Great Wall Motor Co. (HKSE:02333, Financial)(GWLLF), the Chinese automobile manufacturer, provided its annual report for fiscal 2016 in March, delivering 29.7% total operating income to 98.6 billion yuan renminbi ($14.42 billion) and 30.9% profit growth to 10.6 billion yuan, representing a 10.7% profit margin and similar to fiscal 2015 profitability.
“In 2016, the global economic recovery was slow and uneven. Affected by the sluggish international trade and investment, as well as difficult political and economic situations in the euro area, global productivity reduced. The world economy was still caught in a 'low-growth trap.' Amid the complex domestic and overseas economic environment, China’s economy was slow but steady and improving. According to the statistics from National Bureau of Statistics of the People’s Republic of China, the domestic GDP in 2016 rose by 6.7% year on year.
“With the development of the domestic economy, the income level of residents further increased. Driven by the purchase tax preferential policy for low-emission vehicles with engines of 1.6 liters and under, the automobile industry maintained a rapid growth in 2016. According to the statistics from China Association of Automobile Manufacturers, both the production and sales volume of automobiles in China in 2016 hit a new record high, reaching approximately 28,119,000 units and 28,028,000 units for the full year. Compared with the previous year, China’s production and sales volume of automobiles in 2016 rose by 14.5% and 13.7%; the respective growth rates represented increases of 11.2 percentage points and 9.0 percentage points year on year.
“In light of the rapid growth in the overall automobile industry, the group launched new products proactively in 2016 and continued to improve presales, sales and aftersales services, thereby stimulating rapid growth in automobile sales. During the year, the automobile sales volume exceeded 1 million units, reaching 1,070,000 units, which was 13.1% higher than the full-year sales target of automobiles for 2016. The group was therefore among the list of car manufacturers with a sales volume of at least 1 million units. In 2016, the sales volume of Haval series reached 933,000 units, far ahead of its rivals and further consolidating Havel’s leading position in the SUV market. Havel H6 remained as the monthly best-selling SUV for 45 months with a new monthly sales record of 80,000 units in December 2016. After the production of Haval H2 moved from the Tianjin production base to the Xushui production base, its production capacity was further lifted during the year, thus satisfying the need for increasing sales volume. Sales volume of Haval H7, which was launched during the year, also increased steadily, with monthly sales surpassing 10,000 units in November 2016. With regard to brand management, 'Haval' brand ranked the first in China Auto Dealer Satisfaction with Suppliers Survey held by China Auto Dealers Chamber of Commerce for its sales services for two consecutive years. During the year, the British brand valuation consultancy Brand Finance released the '2016 Brand Finance Auto 100.' The group was included in the list again, taking the 30th position in the global ranking and the first position in the China ranking." – Wei Jian Jun, chairman
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Total returns
Great Wall ADR shares outperformed the broader Standard & Poor's 500 index so far this year with 22.4% total gains compared to the index’s 9.7%. Meanwhile, the company underperformed the index in the past five years having provided 9.2% gains compared to the index’s 15.4%.
Valuations
Great Wall is undervalued compared to its peers. According to GuruFocus data, the car manufacturer had a trailing price-earnings (P/E) ratio of 6.5 times vs. the industry median of 17.2 times, a price-book (P/B) ratio of 1.5 times vs. the industry median of 1.7 times and a price-sales (P/S) ratio 0.7 times vs. the industry’s 0.8 times.
The car company also had trailing dividend yield of 2.65% with 16% payout ratio.
Average 2017 sales and earnings-per-share expectations indicated forward multiples 1 and 8.3 times.
Great Wall Motor
Great Wall Motor was founded in 1984. It is the largest SUV manufacturer in the People’s Republic of China.
The company has three brands, Great Wall, Havel and WEY, and its major products include SUVs, sedans and pickup trucks. Great Wall also manufactures and supplies relative automotive parts and components.
In 2016, Great Wall derived 98.9% of its revenue in China. In the same year, the company produced 36.5% more SUVs to 933,000 units and 5.5% more of pickup trucks to 104,000 units compared to 2015. Meanwhile, Great Wall reduced its sedan production by 41% to 32,000 units.
Products
1) Sale of automobiles
Revenue from automobile sales rose by 30% to 94.5 billion yuan (96% of total Great Wall unadjusted sales). Nonetheless, gross profit margin declined by 0.83 percentage points to 24.17% after the segment experienced 31% increase in operating costs year over year.
2) Sale of automotive parts and components
Revenue in automotive parts and components increased by 25.4% to 2.9 billion yuan (2.9% of total unadjusted sales) and delivered gross profit margin of 33.58% (most profitable among the segments). As observed, profitability for parts and components still increased by 5.09 percentage points from 2015 despite a 16.5% increase in operating costs in the segment.
3) Moulds and others
Revenue in moulds and others grew 37.5% to 644.5 million yuan (0.7% of total unadjusted sales) and delivered gross margins of 24.4% –Â three percentage points lower compared to its previous year. Lowered profitability was brought by a sharp 43.3% increase in operating costs.
4) Provision of services
Revenue in services provision grew a whopping 77% to 260.9 million yuan (0.3% of total unadjusted sales) and reported another 6.3 percentage improvement in gross margins to 25.9% on a year-on-year basis.
Sales and profits
Great Wall had three-year sales growth average of 20% and profit growth average of 8.7%. The company also had profit margin average of 11.4% (Morningstar).
Cash, debt and book value
As of December, Great Wall had 3.7 billion yuan in cash and cash equivalents, and 300 million yuan in borrowings with a leverage ratio of next to negligible. As observed, Great Wall increased its equity by adding 9.5 billion yuan more in 2016 from the previous year mostly from increase in surplus reserve and undistributed profits.
Of Great Wall’s 87.6 billion yuan assets 3.4%Â were intangibles. The company also grew its book value by 26.6% to 45 billion yuan.
Cash flow
In 2016, cash flow from operations declined by 11.9% to 8.84 billion yuan compared to its previous year despite the company’s impressive profit growth in operations. As observed, Great Wall had more cash outflow in goods purchased and services received payments, interest, fees and advance, and payments of various types of taxes.
Capital expenditures were 6.7 billion yuan leaving Great Wall with 2.2 billion yuan in free cash flow compared to 4.2 billion yuan the year prior. The automotive manufacturer averaged free cash flow payouts (dividends) of 79% in the past two fiscal years.
In addition, Great Wall allocated 621 million yuan in borrowings net any repayments in 2016.
Conclusion
Great Wall delivered impressive results in its fiscal 2016 operations. The car manufacturer that serves China, primarily, not only was able to further grow its dominance as can be perceived by its leading market position in the country’s SUV market, but also reported consistency in profitability.
A closer look, though, revealed that the Great Wall experienced lower profitability in its automobile business (96% of unadjusted sales) brought by higher costs. The company also seemed to be looking forward to overseas expansion where it had 20.9% gross margins compared to 24.5% in China.
Nonetheless, Great Wall had nearly an impeccable balance sheet as of December and has kept a very acceptable free cash flow payout ratio albeit lower in the recent year for handing out dividends.
Using a three-year P/S ratio and revenue growth averages followed by a 20% margin application indicated a value of 110.3 billion Hong Kong dollars ($14.14 billion)Â –Â 1.3% lower than today’s market capitalization of 111.7 billion Hong Kong dollars.
In summary, Great Wall is a pass.
Disclosure: I do not have shares in any of the companies mentioned.
