflect higher finance cost.

In view of deteriorating earnings outlook, we have also reduced valuation peg to 11 times FY2013 (-0.5 standard deviation). Consequently, target price is lowered to $0.63. Downgrade to "hold" given limited upside to the new target price.

HOLD

Sound Global

Kim Eng on 8 Oct 2012

Company background. Sound Global is one of the leading one-stop integrated water and wastewater treatment solutions providers in the PRC. Its services cover the full value chain of water and wastewater treatment, including the design and construction as well as operation and maintenance of water and wastewater treatment facilities, and the manufacture of water and wastewater treatment equipment. 

A first mover in a CNY430b market. Water treatment investments are set to double in the 12th Five Year Plan Period (2011-2015) to CNY430b in an effort to improve China’s wastewater treatment rate to 85% by 2015, from 77% currently. Commercialisation and privatisation of the Chinese water treatment market is also a long-term trend. With over 20 years of experience, Sound Global has become one of the leading one-stop integrated wastewater treatment solution providers in China, with a respectable market share. 

Key revenue drivers. In our view, Sound Global’s revenue will be supported by: 1) continuous order wins thanks to a long-term relationship with the government, and 2) more BOT projects entering their collection period. A hike in water tariffs in China will also have positive effect on revenue.

Margins likely to fall. Although we are positive on Sound Global’s revenue outlook, its high net margin of the past few years would be very hard to maintain, in our view. Recent high-cost borrowing will weigh on the company’s net margin for the next few years, assuming it does not redeem the senior notes before maturity.
   
Trading at large discount to peers. Sound Global is trading at a large discount to its peers (6.7x FY12PE based on consensus vs average of 12.8x for HK-listed peers and Hyflux’s 16.7x). We currently do not have a rating and target price on Sound Global. However, we think the deep discount may not be justified given Sound Global’s comparable net margin and higher-than-peers ROE. Sound Global is worth considering if investors are looking for cheaper alternatives.