1Q22 results in line with our forecast

Desay Battery announced its 1Q22 results: Revenue rose 27.6% YoY to Rmb4,902mn and attributable net profit grew 14.4% YoY to Rmb154mn, in line with our expectations .

Trends to watch

Revenue growth robust; gross margin solid. The firm’s 1Q22 revenue grew 27.6% YoY despite a slack season for the industry and COVID-19 resurgence. We attribute this to the rapid growth of the smartphone business. We think that clients in North America contributed significantly to the growth, while Android smartphone clients dragged the firm’s earnings amid sluggish demand. We believe the power tool and energy storage businesses recorded solid growth and revenue structure continued to improve in 1Q22. 1Q22 gross margin remained stable YoY at 8.8%.

R&D investment continues; operating cash flow falls. The firm’s 1Q22 R&D expense ratio improved 0.4ppt YoY to 2.4%, while R&D expenses increased significantly 57.6% to Rmb119mn. We think this reflects the firm's continued investment in R&D. G&A expense ratio dropped 0.1ppt YoY to 1.4%, and selling expense ratio fell slightly 0.2ppt YoY to 0.5%, remaining stable overall. In addition, 1Q22 net operating cash flow fell 88.1% YoY to Rmb20.42mn, due to rising revenue and strategic stockpiling. 1Q22 inventory increased 5.3% QoQ to Rmb2.72 bn. We view the fluctuations in cash flow and inventory as normal, considering a potential ramp-up in orders from major clients at end-2Q22.

Clients in North America to drive steady growth in traditional business in 2022; development of BMS SIP and energy storage battery businesses to accelerate. Looking ahead into 2022, we expect the firm’s traditional computer, communication and consumer electronics (3C) business to grow steadily with rising shipments from large clients. Meanwhile, the firm is also accelerating the development of its battery management system (BMS) SIP and energy storage battery businesses. We think the firm is investing significantly in its BMS SIP and energy storage battery businesses in the short term, but we are upbeat on the long-term earnings contribution from these businesses as clients begin to increase inventory in 2022. The firm is also accelerating the development of its energy storage battery business, and we expect the business to become a new growth driver for the firm.

Financials and valuation

We maintain our 2022 & 2023 earnings forecasts. The stock is trading at 10.3x 2022 and 9.0x 2023 P/E. We maintain OUTPERFORM but cut our TP 14.0% to Rmb43.00, implying 15.3x 2022e and 13.3x 2023e P/E with 48.8% upside, due to the falling average valuation of the sector.

Risks

Disappointing development of battery management system and SIP business; slower-than-expected growth of energy storage battery business.