We see potential earnings upside in 2020E-22E driven by several drivers: (1) Short term: Hengli’s production plan in Dec implies 20% MoM increase in hydraulic cylinders output volume, which is surprisingly strong; (2) Medium term: Solid market share gain on the back of the rising market share of Chinese-brand excavator manufactures (Hengli’s customers); (3) Long-term: Trend of import substitution of pump & valves and other products is clear. We revise up our earnings forecast in 2020E-22E by 8-10% (9-10% above consensus), after revising up both sales volume and gross margin assumptions. We continue to like Hengli’s solid position in the high-end hydraulic components industry with clear roadmap to achieve import substitution. Our TP is lifted to RMB114.4 from RMB87, based on 55x 2021E P/E (30% premium to the historical average of 42x).
Resilient demand for excavator in 2021E. For the industry as a whole, major manufacturers of excavator delivered sales volume of 296k units in 11M20, up 37% YoY, according to CCMA. We expect the full year sales volume growth will reach ~40%. In 2021E, we see upside to our existing excavator demand growth forecast of 3%, driven by infrastructure spending growth and the continuous trend of the substitution of labour by excavators.
Hengli’s growth is driven by structural factors. We estimate a single-digit growth of excavator demand will be enough for Hengli to deliver 20% revenue growth in 2021E, given that the Chinese excavator makers (majority of them are Hengli’s customers with high installation ratios), such as SANY Heavy (600031 CH, BUY), are gaining market share, which will drive Hengli’s share gain. We forecast Hengli’s market share in hydraulic cylinder to increase from 52% in 2020E to 61% in 2022E. Besides, we expect pump & valve for large-size excavators, as well as non-standardized hydraulic components for various industries will serve as other key drivers.
Latest production plan suggests robust demand in 1Q21E. According to Hengli’s production plan in Dec, the scheduled production volume of hydraulic cylinder (for excavator) is expected to reach 79k units, up 20% MoM. We estimate this will translate into ~40k units for excavator demand for the industry in Jan 2021E, which is impressive given that the industry sales volume was only 9.9k units in Jan 2020. On the other hand, we expect Hengli’s hydraulic pump and valves will see strong growth in Dec on MoM basis.
Key risks: (1) Slowdown of construction activities; (2) risk of overseas expansion; (3) increase in raw materials cost.
