Valuation ignoring growth potential

China Water Affairs Group 3 December 2019 Update
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China Water Affairs Group

Valuation ignoring growth potential

H120 results

Utilities

3 December 2019

Price

HK$5.82

Market cap

HK$9335m

Net debt (HK$bn) at 30 September 2019

11.0

Shares in issue

1,604m

Free float

66%

Code

855

Primary exchange

HK

Secondary exchange

N/A

Share price performance

%

1m

3m

12m

Abs

(1.9)

(6.1)

(34.4)

Rel (local)

0.6

(9.0)

(32.6)

52-week high/low

HK$8.87

HK$5.64

Business description

China Water Affairs (CWA) is a pioneer in the privatisation of water supply assets in China. The company seeks to create growth via volume/price increases.

Next events

FY20 results

June 2020

Analyst

Graeme Moyse

+44 (0)20 3077 5700

China Water Affairs Group is a research client of Edison Investment Research Limited

China Water Affairs (CWA) continues to offer the prospect of attractive growth in EPS despite the fall in environmental protection construction revenue. The requirement for expenditure on the water sector in China remains intact and the current rating of the shares appears undemanding.

Year end

Revenue (HK$m)

PBT*
(HK$m)

EPS*
(c)

DPS
(c)

P/E
(x)

Yield
(%)

03/18

7,580

2,462

71.8

23.0

8.1

4.0

03/19

8,302

2,772

85.1

28.0

6.8

4.8

03/20e

8,757

3,169

98.2

33.0

5.9

5.7

03/21e

9,894

3,402

105.6

38.0

5.5

6.5

Note: *PBT and EPS are normalised, excluding amortisation of acquired intangibles, exceptional items and share-based payments.

H120 EPS shows continued growth

In H120, CWA’s key financial benchmarks showed continued growth versus H119, with revenue +5.1% (Edison FY20e: +16.9%), EPS +36.6% (FY20e: +14.3%) and DPS +16.7% (FY20e: +17.9%). The dominant (80%+ of revenues) water supply business performed strongly, (+13.4% in H1 versus Edison FY20e +13.3%) despite negative currency movements, helped by volume growth (c.10%) and tariff hikes (4.8%). The overall shortfall in the H1 revenue growth rate versus our FY20e resulted, in large part, from a marked reduction in the revenue contribution from the environmental protection renovation and construction services (-46.3%), leading to an overall decline in the environmental segment revenue of 29.2% (Edison FY20e +35%). Operating margins remained constant at c 37%, and despite the lower than expected revenues, EPS of HK54.8c (+36.6%) significantly exceeded our forecasts, boosted by a stronger than anticipated associate line (+859% versus Edison FY20e of +161%, benefiting from a fair value adjustment to the recently acquired holding in Kangda International (KIE)), lower minority interests and a lower tax charge (22.7% versus Edison FY20e 28%). The DPS was increased by 16.7%, to HK14c (Edison FY20e +17.9%).

Long-term investment opportunity remains intact

We have revised our forecasts to reflect a more cautious view on environmental protection construction revenues (FY20 and beyond) but an enhanced contribution from associates (FY20e), lower minority payments and a lower tax rate. Our revised EPS forecast for FY20e of HK98.2c represents an increase of c 1% versus our previous estimate (FY21e -6.2%). Despite a general slowdown in Chinese fixed asset investment there is a requirement for further significant investment in the water sector and the government continues to appear favourably disposed to private investment in the sector.

Valuation: Undemanding rating

At current levels, CWA is trading on a FY20e P/E ratio of 5.9x (compared to an average of 15.0x for a group of selected Hong Kong- and China-listed peers) and a two-year PEG ratio of 0.6x (peers at c 2.0x). At a P/E of 10x, which is still below the peer group average, CWA would trade at HK$9.8 (a PEG ratio of c 1.0x).

Exhibit 1: Financial summary

HK$m

2017

2018

2019

2020e

2021e

Year end 31 March

HKFRS

HKFRS

HKFRS

HKFRS

HKFRS

PROFIT & LOSS

Water supply revenue

4,874

6,204

6,376

7,268

8,330

Environmental Protection

531

814

1522

1065

1119

Other segments

303

562

404

424

445

Revenue total

 

 

5,708

7,580

8,302

8,757

9,894

EBITDA

 

 

2,646

3,097

3,507

3,899

4,473

Operating Profit

 

 

2,271

2,691

3,022

3,289

3,785

Amortization

315

334

404

480

528

Depreciation

60

71

81

130

160

Net Interest expense

(251)

(289)

(319)

(493)

(570)

Profit Before Tax

 

 

1,963

2,462

2,772

3,169

3,402

Tax

(583)

(701)

(642)

(729)

(783)

Profit After Tax

1,379

1,762

2,130

2,440

2,620

Net profits contributable to shareholders

853

1,141

1,369

1,586

1,703

Average Number of Shares Outstanding (m)

1,505

1,571

1,609

1,606

1,604

EPS - fully diluted (c)

 

 

55.4

71.8

85.1

98.2

105.6

Dividend per share (c)

20.0

23.0

28.0

33.0

38.0

EBITDA Margin (%)

46.4

40.9

42.2

44.5

45.2

Operating Margin (%)

39.8

35.5

36.4

37.6

38.3

BALANCE SHEET

Fixed Assets

 

 

15,689

19,581

24,493

28,666

31,561

Intangible Assets

10,316

13,499

16,514

19,534

22,506

Plant, property and equipment

1,127

1,695

2,020

1,990

1,930

Investment properties

1,173

909

912

915

918

Investment in associates

635

661

676

1,483

1,275

Other

2,438

2,817

4,371

4,744

4,931

Current Assets

 

 

9,942

9,008

11,332

11,911

9,910

Properties Under Development

 

 

690

1,370

1,274

1,274

1,274

Properties Held for Sale

 

 

289

597

816

816

816

Inventory

 

 

285

348

531

560

633

Trade and Bills Receivables

 

 

872

1,055

1,243

1,311

1,481

Due from Non-controlling Equity Holders of Subsidiaries

251

260

288

323

347

Due from Associates

 

 

409

563

227

227

227

Prepayments, Deposits and Other Receivables

1,743

1,293

1,550

1,635

1,847

Pledged Deposits

 

 

783

570

645

645

645

Deposits and cash

4,314

2,511

3,973

4,335

1,855

Other

307

440

785

784

784

Current Liabilities

 

 

7,393

8,649

10,019

11,977

10,005

Trade and Bills Payables

 

 

1,097

1,626

2,410

1,400

1,500

Accrued Liabilities, Deposits and Other Payables

2,102

2,306

1,979

2,529

2,822

Short-term Borrowings

3,206

3,450

3,437

5,656

3,165

Other

988

1,267

2,192

2,392

2,517

Long Term Liabilities

 

 

9,275

8,786

12,903

14,026

15,102

Long-term Borrowings

8,123

7,432

11,494

12,494

13,494

Other long term liabilities

1,152

1,354

1,409

1,532

1,608

Shareholders' Equity

 

 

8,963

11,154

12,902

14,573

16,363

-

-

-

-

-

CASH FLOW

Net Cash Flows from Operating Activities

1,452

1,632

1,429

2,554

3,276

Purchase of property, plant and equipment

(92)

(100)

(100)

(100)

(100)

Increase in concession rights for water supply and sewage processing

(1,808)

(2,500)

(2,500)

(3,500)

(3,500)

Acquisitions/disposals

(283)

0

0

(1,200)

0

Increase in prepayments and other receivables

(1,226)

0

0

0

0

Others

(134)

(171)

(708)

159

164

Net Cash Flows from Investing Activities

(3,543)

(2,771)

(3,308)

(4,641)

(3,436)

Dividends

(135)

(369)

(450)

(530)

(610)

Shares issue and/or options exercised

(38)

301

0

(34)

0

Other

245

(362)

(183)

(205)

(220)

Net Cash Flow

(2,020)

(1,569)

(2,513)

(2,857)

(989)

Opening net debt (CWA definition)

 

4,213

6,232

7,801

10,313

13,170

Closing net debt/(cash)

 

 

6,232

7,801

10,313

13,170

14,160

Source: Company data, Edison Investment Research


General disclaimer and copyright

This report has been commissioned by China Water Affairs Group and prepared and issued by Edison, in consideration of a fee payable by China Water Affairs Group. Edison Investment Research standard fees are £49,500 pa for the production and broad dissemination of a detailed note (Outlook) following by regular (typically quarterly) update notes. Fees are paid upfront in cash without recourse. Edison may seek additional fees for the provision of roadshows and related IR services for the client but does not get remunerated for any investment banking services. We never take payment in stock, options or warrants for any of our services.

Accuracy of content: All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report and have not sought for this information to be independently verified. Opinions contained in this report represent those of the research department of Edison at the time of publication. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations.

Exclusion of Liability: To the fullest extent allowed by law, Edison shall not be liable for any direct, indirect or consequential losses, loss of profits, damages, costs or expenses incurred or suffered by you arising out or in connection with the access to, use of or reliance on any information contained on this note.

No personalised advice: The information that we provide should not be construed in any manner whatsoever as, personalised advice. Also, the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The securities described in the report may not be eligible for sale in all jurisdictions or to certain categories of investors.

Investment in securities mentioned: Edison has a restrictive policy relating to personal dealing and conflicts of interest. Edison Group does not conduct any investment business and, accordingly, does not itself hold any positions in the securities mentioned in this report. However, the respective directors, officers, employees and contractors of Edison may have a position in any or related securities mentioned in this report, subject to Edison's policies on personal dealing and conflicts of interest.

Copyright: Copyright 2019 Edison Investment Research Limited (Edison). All rights reserved FTSE International Limited (“FTSE”) © FTSE 2019. “FTSE®” is a trade mark of the London Stock Exchange Group companies and is used by FTSE International Limited under license. All rights in the FTSE indices and/or FTSE ratings vest in FTSE and/or its licensors. Neither FTSE nor its licensors accept any liability for any errors or omissions in the FTSE indices and/or FTSE ratings or underlying data. No further distribution of FTSE Data is permitted without FTSE’s express written consent.

Australia

Edison Investment Research Pty Ltd (Edison AU) is the Australian subsidiary of Edison. Edison AU is a Corporate Authorised Representative (1252501) of Crown Wealth Group Pty Ltd who holds an Australian Financial Services Licence (Number: 494274). This research is issued in Australia by Edison AU and any access to it, is intended only for "wholesale clients" within the meaning of the Corporations Act 2001 of Australia. Any advice given by Edison AU is general advice only and does not take into account your personal circumstances, needs or objectives. You should, before acting on this advice, consider the appropriateness of the advice, having regard to your objectives, financial situation and needs. If our advice relates to the acquisition, or possible acquisition, of a particular financial product you should read any relevant Product Disclosure Statement or like instrument.

New Zealand

The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. For the purpose of the FAA, the content of this report is of a general nature, is intended as a source of general information only and is not intended to constitute a recommendation or opinion in relation to acquiring or disposing (including refraining from acquiring or disposing) of securities. The distribution of this document is not a “personalised service” and, to the extent that it contains any financial advice, is intended only as a “class service” provided by Edison within the meaning of the FAA (i.e. without taking into account the particular financial situation or goals of any person). As such, it should not be relied upon in making an investment decision.

United Kingdom

This document is prepared and provided by Edison for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.

This Communication is being distributed in the United Kingdom and is directed only at (i) persons having professional experience in matters relating to investments, i.e. investment professionals within the meaning of Article 19(5) of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005, as amended (the "FPO") (ii) high net-worth companies, unincorporated associations or other bodies within the meaning of Article 49 of the FPO and (iii) persons to whom it is otherwise lawful to distribute it. The investment or investment activity to which this document relates is available only to such persons. It is not intended that this document be distributed or passed on, directly or indirectly, to any other class of persons and in any event and under no circumstances should persons of any other description rely on or act upon the contents of this document.

This Communication is being supplied to you solely for your information and may not be reproduced by, further distributed to or published in whole or in part by, any other person.

United States

Edison relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. This report is a bona fide publication of general and regular circulation offering impersonal investment-related advice, not tailored to a specific investment portfolio or the needs of current and/or prospective subscribers. As such, Edison does not offer or provide personal advice and the research provided is for informational purposes only. No mention of a particular security in this report constitutes a recommendation to buy, sell or hold that or any security, or that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person.

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1,185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1,185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

General disclaimer and copyright

This report has been commissioned by China Water Affairs Group and prepared and issued by Edison, in consideration of a fee payable by China Water Affairs Group. Edison Investment Research standard fees are £49,500 pa for the production and broad dissemination of a detailed note (Outlook) following by regular (typically quarterly) update notes. Fees are paid upfront in cash without recourse. Edison may seek additional fees for the provision of roadshows and related IR services for the client but does not get remunerated for any investment banking services. We never take payment in stock, options or warrants for any of our services.

Accuracy of content: All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report and have not sought for this information to be independently verified. Opinions contained in this report represent those of the research department of Edison at the time of publication. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations.

Exclusion of Liability: To the fullest extent allowed by law, Edison shall not be liable for any direct, indirect or consequential losses, loss of profits, damages, costs or expenses incurred or suffered by you arising out or in connection with the access to, use of or reliance on any information contained on this note.

No personalised advice: The information that we provide should not be construed in any manner whatsoever as, personalised advice. Also, the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The securities described in the report may not be eligible for sale in all jurisdictions or to certain categories of investors.

Investment in securities mentioned: Edison has a restrictive policy relating to personal dealing and conflicts of interest. Edison Group does not conduct any investment business and, accordingly, does not itself hold any positions in the securities mentioned in this report. However, the respective directors, officers, employees and contractors of Edison may have a position in any or related securities mentioned in this report, subject to Edison's policies on personal dealing and conflicts of interest.

Copyright: Copyright 2019 Edison Investment Research Limited (Edison). All rights reserved FTSE International Limited (“FTSE”) © FTSE 2019. “FTSE®” is a trade mark of the London Stock Exchange Group companies and is used by FTSE International Limited under license. All rights in the FTSE indices and/or FTSE ratings vest in FTSE and/or its licensors. Neither FTSE nor its licensors accept any liability for any errors or omissions in the FTSE indices and/or FTSE ratings or underlying data. No further distribution of FTSE Data is permitted without FTSE’s express written consent.

Australia

Edison Investment Research Pty Ltd (Edison AU) is the Australian subsidiary of Edison. Edison AU is a Corporate Authorised Representative (1252501) of Crown Wealth Group Pty Ltd who holds an Australian Financial Services Licence (Number: 494274). This research is issued in Australia by Edison AU and any access to it, is intended only for "wholesale clients" within the meaning of the Corporations Act 2001 of Australia. Any advice given by Edison AU is general advice only and does not take into account your personal circumstances, needs or objectives. You should, before acting on this advice, consider the appropriateness of the advice, having regard to your objectives, financial situation and needs. If our advice relates to the acquisition, or possible acquisition, of a particular financial product you should read any relevant Product Disclosure Statement or like instrument.

New Zealand

The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. For the purpose of the FAA, the content of this report is of a general nature, is intended as a source of general information only and is not intended to constitute a recommendation or opinion in relation to acquiring or disposing (including refraining from acquiring or disposing) of securities. The distribution of this document is not a “personalised service” and, to the extent that it contains any financial advice, is intended only as a “class service” provided by Edison within the meaning of the FAA (i.e. without taking into account the particular financial situation or goals of any person). As such, it should not be relied upon in making an investment decision.

United Kingdom

This document is prepared and provided by Edison for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.

This Communication is being distributed in the United Kingdom and is directed only at (i) persons having professional experience in matters relating to investments, i.e. investment professionals within the meaning of Article 19(5) of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005, as amended (the "FPO") (ii) high net-worth companies, unincorporated associations or other bodies within the meaning of Article 49 of the FPO and (iii) persons to whom it is otherwise lawful to distribute it. The investment or investment activity to which this document relates is available only to such persons. It is not intended that this document be distributed or passed on, directly or indirectly, to any other class of persons and in any event and under no circumstances should persons of any other description rely on or act upon the contents of this document.

This Communication is being supplied to you solely for your information and may not be reproduced by, further distributed to or published in whole or in part by, any other person.

United States

Edison relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. This report is a bona fide publication of general and regular circulation offering impersonal investment-related advice, not tailored to a specific investment portfolio or the needs of current and/or prospective subscribers. As such, Edison does not offer or provide personal advice and the research provided is for informational purposes only. No mention of a particular security in this report constitutes a recommendation to buy, sell or hold that or any security, or that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person.

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1,185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1,185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

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