CE Huada Tech (HK.85) --- Cannot let it run away

I have mentioned China Electronics Huada Technology --- an undervalued gem --- a few times already, and I believe it is high time astute investors gave serious thought to adding some shares to their portfolio.

As a target with the dual concepts of "State-owned special undervalued stocks " and "IC chip", China Electronics Huada Technology (HK.85) has a P/E (TTM) of only 3 times, who wouldn't love this bargain price?

It's understood that CE Huada Tech is a leading domestic smart card and security chip vendor under China Electronics, mainly selling integrated circuit products. Over the past three years, its performance has maintained a compound growth rate in the mid-to-high double digits, and its market value has also increased with performance growth, rising by 169% since the beginning of 2022. Despite the significant increase in market value, its performance is even more impressive, leading to a valuation remaining at a low level.

The company is a high-quality stock with low valuation, and recently there have been quiet buying activities from some funds. The stock price has continued to rise for four consecutive weeks, likely preparing for the release of stupendous annual performance. The main reason is that the first-half-year report profits have increased by 1.7 times, and the annual performance is expected to be even more impressive. However, despite being undervalued, this stock has yet to attract the attention of most astute investors, as evidenced by its persistently low trading volume.

So, let's delve deeper into the company, whether it will remain undervalued for a long time, and whether its fundamentals can support the market value to continue rising.

Excellent performance, generous dividends

It is understood that the IC products of CE Huada Tech are mainly used in smart cards, radio frequency identification, and wireless communication fields. Specific products include the second-generation resident ID cards used by Chinese citizens, social security cards, fuel cards, telecom cards, electricity meter cards, transportation cards, and wireless network equipment, etc. The company has excellent performance, with a compound growth rate of revenue of 36.9% from 2020 to 2022, and a growth rate of 55.9% in the first half of 2023, with a high probability of maintaining a high growth trend for the whole year.

In addition to strong growth, the company's profitability is also continuously improving. The gross profit margin has increased from 33.96% in 2020 to 44.78% in the first half of 2023, an increase of 10.82 percentage points. Moreover, the company has adjusted its debt structure and carried out refined management, with the expense ratio decreasing year by year. During the period, expenses (administrative, sales, and financial) have decreased from 37.28% to 14.15%, a decrease of as much as 23.13 percentage points.

Excluding the impact of special items (primarily affecting 2020), the company's net profit margins for the first half-years of 2020-2023 were 5.13%, 7.43%, 21.39%, and 30.6%, respectively. Notably, in the first half of 2023, the net profit already exceeded that of the entire year 2022. Although the full-year profit announcement for 2023 has not been released, the outlook for the second half of the year is optimistic, with growth rates and profit margins likely to remain at the level of the first half. With significant profit increases, the company's annualized ROE for 2023 reached a whopping 48.4%.

What's more crucial is that CE Huada Tech performance growth is very healthy, primarily relying on business capacity and internal drive, rather than following the path of debt expansion like most companies. In the first half of 2023, the company's liability- asset ratio was 57%, compared to 56.6% in 2020, showing minimal change. Additionally, its interest-bearing debt mainly consists of short-term bank loans, which decreased by 12.98% in the first half of 2023 compared to 2020, representing a reduction of 14.81%.

It's worth noting that CE Huada Tech is also very generous with its dividends, distributing dividends every year at a stable payout rate of over 30%. Based on its current market value, this translates to a dividend yield of 5%. Despite such strong performance and generous dividend payouts, it has been somewhat overlooked by the market. Some value investors may have already taken notice and are patiently waiting for the valuation to be realised. The expected increase in valuation for the company lies in its business prospects and industry potential.

A dark horse in the making, with promising prospects

CE Huada Tech IC products are used in the smart card industry, which has maintained a stable global market size. According to Eurosmart statistics, global smart card shipments have remained steady at 9-10 billion units in recent years, with China being one of the world's largest smart card application markets, experiencing a mid-to-high single-digit growth rate. According to forecasts by relevant research institutions, the market size of China's smart card industry is expected to reach 34.47 billion yuan within 2023.

Looking at the market landscape, according to data from China Business Intelligence Network, the concentration of the smart card chip industry in China is relatively dispersed. CE Huada Tech ranks second with a market share of 10.69%, second only to Unigroup Guoxin Microelectronics (紫光国微). From its official website, it can be seen that the company provides secure SE chips and secure MCU chips, with solution scenarios mainly applied in areas such as the Internet of Vehicles, the Internet of Things, and financial payments.

The company has a well-established supply system that can reliably provide products to meet market demands. For example, despite disruptions caused by the pandemic affecting the supply chain and resulting in chip shortages, the company managed to maintain growth in shipments from 2021 to 2022. As the capacity shortage gradually eased in 2023, the company seized the opportunity to dynamically adjust its production and sales strategies to address new demand opportunities. Actively adjusting its product strategy, the company has increased promotion efforts in the Internet of Things (IoT) and smart connected vehicle security chip application markets. Shipments of eSIM chips, smart connected vehicle security chips, and high-end SIM chips have performed remarkably well.

It's worth noting that CE Huada Tech places a strong emphasis on R&D, actively promoting the commercialisation of R&D achievements. In the first half of 2023, R&D expenses accounted for 9%, representing a decrease compared to the previous year, primarily driven by significant performance growth resulting from R&D achievements. During this period, the company added 18 new patents and registered 1 new software copyright. Leveraging its scale advantage, product superiority, and supply chain advantage, CE Huada Tech stock prices experienced both volume and price increases, defying the general trend in 2023. In comparison with peers, both Unigroup Guoxin Microelectronics and CE Huada Tech are industry leaders, but the latter is growing faster, with higher profitability levels and significantly increased market share.

The smart card industry is experiencing increased demand this year, with CE Huada Tech maintaining its strong competitiveness and sustainable high-performance track record. Additionally, major brokerage firms are optimistic about the global semiconductor environment, with Huatai Securities' research report suggesting a gradual recovery in the global semiconductor market. The Chinese region is expected to maintain high-intensity capacity expansion this year, with promising prospects for industry development driven by AI. As a leading player in the niche sector, the company is likely to attract significant attention from large funds and institutions.

CE Huada Tech is undervalued, with a P/E (TTM) of only 3.73 times with its closing price of HK$1.62 on 8 Mar 2024. The average P/E for the semiconductor sector is 16.3 times, indicating a potential premium valuation of up to 543.3%. Comparatively, taking Unigroup Guoxin Microelectronics as an example, despite being listed on the A-share market, even with a 50% AH premium, CE Huada Tech's P/E (TTM) and P/B valuations are only 20% and 45% of Unigroup Guoxin Microelectronics, respectively. Moreover, CE Huada Tech is known for its generous dividend policy, further enhancing its attractiveness compared to peers.

In summary, while CE Huada Tech currently has low trading volume, its excellent financials, generous dividend payout, and very low valuation suggest it is an overlooked gem awaiting discovery by investors, potentially positioning it as a dark horse stock with promising prospects.

Superphang
http://superphang.blogspot.sg