宇通客车(600066)

3.5ppt YoY gross profit margin erosion leading to 23% YoY earnings dropYutong announced on 27 August that its 1H18 net profit dropped 23.4% YoY toRMB616.5m. As this accounts for only 16% of our previous FY18 estimates, weconsider the results a miss. 1H18 gross revenue grew 29.0% YoY to RMB12.0bnon the back of a 13.5% YoY rise in bus sales volume and increased new energybus mix. Yet with the effect of new energy vehicle (NEV) subsidy cut, Yutong’s1H18 gross profit margin contracted 3.5ppts YoY to 20.9%. In addition, SG&Aalso grew at a faster pace than topline growth. As a result, SG&A expense ratioclimbed to 16.1% (vs. 14.9% in 1H17).

The company hosted a conference call today. Key takeaways are as follows:

Profit decline: management attributed the profit decline to the rise in R&Dexpense and changes in the NEV subsidy policy. To elaborate, the 30%YoY subsidy cut was applied during the transition period (between 12February 2018 to 11 June 2018). Post 11 June, a 40% YoY cut was applied,which had a negative impact on the company's earnings.

Sales volume: 1H18 sales volume increased by 13.5% YoY to 24,780units, with sales volume of new energy bus up 195.7% to 8,765 units andtraditional bus down 15.0% YoY to 16,015 units. In terms of breakdownby region, the domestic market rose 24.3% YoY to 21,721 units, whilstoverseas markets were under pressure, down 29.8% YoY to 3,059 units.

Cost cutting: Despite the challenging margin profile in 1H18, the companyexpects gross profit margin to gradually recover on the back of: 1)improved pricing of new products; 2) better cost control as purchasecosts of battery/electric motor/electronic control unit have declined; and3) increased sales volume, which would lead to lower unit fixed costs.

Guidance: The company maintains its FY18 target �C sales volumes returnsto 2016 levels; revenue to reach c.RMB34bn; net profit to maintain at the2017 level.

Deutsche Bank view �C still a well positioned new energy bus manufacturer

On the back of the strong 1H18 topline growth and thus higher ASP assumptions,we raise our FY18-20 revenue forecast by 6.3-6.6% on higher ASP assumptions.On the other hand, with Yutong's weaker-than-expected capability to cut cost