JL Mag Earnings: Revenue in Line but Margin Recovery Missed; H-Shares Undervalued

Narrow-moat JL Mag 300748 reported in-line second-quarter revenue with robust demand growth from new energy vehicles, or NEV, customers offsetting decline in other segments. Gross margin recovery was slower than expected due to extended price drops in various rare earth materials. Despite stringent cost control in selling and administrative expenses, second-quarter net profit dropped 49% year over year to CNY 154 million.

While our revenue forecast is largely unchanged, we trim our 2023-25 earnings estimates by 9%-13% to factor in our reduced margin outlook. We lower our fair value estimate to HKD 14.60 per H-share (CNY 13.00 per A-share) from HKD 16.90 (CNY 15.00), which implies a 2024 P/E ratio of 23 times. While A-shares are at a premium, H-shares remain attractive.

JL Mag’s second-quarter revenue declined 1% year over year to CNY 1.8 billion with first-half revenue accounting for 41% of our original full-year forecast, which we consider in line. Revenue from NEV customers maintained a robust growth momentum, expanding 36% year over year in the second quarter and contributing 46% to total revenue compared with 34% a year ago. Meanwhile, we estimate energy-saving variable-frequency air conditioners and wind turbine generator segments recorded revenue declines during the quarter.

Gross margin of 16.2% for the quarter contracted 5.3 percentage points from a year ago, due to pricing pressure amid declining rare earth prices during the period and a mismatch between inventory costs and product selling price. For the rest of the year, we believe the company will be able to retain a sequential margin recovery trend given stabilizing raw materials prices. In fact, the gross margin in the second quarter recorded a 0.9 percentage point recovery compared with the last quarter. Management commented that utilization at its Baotou plant has ramped up to around 90% in the first half and believes there is room to further improve the efficiency.