SINGAPORE (Oct 16): China Sunsine Chemical Holdings, the largest rubber chemical producer in China, is set to benefit from long-term market consolidation, according to KGI Securities Research.
KGI is re-initiating coverage on China Sunsine with an “outperform” rating and a target price of $1.40, representing an upside of close to 18%.
Analyst Chen Guangzhi notes that China currently accounts for 76% of global rubber chemical production. Meanwhile, only 47 producers supplied 90% of the output to China’s market in 2018.
“China’s industrial policies continue to promote market consolidation,” Chen says in an Oct 10 report. “We thus expect Sunsine, the largest rubber chemical producer in China, to benefit from the ongoing market trend.”
As of December 2018, Sunsine is the top rubber chemical producer in China, with production of 154,000 tonnes – 11.6% more than the second-highest producer.
“Sunsine takes a dominating role in the industry that controls the major supply globally, with the largest production scale and a relatively complete product mix,” Chen says.
He notes that the group also benefits from high barriers to entry in the rubber chemical industry. Hurdles for new players include branding recognition, prolonged tightened domestic environmental protection policies, and enormous amounts of capital input.
“China’s prolonged tightened domestic environmental protection policies have eliminated many companies who fail to meet the required criteria. Meanwhile, banks continue to restrict loans to the chemical industry, especially for capacity expansion,” says Chen.
According to Chen, raw material prices are also at the cyclical bottom, with aniline prices having collapsed after June 2018. This has resulted in aniline producers with high production costs having thin margins or making losses.
“The longer aniline price stays low, the more producers will halt production or even exit the market. Therefore, the low raw material prices are not sustainable,” he says, adding that aniline price saw a slight rebound in late August this year.
Sunsine has been improving its profitability, Chen notes, with gross profit margins rising above 30% and net profit margins above 15% in the last two years. The dedication to environmental protection and stringent pollution control has allowed the company to survive and thrive after China implemented stricter environmental protection regulations after 2016.
“We expect Sunsine to further enhance its profitability given its dedicated environmental protection commitment and cost optimisation,” says Chen.
Coupled with Sunsine’s clean balance sheet and strong net cash position, Chen believes that the company possesses a competitive advantage.
Operating with no debt since 4Q16, and cash on hand hitting RMB1.17 billion ($226 million) as of June 2019, the company can expand its capacity at its own discretion and mitigate potential liquidity crunch in the event of a market downturn.
The latest 2Q19 results ending June 30 saw Sunsine report lower earnings, which fell 35% to RMB155.8 million, from RMB239.7 million a year ago.
Revenue also fell 17% to RMB727.0 million, from RMB880.6 million. Despite that, sales volume grew 15% to 43,363 tons in 2Q19, a new record high, from 37,567 tons a year ago.
See: China Sunsine reports 35% drop in 2Q earnings to $30.6 mil on lower ASP
The company has also announced a proposed share spilt of one ordinary share into two shares. The move was to increase market liquidity due to the reduction in the share price and broaden the shareholder base.
This is still subject to shareholders approval at an extraordinary general meeting.
See: China Sunsine gets SGX approval for proposed share split
Sunsine is also preparing to expand its capacity, with the government approving its plan to add another 20,000 tonnes of production. The company expects this to be installed by end 2020.
Sunsine also has plans to acquire 453,300 sqm in Shanxian Chemical Zone for future expansion. About 200,000 sqm is scheduled for 60,000 tonnes of insoluble sulphur production lines.
Chen also highlights the main risks to Sunsine: the prolonged environment of low prices for raw materials and end products, an unexpected short-term surge of industry capacity, and an environmental protection inspection at Sunsine that results in a temporary reduction of utilisation rates.
As at 3.11pm, shares in China Sunsine are trading 1 cent higher, or up 0.9%, at $1.16.
