CHINA SUNSINE: A closer look at 1H22 results, & why it's under-appreciated

"Rolling Stones", who has contributed several articles on China Sunsine to NextInsight in the past, takes a closer look at the company's 1H22 results below. And he takes issue with the low dividend payout: 

Chairman Xu Chengqiu commented on 1H22 results as follows:

Chairman Xu Chengqiu“Our resilient performance in the first half of 2022 demonstrated the strength of our market leadership position, even though we were facing various challenges such as volatilities of raw materials prices, low utilisation rate of tyre manufacturers and intense competition in the rubber chemicals industry.  In the second half of this year, we do not foresee any improvement in the overall operating environment. Conversely, we expect the challenges to remain or worsen due to the high inflation rate, greater geopolitical tension, weakening economic growth in China, as well as the uncertainties of and restrictive measures arising from the Covid-19 pandemic situation. Despite these headwinds, we are well-placed to face the difficulties. We strongly believe that capacity expansion will enhance our competitive advantage and further increase our market share. I am therefore pleased to share that our two new projects have commenced commercial production in 1H2022.  We will continue to implement our strategy of ‘sales production equilibrium’. Given our strong balance sheet and financial stability, our market leadership position, our ability to provide high-quality products, economies of scale, a variety of rubber chemical products, and compliance with national environmental protection laws and regulations, we remain confident about the Group’s profitability in the next 12 months."

A bit of history: When Sunsine went into producing rubber accelerators (RA) in 1994, Chairman Xu's top agenda included embracing the manufacturing standards of Flexsys, the largest RA producer then, and reining in waste generation. 

The effort paid off with accreditation in 2003 by Bridgestone, the world's biggest tyremaker; and the rest of the top ten by 2008. (See: CHINA SUNSINE: How it has risen to the top -- and what's ahead)

With RMB 220m IPO proceeds in 2007 as the sole equity funding, Sunsine grew and added new products -- its current 254,000-tonne* capacity is eight times 32,000 tonnes of RA in 2007. It also generates steam and electricity, treats and disposes waste, in house. 

* 254,000 tonnes = RA [117,000 tonnes] + Antioxidants [77,000 tonnes] + Insoluble sulphur [60,000 tonnes]

Sunsine kept a tight lid on borrowings. It paid off all loans in 2016 and had RMB 1,206m cash on 30 June 2022.

The RA industry has seen the exit of major players. The two Chinese entities listed as Sunsine's competitors in the IPO prospectus are now extinct. Another, which rivaled Sunsine later, also left the scene. Flexsys, Sunsine's role model, found it not worthwhile tackling pollution from making RA. 

Yanggu Huatai and Tianjin Kemai, Sunsine's current peers, lack cash to grow their respective RA businesses. 

Tianjin Kemai failed thrice to list on the Shanghai Stock Exchange. Shenzhen-listed Yanggu Huatai's share placement was rejected by the Stock Exchange, and the ensuing rights issue raised only half of the required sum. (More details in CHINA SUNSINE: How it has risen to the top -- and what's ahead).

Sunsine has raised productivity with more efficient manufacturing processes and automation -- 70% rise in sales volume over six years on the back of 8% increase in headcount:

Despite rising to the top in its industry, Sunsine's share price recently traded at the 48c level which doesn't reflect the its strong fundamentals -- Sunsine being the world's largest producer of rubber chemicals as well as RA, and it has 29c cash per share, 69c NAV per share, and 10c EPS. 

In my view, the market is disenchanted with the company largely due to the low dividend payout despite Sunsine's huge cash holdings. 

Sunsine’s defence is:  

In my view, the response skirts the issue because:

- it took no account of future cash flows; and

- R & D is already charged to the P & L statement and does not reduce the cash level. 

Sunsine recently (24 Aug) informed SGX that the dip in cash holdings (from RMB 1,377m at the end of 2021 to RMB 1,206m six months later) was due to higher receivables.

The company believes "the net cash outflow for the period under review is only temporary, and we have great confidence in our performance and cash generation capability." 

It should be noted that while revenue edged up 3%, trade & note receivables soared by RMB 413m, or 44% in 1H22, and trade & note payables plunged RMB 246m, or 79%, from the preceding six months:

CIMB expects the cash level to hit RMB 1,845m by the end of this year, and RMB 2,486m two years later with low dividends. See: 1BA80A01-A383-4416-8F7E-34814A4876FC.pdf (chinasunsine.com):

Sunsine is now well-placed to raise its dividend rate. Not doing so will lead to its ROE being artificially depressed by the presence of a huge amount of cash.
   

* Regarding tax credits, between 2017 and 2019, Sunsine enjoyed the concessionary tax rate of 15% (instead of the standard 25%) as a "high-tech enterprise". 

It qualifies again for a three-year period from 2021 to 2023. As it was officially notified only in May 2022, the RMB 36m refund of tax overpaid in 2021 was excluded from its reported 1H22 profit.