Jiutian Chemical Group - UOB Kay Hian 2020-11-03: Strong Turnaround From Product ASP Spike; Initiate Coverage With BUY


Jiutian Chemical Group - Strong Turnaround From Product ASP Spike; Initiate Coverage With BUY

  • Jiutian Chemical, which is currently the world’s second-largest dimethylformamide (DMF) manufacturer, is greatly benefitting from an upswing in ASPs. Additionally, depressed costs of methanol, its major raw material, will likely remain low on the back of a weak oil price environment, providing a significant boost to earnings.
  • We believe investors may have overlooked Jiutian Chemical’s earnings potential.
  • Initiate coverage on Jiutian Chemical with BUY.

Jiutian Chemical Group - Company Background

  • Jiutian Chemical Group (SGX:C8R) is the world’s second-largest manufacturer of dimethylformamide (DMF), with a total annual capacity of 150,000 tonnes. It also produces methylamine, and is involved in the processing and sale of consumable carbon dioxide and oxygen.
  • Jiutian Chemical Group was listed on the SGX in May 2006.
  • Dimethylformamide (DMF), which is Jiutian Chemical’s main product, is a common solvent used for chemical reactions. Due to its high solubility, DMF is used as a universal solvent. The fine chemical is applied in a diverse range of industries, including textile, chemical, agriculture, automotive, pharmaceutical, agrochemical and electronics.
  • In the textile industry, applications for DMF include the production of acrylic fibres primarily used in clothing material, or a solvent for producing surface coatings or synthetic leather creation. Within the pharmaceutical industry, DMF is used as a solvent and crystallisation agent, while in the electronics industry, DMF acts as an inorganic substance that helps in the production of high-voltage capacitors.
  • Jiutian Chemical, which is located in Henan, China, is benefitting from the rapid industrialisation and urbanisation in the region due to the significantly lower cost of labour, land and raw materials compared to the regions in the eastern and southern coast, where development began. This has resulted in the establishment of factories producing a wide range of consumer products, subsequently driving the demand for chemicals such as DMF and methylamine.
  • Additionally, Jiutian Chemical is the only significant DMF producer in Henan province (within 500km from the plant). Its location in China’s coal belt provides greater cost advantage over other producers. This is due to its secure and low-cost access to the coal-based raw materials that are used in the manufacture of its products.
  • As at 1H20, Jiutian Chemical's sales are entirely from China, with customers comprising manufacturers of downstream products that use methylamine and DMF, as well as trading intermediaries that distribute these chemicals to their manufacturing clients.
  • See PDF report attached below for background of Jiutian Chemical's key management team and also the key drivers of Jiutian Chemical's businesses.

Jiutian Chemical Group - Investment Highlights

Strong earnings turnaround since 2Q20.

  • Jiutian Chemical’s earnings hit an inflection point when it reported a strong set of earnings in 2Q20. Net profit turned around from a loss of Rmb7.0m in 2Q19 to Rmb32.7m (1Q20: Rmb2.9m profit), mainly from the lower price of methanol, its primary raw material. Gross profit surged 140% y-o-y to Rmb53.5m, despite a 6% slip in revenue to Rmb276.3m due to lower sales volume of DMF.
  • See PDF report attached below for detailed analysis on Jiutian Chemical's financials.

ASP of DMF seeing spike.

  • There has been exceptional demand for DMF, on the back of the strong industrial recovery in China following pandemic lockdowns. The fine chemical has a diversified range of applications, being a feedstock in the production of polyurethane, pharmaceutical and agro chemical products, as well as a universal industrial solvent that can be used as an absorbing agent
  • DMF’s ASP rose from Rmb4,512/tonne in 2Q20 (1Q20: Rmb4,725/tonne) to Rmb5,927/tonne in 3Q20. As at 3 Nov 20, spot price for DMF is hovering at Rmb11,950/tonne. We have assumed DMF ASPs of Rmb5,916/Rmb7,000/Rmb7,500 per tonne for our 2020/21/22F estimates respectively.

Demand and selling prices looks to be sustainable.

  • The demand for industrial products manufactured in China looks to be able to continue as other manufacturing nations are still suffering from COVID-19.
  • Additionally, Zhejiang Jiangshan Chemical, the second-largest DMF producer in China, has shut its production facility in Jiangshan City, Zhejiang, in May 20, due to urban planning. Along with it, an annual capacity of 180,000 tonnes has been pulled out from the global supply.

New institutional shareholders and strong SOE backing.

  • Jiutian Chemical completed a share placement for 170m new shares, or 8.5% of enlarged share capital, in Oct 20. See Jiutian Chemical's announcements. This was mainly undertaken by a new base of institutional shareholders, which could provide a boost to investors’ confidence.
  • Furthermore, largest shareholder Anyang Longyu (HK) Development is a subsidiary of Henan Energy and Chemical Industry Group, one of Henan Province’s largest state-owned enterprises with total assets of Rmb258b.

Solid FCF generation.

  • Along with the strong operating leverage that will catapult earnings trajectory, free cash flow (FCF) generation is expected to be solid across 2020-22F. Estimates suggest FCF of Rmb142m, Rmb431m and Rmb529m for 2020F, 2021F and 2022F respectively. This will help to improve Jiutian Chemical’s balance sheet significantly, with 2019 net cash position of Rmb281m (3.1 S cents) to an estimated Rmb423m (4.2 S cents) in 2020F and Rmb850m (8.5 S cents) in 2021F.

Jiutian Chemical Group - Valuations

Clement Ho UOB Kay Hian Research | https://research.uobkayhian.com/ 2020-11-03
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