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Elevator Pitch

I maintain a Neutral rating on Hong Kong-listed Chinese automobile dealer China Yongda Automobiles Services Holdings Limited (OTC:CYYHF) [3669:HK].

This is an update of my prior article on China Yongda published on April 20, 2020. China Yongda’s share price has increased by +27% from HK$6.80 as of April 17, 2020 to HK$8.66 as of June 17, 2020 since my last update.

China Yongda announced in June 2020 that it is proposing special dividends of RMB486.1 million, after it chose to omit FY2019 dividends months ago. This is a positive sign that China Yongda’s new vehicle sales and revenue are likely to have recovered strongly in April and May 2020, which is a key driver of the company’s strong share price performance in the past two months.

On the other hand, it was recently announced that 120 million new China Yongda shares are to be placed out at HK$8.29 per share. The timing of the share placement could be an indication that China Yongda’s valuation has peaked. Unless China Yongda can improve the company’s ROE significantly going forward, I see the stock’s current valuation as fair, and I maintain my Neutral rating.

China Yongda trades at 9.0 times consensus forward next twelve months’ P/E, versus its historical three-year and five-year mean consensus forward next twelve months’ P/E multiples of 6.8 times and 6.9 times, respectively. The stock also offers a consensus forward FY2020 dividend yield of 3.3%.

Readers have the option of trading in China Yongda shares listed either on the Over-The-Counter Bulletin Board/OTCBB as ADRs with the ticker CYYHF or on the Hong Kong Stock Exchange with the ticker 3669:HK. For those shares listed as ADRs on the OTCBB, note that liquidity is low and bid/ask spreads are wide.

For those shares listed in Hong Kong, there are limited risks associated with buying or selling the shares in terms of trade execution, given that the Hong Kong Stock Exchange is one of the major stock exchanges that is internationally recognized, and there is sufficient trading liquidity. Average daily trading value for the past three months exceeds $10 million, and market capitalization is above $2.0 billion, which is comparable to the majority of stocks traded on the US stock exchanges. Institutional investors which own China Yongda shares listed in Hong Kong include Value Partners Group (OTCPK:VPGLF), The Vanguard Group, Norges Bank Investment Management, and Amundi Asset Management, among others. Investors can invest in key Asian stock markets either using US brokers with international coverage, such as Interactive Brokers, Fidelity, or Charles Schwab, or local brokers operating in their respective domestic markets.

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Special Dividends

In my prior article on China Yongda published on April 20, 2020, I highlighted that “it came as a negative surprise that China Yongda chose to omit dividend payments for FY2019.” I was concerned then that the dividend omission could indicate either expectations of weaker revenue growth in FY2020 or a change in the company’s capital return policy.

On June 9, 2020, China Yongda announced that the company will be proposing special dividends of RMB486.1 million at its board of directors’ meeting on June 18, 2020. The special dividends will be paid to shareholders on July 28, 2020, assuming this is approved at the board of directors’ meeting. China Yongda’s decision to propose special dividends now is likely meant to compensate for the FY2019 dividend omission, with special dividends p of RMB486.1 million implying a 33% dividend payout ratio based on FY2019 earnings.

More importantly, this is a signal that China Yongda’s new vehicle sales and revenue are likely to have recovered strongly in April and May 2020. In 1Q2020, China Yongda’s vehicle sales and total revenue fell by -30.6% YoY and -24.9% YoY to 42,429 units and RMB13,950 million, respectively, as the coronavirus pandemic was a drag on the automobile market. However, luxury car sales in China have staged a strong recovery, growing by +28% YoY in May 2020, as reported by Reuters quoting data from the China Passenger Car Association.

Notably, BMW (OTCPK:BMWYY) has been supportive of its dealers in China, and this is positive for China Yongda. BMW has “formulated policies to support dealers from March to May and provided subsidies for best-selling models” as per a May 25, 2020 Shine News article. China Yongda derived approximately 52% of its FY2019 luxury brand car sales volume from BMW.

Share Placement

On the next day (June 10, 2020) following the special dividend announcement, China Yongda disclosed that Asset Link Investment Limited, an investment vehicle wholly-owned by founder and chairman Mr Cheung Tak On, will acquire 120 million new shares (6.1% of enlarged share capital post-transaction) issued by China Yongda. Asset Link Investment Limited will subsequently place out the 120 million new China Yongda shares to unnamed independent third parties at HK$8.29 per share. Founder and chairman Mr Cheung Tak On is not selling any of his existing shares, but his shareholdings interest (direct and indirect) in China Yongda will decrease from 32.62% to 30.62% post-share placement.

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On the positive side of things, the estimated net proceeds of HK$983 million will help China Yongda to reduce its net debt-to-equity ratio, and finance the company’s future growth. China Yongda’s net debt-to-equity ratio or net gearing was relatively high at 98.7% as of end-FY2019, and the company’s net gearing is expected to be roughly reduced by half to around 50% following the share placement. Also, China Yongda noted in the company’s June 10, 2020 announcement that the proceeds from the share placement will drive “further expansion of its dealership network, mainly by way of acquisition or establishment of new 4S (Sales, Service, Spare Parts and Surveys) dealerships.”

On the negative side of things, the timing of China Yongda’s share placement could be an indication that the stock’s valuation has peaked. The share placement price of HK$8.29 per share (China Yongda’ current share price is slightly higher at HK$8.66) is equivalent to 8.6 times consensus forward FY2020 P/E, which is close to China Yongda’s two-year historical peak consensus forward next twelve months’ P/E multiple of 9.3 times. It is reasonable to assume that China Yongda has chosen to do a share placement now in view of the stock’s strong share price momentum and relatively high valuation (compared to historical trading levels).

I go into more details of China Yongda’s valuation in the next section of this article. China Yongda’s current high single-digit P/E valuation seems fair, when one compares the company’s valuation multiple and ROE against that of its peers. Unless China Yongda’s revenue contribution from higher-margin after-sales services increases which in turn leads to an improved ROE going forward, I do not see a significant positive re-rating of China Yongda’s valuation as justified.

Valuation

China Yongda trades at 9.7 times trailing twelve months’ P/E and 9.0 times consensus forward next twelve months’ P/E based on its share price of HK$8.66 as of June 17, 2020. In comparison, the stock’s historical three-year and five-year mean consensus forward next twelve months’ P/E multiples were 6.8 times and 6.9 times, respectively.

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China Yongda offers consensus forward FY2020 and FY2021 dividend yields of 3.3% and 4.2%, respectively. China Yongda’s ROE is expected to decline from 15.6% in FY2019 to 15.2% in FY2020, as per sell-side analysts’ estimates.

Hong Kong-listed Mainland China Automobile Dealer Peer Comparison

Stock Trailing Twelve Months’ P/E Consensus Forward Next Twelve Months’ P/E Consensus Forward FY2020 Dividend Yield Historical FY2019 ROE Consensus Forward FY2020 ROE
China MeiDong Auto Holdings (OTCPK:CMEIF) [1268:HK] 33.0 26.3 1.8% 35.6% 36.1%
Zhongsheng Group (OTCPK:ZSHGY) [881:HK] 19.2 17.2 1.2% 22.5% 21.2%
China Harmony New Energy [3836:HK] 8.9 8.6 2.4% 7.3% 7.4%
China ZhengTong Auto Services (OTCPK:CZASF) (OTC:CZASY)[1728:HK] 4.0 4.7 6.7% 5.4% 4.6%

Source: Author

Risk Factors

The key risk factors for China Yongda are lower-than-expected dividend payout going forward, further fund raising activities in the future which are not value-accretive for minority shareholders, and weaker-than-expected luxury car sales growth in China.

Note that readers who choose to trade in China Yongda shares listed as ADRs on the OTCBB (rather than shares listed in Hong Kong) could potentially suffer from lower liquidity and wider bid/ask spreads.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.