China XLX Fertiliser (S$1.80) – Initiating Coverage - Xtra nourishing

China, with an established “Xin Lian Xin” brand. CXLX is the lowest-cost coal-based
producer of urea in Henan, and the fourth lowest-cost coal-based producer of urea in
China. CXLX has been able to enjoy above-industry growth rates and capture more
market share as a result of its scale. Revenue has been growing by a projected CAGR
of 32.5% for FY05-09, with net profit expected to expand by 69.5% CAGR for the same
period, as a result of the healthy macro environment, higher utilisation of its added
capacity, increased contributions from compound fertilisers and the penetration of new
cities in China. CXLX is preparing for the government-supported industry consolidation
by planning the construction of a railway extension to its plant to bring down costs and
a cogeneration plant to be self-reliant in energy.
We initiate with Outperform and target price of S$1.80, based on blended 20x CY08
P/E and DCF valuation (10.2% WACC, 2% terminal growth). Our target translates into
23.4x CY08 P/E. We believe this is not excessive given CXLX’s 3-year EPS CAGR of
55.4%, backed by a PEG ratio of 0.5x for FY08. CXLX is cheap (17.4x CY08 P/E)
relative to the sector (20.0x CY08 P/E average).

Sino-Environment Tech (S$3.08) - Recent share-price volatility not a concern
Possible error trade
Sino-Environment’s share price dropped a dollar intra-day to S$2.40 on 5 Jul (Thursday),
down 30% from its previous closing. The stock eventually recovered to close at S$3.14 (-
8.2% from previous close). The last time it traded below S$3.00 was on 28 Dec 06.
In an official reply to the SGX on the irregular trading activity, Sino-Environment gave error
trades as a possible reason. The share price continued to experience weakness on 6 Jul
(Friday), with speculation over weak 1H07 results. Sino-Environment is expected to release
its 1H07 results on 14 Aug 07.
Comments
Business intact, error trade likely true. Our discussions with management suggest that
the business remains sound and the company is in a series of negotiations for new projects
in China. We think the error trade is likely true.
Rumours on liquidation of shares by management and listing of subsidiary
unfounded. We also heard various rumours, including a liquidation of shares by
management and a subsidiary going for listing. Mr Sun Jiangrong, CEO, continues to own
around 50% of the company, and we are unaware of any liquidation. Management replied it
does not expect to list its subsidiary in the near term.
Stronger half expected in 2H07, spurred by capacity expansion. 1H07 results could be
slightly below expectations, as monthly VOC production capacity remains at three devices,
unchanged yoy. We are expecting 2Q07 to represent 17% of our full-year forecast, bringing
contributions from 1H07 to 30%.
However, we expect a much stronger 2H07, led by capacity expansion and maiden
contributions from its municipal wastewater treatment project, though small. The company
has been busy moving to its new state-of-the-art plant, also in Fuzhou, Fujian Province, in
the last two weeks. The new plant should commence full-scale operation by Aug 07.
Monthly VOC production capacity would be raised from three devices to seven. Meanwhile,
the old plant remains in operation to ensure continued production during the transition.
Valuation and recommendation
Probable revenue deferment from FY07 to FY08. Our FY07 projection factors in
Rmb375m worth of contract wins, of which only Rmb98m have been secured to date. Given
that the bulk of delivery for recent wins is expected in FY08-09, we think some revenue
from the desulphurisation business could be deferred from FY07 to FY08. We are keeping
our FY07-09 numbers intact pending greater clarity on revenue recognition as we enter
3Q07.
Target price maintained at S$3.50, still based on blended P/E valuations. The stock is
trading at 13x CY08 P/E, after the decline last week. The implied CY08 P/E for our target of
S$3.50 is 15x, in line with our basket of environmental (water treatment) stocks and
undemanding against the company’s FY07-09 EPS CAGR of 68%. Reiterate Outperform.