Battery blood battle before dawn, will the Ning King make the final move?

On the evening of March 15, 2024, Contemporary Amperex Technology (300750.SZ) announced its full-year performance for 2023. Dolphin Jun broke down the fourth-quarter performance and focused on the marginal changes. 1) Income fell compared to the previous and the same period, below expectations: The shipment volume was basically as expected, but the income was significantly lower than expected. This was due to the market underestimating the price decline of Contemporary Amperex Technology's battery products. In the second half of the year, the price of power batteries had dropped to around 80 cents per Wh. However, with known profits, it can only be said that the market did not fully realize the impact of raw material deflation on Contemporary Amperex Technology. With stable profits and market share recovery, the decrease in income is just due to deflation and not a major issue. 2) Gross profit margin exceeded expectations, but not by much: Although the gross profit margin appeared to be much higher than market expectations in the fourth quarter, reaching close to 26%, due to the impairment of inventory in the fourth quarter, the actual gross profit margin, excluding impairments, only increased by less than 2% compared to the third quarter. So, while the gross profit in the fourth quarter was strong, it was not as strong as it appeared. 3) Significant increase in sales expenses, operating leverage not as expected: Sales expenses in this quarter were 7.7 billion, a 120% increase from the previous quarter. This may be related to the need for more sales operations for energy storage, as well as higher operating expenses for overseas market expansion. With the core operating profit margin (income minus operating expenses and impairments) remaining flat compared to the previous quarter despite the increase in gross profit margin, it was just not worse. 4) Sharp drop in overseas growth rate, describing the sharp drop in overseas revenue in the second half of last year: The year-on-year growth rate dropped from nearly 200% to 20%, mainly due to contributions from energy storage, while short-term growth in power battery exports was hindered. 5) Inventory hits bottom, turning point approaching? Looking at the detailed analysis, the absolute decline in inventory value at the end of the fourth quarter indicates that as long as new energy vehicle sales continue to recover and the price of lithium carbonate stabilizes at 10,000 yuan per ton instead of dropping to 5,000 yuan, the risk of impairment due to raw material deflation will basically come to an end. Dolphin Jun's summary: From the marginal information in the fourth quarter performance and the 2023 annual report, it can be seen that Contemporary Amperex Technology has already released its biggest positive - net profit - ahead of time. In terms of core operating profit considering financial leverage and the impact of asset impairments, although it matched the third quarter, it did not perform as well as net profit release. The real biggest positive from this performance, with a certain discount due to asset impairments, is that despite poor income, Contemporary Amperex Technology was able to achieve greater deflation in costs in the face of severe price deflation, ensuring gross profit margin. This is due to the strong pricing power in the industry chain. Therefore, in terms of this performance itself, Dolphin Jun's judgment is not bad, but not as good as the numerical performance indicates. What Dolphin Jun truly sees promise in is the "cyclical leader" ability of Contemporary Amperex Technology as a leader in a weak cycle, which is reflected in the inventory and production capacity behind this performance: Entering 2024, when the pressure on inventory is relieved and production capacity utilization is not yet high, Dolphin Jun fully believes that Contemporary Amperex Technology can utilize its current ability to control gross profit margin, scale effect, and brand effect to increase production capacity utilization, triggering a price war in the lithium iron sector to accelerate the clearing out of production capacity in the domestic battery industry, giving a final blow to some struggling second and third-tier players in the domestic market. In addition, with the short-term setback in overseas growth logic, Dolphin Jun believes that the cleaning war in the domestic market by Contemporary Amperex Technology, after completing destocking, may be a tactical move as well as a necessary choice for business development. In this scenario, entering the new year, factors such as a significant decline in electric vehicle sales, renegotiation of battery supply prices, potential price reductions by Contemporary Amperex Technology to clear the industry, etc., may put pressure on its short-term performance. However, given Contemporary Amperex Technology's strong ability to control gross profit margin, Dolphin Jun believes that its valuation inflection point may arrive sooner than expected: 1) The risk of asset impairments has been cleared, and proactive destocking has ended. After getting rid of these burdens, Contemporary Amperex Technology is starting to use its capacity to lead market clearance operations. 2) Competitors are panicking due to Contemporary Amperex Technology's price cuts, leading to production capacity clearance and market consolidation. 3) Increment of overseas business: Especially in Europe, as subsidies gradually decrease and penetration rates converge towards challenging cost-effectiveness price segments, Contemporary Amperex Technology can use its advantages in low-cost, high-quality lithium iron batteries to grab market share from South Korean battery manufacturers (major producers of NCM batteries, large-scale supply of LFP batteries expected by 2025). 4) Despite performance still not being optimal, Contemporary Amperex Technology has strong cash generation capabilities: The company has strong operating cash collection capabilities, with a net profit of 13 billion yuan corresponding to an operating cash inflow of 40 billion yuan in the same period. While expansion in the domestic market has slowed down and overseas plant construction is not easy, capital expenditure has decreased from 60 billion in 2022 to just over 30 billion. Efficiency in capital expenditure has improved, as the unit capital expenditure required to build the same capacity has significantly decreased due to process upgrades. With abundant cash generated through operations and decreasing capital expenditure, increasing dividends is an obvious choice for a leading A-share company. In this instance, Contemporary Amperex Technology has announced a dividend payout of up to 22 billion yuan, far exceeding market expectations, with a dividend payout ratio of 51% for 2023, providing investors with support. Therefore, compared to 2023, Dolphin Jun believes that in 2024, as a Beta stock that follows the trend of lithium carbonate prices, Contemporary Amperex Technology may present a turnaround opportunity. Analysis in detail: I. A turning point approaching? Although doubts have arisen about Contemporary Amperex Technology's confidence in its core competitive barriers and overseas business visibility, no one questions its leading position among global battery manufacturers. This implies that in Contemporary Amperex Technology's pricing, the cyclical nature becomes more prominent, making the judgment of industry cycles and operational turning points more crucial. Therefore, Dolphin Jun focuses on industry cycles and operational turning points in this financial report.The focus is on inventory and impairment issues, let's dissect them.a. Inventory impairment risk has materialized First, let's look at the inventory impairment risk that the market has been concerned about: due to an abundance of "inventory goods" (finished products) in Ningwang's inventory structure, and with the continuous decline in lithium ore prices, the market is worried about a high risk of impairment. This concern has finally materialized, with a 30 billion impairment provision made in the fourth quarter, representing a substantial increase to 7% relative to the original value of the assets. This means that even with low procurement costs, Ningwang can no longer sustain its finished product inventory as the price of lithium carbonate drops to below 200,000 after being halved in the fourth quarter. As a result, a significant impairment provision has been made. b. Is there more impairment after the impairment? Yes, but the risk has decreased At the end of 2023, the inventory of battery systems is still at 70 GWh, the same as at the end of 2022. However, the overall shipment volume in 2023 is 390 GWh, 100 GWh more than in 2022. At the 2023 shipment level, this inventory can only support production for two months without any further production. Together with the increase in capacity utilization rate in the second half of the year, there is a high probability that, under the current shipment scale, the 70 GWh inventory corresponds to a stable state, unless there is a sudden collapse in downstream vehicle sales. From the perspective of GWh volume, Ningwang's inventory is unlikely to decline further. So, is there a risk of further impairment of Ningwang's inventory? Here Dolphin provides an observational perspective: despite the year-end inventory remaining at 70 GWh, the inventory value in 2023 has dropped to 45.4 billion RMB, a 40% decrease compared to the same period last year; and based on the daily price of lithium carbonate, the price in 2023 has also fallen by 46% compared to 2022. This means that the reduction in the inventory value of Ningwang in 2023 is in sync with the average decrease in lithium carbonate prices compared to 2022. This indicates that Ningwang has likely made sufficient impairment provisions. If lithium carbonate prices do not further decline, the risk of impairment due to natural material price reductions becomes minimal. The remaining risk lies in whether Ningwang will engage in a price war in the iron lithium battery market with its non-high-end ordinary production capacity, accelerating market clearance. This risk cannot be ruled out by Dolphin, but even if it occurs, the reduction amount has significantly decreased due to limited space for material price reductions. c. In 2024, will Ningwang clear the battlefield? This is mainly because, although Ningwang has already made progress in destocking, its capacity utilization rate is still at 70%; at this relatively low level, an increase in capacity utilization rate can offset to a certain extent the decline in unit prices. After Ningwang's active destocking initiative, it can completely leverage economies of scale by increasing capacity utilization rate and lowering prices to expedite competitors' capacity clearance and gain market share. In addition, based on industry information, Ningwang's competitive strategy in the domestic market indicates its intention to defend high-end and profit margins through R&D and product strength, while using price reductions in the iron lithium battery market to accelerate capacity clearance, thereby increasing its market share. Moreover, Ningwang's battery market share has shown signs of recovery in the first two months of the year. II. There is discounted value in the soaring gross profit margin Despite the bloody price cuts in the downstream vehicle and upstream lithium ore market, Ningwang's gross profit margin in the fourth quarter has unexpectedly increased by three percentage points to nearly 26%, significantly exceeding market expectations. This was originally the biggest highlight of the quarter's financial report, confirming Ningwang's product competitiveness in the price war. However, due to the significant inventory impairment this time, Dolphin has adopted a stock cost-inclusive gross profit margin standard (impairment included). It can be seen that after considering the inventory impairment losses dominated by inventory-related provisions, Ningwang's gross profit margin has indeed improved in the fourth quarter, albeit by only 1.7 percentage points compared to the third quarter, which is an actual improvement, but not as high as it may seem on the surface. As the price of raw materials deflates faster than Ningwang's battery selling price, Ningwang's robust ability to control gross profit margins also implies a time lag in material cost reductions being passed on to vehicle manufacturers. If Ningwang settles material costs on a weekly basis while downstream vehicle manufacturers settle at a slower pace, there can be an advantage in terms of timing. However, the ability to control pricing reflects the bargaining power along the supply chain. III. Apparent problem: Poor revenue, is it really a problem? After analyzing two relatively positive points in the incremental information of the financial report, Dolphin now takes a look at the "apparent" problem. The single-quarter revenue in the fourth quarter of 2023 was 106.2 billion, a 10% decrease year-on-year, lower than the market's expectation of 115.5 billion, significantly below expectations. Given the favorable performance of the gross profit margin and a fairly clear shipment volume, the decline in revenue can mainly be attributed to the deflation caused by the downward trend in prices of battery materials such as lithium ore. This discrepancy from market expectations is essentially a pricing issue related to the lack of proper evaluation of the deflation in raw materials by the market, not a problem specific to Ningwang. Looking at the marginal change, Ningwang's battery sales volume in the fourth quarter was 120GWh, a 20% increase from the previous quarter. However, the overall revenue growth was almost zero compared to the previous quarter, indicating a significant price reduction in Ningwang's batteries. So, how much has the core power battery price decreased? Dolphin looked into the data from the second half of the year's financial report to find out: Looking at the split business in the second half of 2023, the decline in revenue comes mainly from the decrease in revenue from power batteries in the second half of 2023, which decreased by 7% compared to the same period the previous year. The reason for the decline in revenue from power batteries is primarily the decrease in unit price, which dropped by 25% from 1 yuan/Wh to 0.79 yuan/Wh in the second half of 2023, a decrease of over 25%. Thus, even with a 20% increase in shipment volume, the revenue from power batteries still experienced a 7% year-on-year decline. Currently, the comprehensive unit price of 0.8 yuan set by Ningwang is still significantly higher than the spot market price of around 3.5 yuan and the unit price of around 4 yuan for iron lithium batteries. Ningwang still has room for price reductions. III. Overseas market: Obstacles and setbacks In the second half of last year, overseas markets generated revenue of 65.3 billion US dollars, but the proportion fell to 31%, below the threshold of 50% needed to be considered a global company. In the second half of the year, the growth of overseas revenue slowed down.The growth rate has slowed significantly from 195% in the first half of the year to 19%. It seems that the growth rate of exports capacity for existing customers, such as selling Tesla to overseas customers, has slowed down, while output exports are hindered by trade protectionism and the process of building overseas localized production capacity is slow.And at the moment, due to the Chinese supply chain elements, Tesla's models such as Model 3 cannot enjoy the full $7,500 subsidy policy in the US, and Prince Ning's short-term overseas market promotion still faces pressure. Although overseas growth is hindered, the profitability of overseas business has improved as it is not as competitive as the domestic market, with the gross margin reaching 30% again, a level that was only seen during the peak of lithium prices, the second half of the year is at 29%. IV. Energy storage battery: Gross margin recovery mainly driven by unit price increase The second largest business with high growth saw a contraction in revenue in the second half of the year, reaching 31.9 billion, a slight 1% decrease compared to the same period last year. However, the gross margin performance was very strong, increasing by five percentage points compared to the previous period, reaching 26% in the second half of the year. Since many energy storage projects are driven by projects, the time for signing and implementation is relatively long, and the period from material price changes entering orders to reflecting in performance is also long. Combined with the significant increase in comprehensive service fees for sales and after-sales services on the marketing end, as well as the upward trend in unit prices for energy storage shipments, it is estimated that the increase in the proportion of high-margin overseas energy storage business may be the reason. V. Profit surpasses market expectations After reviewing core revenue and gross margin situation, let's look at the company's profit situation in the fourth quarter: Net profit attributable to shareholders in the fourth quarter was 13.3 billion yuan, with a profit margin of 12.6%, exceeding market expectations of 11.1%. The reason why net profit attributable to shareholders looks good is mainly due to the excessive cash on the Prince Ning's balance sheet, the increase in cash management income, and the increase in investment income from joint ventures. However, due to non-operating investment gains and losses in net profit attributable to shareholders, as well as related interest income due to the company's strong financial leverage and cash holding capacity, the focus will be more on the operating profit of core main businesses compared to individual listed core main businesses in the US stock market (revenue - taxes - three expenses - asset & credit impairment). Looking at this core profit, it can be found that although the net profit attributable to shareholders in the fourth quarter was astonishing, the core operating profit margin in the fourth quarter was basically the same as the previous quarter. Apart from the high asset impairment mentioned earlier, another important reason is the surge in sales expenses. VI. Expenses: Surge in sales expenses With the rapid expansion of the company's business scale, the corresponding expense scale is also showing a rapid expansion trend. Previously, due to the rapid growth in revenue, management, research and development, and sales expenses could be fully diluted. However, this quarter, with average performance on the revenue side, coupled with a 120% increase in sales expenses compared to the previous quarter, reaching 7.7 billion, mainly due to the annual composite service fee for the largest project increasing by 74% compared to the same period last year. Overall, it seems to be related to the need for more sales and operation of energy storage, as well as higher operating costs for expanding overseas markets. Although administrative and research and development expenses have decreased compared to the previous quarter, the surge in sales expenses has eliminated the leverage effect on the short-term operating end. This article is reprinted from Dolphin Investment Research, GMTEight Editor: Chen Wenfang.