In 3Q23, Shandong Pharma Glass maintained a good growth trend in the sales of its core products. Since the start of 2023, its quarterly gross profit margin (GPM) has gradually increased, which we reckon was due to the lower prices on the cost side and the improvement of product structure brought about by medium borosilicate molded bottles. The upcoming ninth batch of centralized procurement bidding may greatly boost the Company's sales of medium borosilicate molded bottles and continuous optimization of its product structure. The Company's overall expense ratio was well controlled. Considering that the Company's earnings results were excellent in 1-3Q23 and will likely be boosted by the upcoming centralized procurement bidding, we assign 27x 2023E PE to derive a target price of Rmb34, and reiterate the "BUY" rating.

Increased QoQ growth of 3Q23 earnings.

In 1-3Q23, Shandong Pharma Glass achieved revenue/ attributable net profit (ANP)/recurring ANP of Rmb3,674mn/614mn/590mn (+22.92%/+24.14%/+22.67% YoY), respectively. In 3Q23 alone, its revenue/ANP/recurring ANP came in at Rmb1,251mn/229mn/Rmb224mn (+23.63%/+32.28%/+35.21% YoY), respectively. We reckon that the considerable growth in both revenue and profit was attributable to good product sales, rapid business growth at home and abroad, and higher product GPM driven by lower prices of raw materials and fuel.

Continued improvement in GPM and declining cost.

In 2023, the quarterly GPM of Shandong Pharma Glass has increased steadily, from 23.65% in 1Q to 30.33% in 2Q and then to 30.70% in 3Q. We reckon that this is contributed by the Company's product structure upgrading and declining cost. In 2022, direct materials and fuel accounted for 30.61% and 18.11% of the cost of the Company's core business, respectively. Take soda ash and natural gas, which are important components of raw materials and fuel respectively, for example. According to Wind, the average price of soda ash stood at Rmb2,779.19/t, Rmb2,490.03/t and Rmb2,460.11/t in 1Q23/2Q23/3Q23 respectively, and now still shows a downward trend.

According to Wind economic data as of Oct 20, 2023, the settlement price of soda ash for Nov and Dec has dropped to Rmb2,020.00/t and Rmb1,770.00/t, respectively. In 1Q23/2Q23/3Q23, the average price of natural gas stood at Rmb4.18/m3, Rmb3.96/m3 and Rmb3.77/m3, respectively.

The upcoming ninth batch of centralized procurement bidding may further boost the Company's sales of medium borosilicate molded bottles.

Shandong Pharma Glass has delivered good sales of medium borosilicate molded bottles-which we estimate exceeded 900mn in 1-3Q23, leading to continuously optimized revenue structure. According to SMPAA.cn, the ninth batch of centralized procurement bidding will end the submission of application materials on Nov 6, and has included 20 injection varieties, which account for 47.62% of all the varieties to be procured. The injection varieties included into the centralized procurement are likely to continuously boost the Company's sales of medium borosilicate molded bottles. Referring to the time from the disclosure of centralized procurement results to implementation, we expect that the influence of the centralized procurement will manifest in 1H24.

Well controlled cost income ratio, with a slight YoY decrease.

In 1-3Q23, Shandong Pharma Glass delivered selling/administrative/financial expense ratios of 2.67%/3.15%/-0.78%, which changed by +0.11ppts/- 0.75ppts/+0.76ppts YoY, respectively. Notably, its finance expense grew by 37.56% YoY, due to the decrease of exchange gains. In 1-3Q23, the Company's overall cost income ratio fell by 0.84ppts YoY to 7.58%, which was well controlled. Meanwhile, its net operating cash flow surged by 265.26% YoY to Rmb727mn, mainly because of the increase in cash received from the sale of goods and the provision of services during the reporting period.

Potential risks: Disappointing growth in the Company's sales of first-grade glass bottles; a sharp rise in the prices of upstream raw materials and the cost of environmental protection; intensified market competition; deteriorated geopolitical situation.

Investment recommendation: As a leading pharmaceutical glass enterprise in China, Shandong Pharma Glass delivered excellent earnings results in 1-3Q23. Its overall product sales showed a good growth trend; the higher-margin core variety of borosilicate molded bottles (the Company is the largest supplier of this product in China), in particular, grew at a high speed. With cost entering a downward trajectory in early 2023, the Company's GPM increased significantly QoQ. Considering all these, given the downward trend of the prices of raw materials such as soda ash and the profit elasticity brought by the upgrading of product structure, we raise our 2023/24E/25E EPS forecasts to Rmb1.26/1.46/1.70 (from Rmb1.20/1.44/1.70). We are optimistic about the Company's long-term growth potential, considering the strong downstream demand for medium borosilicate molded bottles driven by conformance evaluation during domestic centralized procurement, the potential continued growth in the Company's production capacity for medium borosilicate molded bottles and the downward cost trend. With the average 16x 2023E PE (Wind consensus estimates) of comparable companies Linuo Technical Glass (301188.SZ), Wego Group (01066.HK) and Shanhe Pharmaceutical Excipients (300452.SZ) as a reference, we assign the Company 27x 2023E PE to derive a target price of Rmb34, and reiterate the "BUY" rating.