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This report is the second in our series on China’s logistics industry going global. The first in the series, Logistics industry going global (I): Cross- border e-commerce logistics companies opening a new chapter, published on December 9, 2023, analyzed the market size, industry landscape and several variables of the cross-border e-commerce logistics industry, and discussed investment themes. In this report, we focus on Sinotrans, the largest freight forwarding company in China's cross-border logistics market. We believe Sinotrans has the potential for a re-rating, driven by the growth of cross-border e-commerce platforms.

Reasoning

The market has undervalued DHL-Sinotrans.

We think DHL-Sinotrans is a solid asset with strong earnings and high growth: DHL-Sinotrans' revenue and net profit grew at CAGRs of 10.4% and 12.1% over 2013-2022, with the return on equity (ROE) and return on assets (ROA) averaging 79.0% and 42.8%. We estimate that over the past 10 years, total assets of DHL-Sinotrans accounted for about 5% of those of DHL Express, and that it contributed 10.5% of DHL Express' revenue and 18.6% of EBIT.

Unlike the market, we believe DHL-Sinotrans may return to profit growth in 2024, considering that it uses the DHL Express pricing mechanism of (annually adjusted base price + fuel surcharge + emergency situation surcharge, or ESS), and that cross-border e- commerce business volume will likely grow. We expect the firm’s operating profit may decline by 12.0% YoY to Rmb1.64bn in 2023, and rise 7.5% YoY to Rmb1.77bn in 2024.

We believe the firm's freight forwarding business enjoys greater stability in earnings than the market believes.

Sea freight and shipping agency are the cornerstones of the freight forwarding business. The two segments together accounted for about 55% of the operating profit of the freight forwarding business in 2022. We believe their unit earnings are not closely correlated with sea freight rates, and will rise steadily as more services are provided.

Earnings of air freight and rail freight businesses have fluctuated, but any impact was moderate. If unit earnings of air freight and rail　freight forwarding businesses fall to pre-2020 levels in 2024 (about 17% lower than our assumption for 2024), the combined impact will lead to a 1.1% decline in overall operating profit, in our view.

Sinotrans is trading at a discount of at least 20% to its competitors. Sinotrans-H is trading at 5.4x 2023e and 4.7x 2024e P/E and Sinotrans-A is trading at 10.0x 2023e and 8.9x 2024e P/E, both implying a discount of at least 20% to both domestic and international freight forwarders. In addition, the market has valued DHL-Sinotrans as a traditional freight forwarder, while the three major international express delivery companies are trading at 16.1x 2023e and 14.4x 2024e on average, more than 60% higher than Sinotrans’ current valuation. We think the firm’s valuation may recover after the market fully recognizes the value of DHL-Sinotrans and the firm's freight forwarding business.

Financials and valuation

We keep our earnings forecasts largely unchanged. We expect attributable net profit to fall 4.7% YoY to Rmb3.88bn in 2023 and grow 11.9% YoY to Rmb4.34bn 2024. For H-shares, we maintain OUTPERFORM and our TP of HK$4.06 (7.0x 2023 P/E and 6.3x 2024 P/E), offering 27.7% upside from the current price. For A-shares, we maintain OUTPERFORM and our TP of Rmb6.20 (11.7x 2023 P/E and 10.4x 2024 P/E), offering 17.2% upside from the current price.

The firm's dividend payout ratio rose from 31.7% in 2019 to 48.4% in 1H23, and its dividend yield is 4.8% in 2023 and 5.4% in 2024 for the A-shares, and 9.0% in 2023 and 10.4% in 2024 for the H-shares.

Risks

Sharp decline in air freight rates; lower-than-expected GMV of cross- border e-commerce; disappointing international trade volume.