EQS-News: Brokers frequently recommended Tian Lun Gas，what are the factors behind?

Brokers frequently recommended Tian Lun Gas，what are the factors behind?

On June 26, Citibank initiated its first coverage of Tian Lun Gas (TLG, HKEX stock code:1600) with a buy rating and TP of HK$11, an increase of about 34.8% over the closing price of the day reported. Since the beginning of this month, Goldman Sachs, Essense International, Huatai Finance (Hong Kong) and Macquarie have also covered TLG with TPs of HK$10.3, HK$13, HK$12 and HK$11.3 respectively, which indicated considerable room to rise compared with the current price of TLG.

The given positive evaluations were based on TLG's high quality fundamentals and strong growth expectations, reasons as below:

1. Outperformance with predictable sustained high growth

Established in 2002, TLG successfully listed on the HKEX in 2010. It is one of the earliest non state-owned enterprises engaged in urban gas business in China. After deeply developing the Henan market, TLG has become a nationwide gas distributer based in Henan Province and expanding all of China through the outreach M&A. TLG has demonstrated rapid growth since the listing. In Mar 2019, TLG announced its over-expected annual results for FY 2018. The company achieved revenue of RMB5.113 billion, up YoY 64.47%; gross profit of RMB1.428 billion , a YoY growth of 85.98%; adjusted annual core profit of RMB730 million, a YoY increase of 91.95%.

Regarding to TLG's future performance, analysts have show positive expectations. According to the report of Citi, TLG's gas sales volume increased by 25% YoY in 5M19, of which city gas sales volume grew by 25% YoY. The growth rate of gas sales is at the leading position in the industry, and it is expected to maintain over 20% in 2019. Goldman Sachs expected TLG to reach 27% EPS CAGR in the next three years, far higher than the 7%-17% of its peers. Macquarie estimated the EPS CAGR to reach 30% in 2018-21E, and EPS is expected to increase by 53% YoY in 1H19. Citi has given higher expectations, with a 37.3% EPS CAGR in 2018-21E, and expected its net profit to double in 2018-20E.

2. The unique rural coal-to-gas (CTG) connections bring growth for the connection and gas sales

Founded in Henan, TLG has been a well-known brand after many years' development. As the only partner of Henan government for 5 million rural CTG connections, which launched in 2H18 and will last for 3-5 years, this project will provide continuous revenue growth for TLG.

Macquarie believes that the rural CTG project often encounters the risk of funding and collection. TLG avoided the risk through establishing a CTG JV with Yuzi Development (a main investment platform of the Henan government) .

Guaranteed by Yuzi, the JV obtains the loan from the National Development Bank(NDB) at 10% discount to benchmark interest. Also, TLG will be paid at a fixed price of RMB3,000 per household in a year for the connection.

According to Huatai Finance (Hong Kong), in 4M19, TLG has connected 120 thousand CTG users in Henan, and is confident to complete the conversion for 200 thousand and 600 thousand rural households in 1H19 and 2019 respectively. And the connection fee will be collected within 12 month.

The ourperformance of CTG brings huge income to TLG in the short term and the growth of revenue will sustain in the future. Citi forecasted TLG to have 25-31% revenue and 35-45% of gross profit margin from rural gas connection projects. According to Goldman Sachs, TLG's connection fee accounted for 20% of total revenue in 2017 and 34% in 2018, and it is expected to be 43% at its peak in 2020. Macquarie estimated that the gross profit brought by rural connection to account for 29%, 36%, and 42% respectively in 2018-20E. And free cash flow will turn positive in 2020 due to the strong cash inflow from rural CTG.

The total capital of the JV is RMB 1 billion, of which 40% contributed by TLG and 60% by Yuzi. It plans to expand to RMB 1.0-15 billion in the future, with equity and debt financing accounting for 20% and 80% respectively. NDB is expected to approve the first batch of RMB 1 billion loan in 3Q19. With the support of JV, it is expected that the CTG connection will proceed more smoothly. Huatai Finance (Hong Kong) also mentioned that TLG is planning to expand its CTG market to other regions, such as Gansu Province.

3. Extensive M&A may beyond expectations

In addition to the remarkable endogenous development achieved by its own business, TLG also achieved rapid growth through its selective M&A strategies. In terms of M&A, TLG focuses on the following three types of projects: 1) projects around capitals with great potential, 2) projects in key provinces and regions, and 3) gas projects with abundant gas sources and low gas supply pressure. The acquisitions were usually obtained by TLG at better discount and excellent cost control boosted the profit as well. In 2019, TLG's budget for M&A is RMB 700 million, and Essense International assumed the number to exceed expectations in this year. Citi expected M&A to contribute 6-8% per annum to the growth of TLG's gas sales. Macquarie's previous sector report also shows that small gas companies listed in A shares will suffer more from stricter regulations, and their ROE is usually 7-13% lower than that of HKEX-listed peers, thus providing TLG with more potential acquisition opportunities.

4.Selected in MSCI China Small Stock Index and Shenzhen-Hong Kong Stock Connect

TLG was successfully included in MSCI China Small Stock Index in Nov last year. In Feb 2019, TLG became a component of HSSI and was incorporated into Shenzhen -Hong Kong Stock Connect in Mar. The outstanding performance of the capital market has brought more attention from both international and domestic investors to TLG, which enriched the its investor base, and is more conducive to the value discovery of TLG.