1H22 results in line with our forecast

IAT Automobile Technology announced its 1H22 results: Revenue fell 16.60% YoY to Rmb510mn and attributable net profit dropped 25.45% YoY to Rmb77mn. 2Q22 revenue declined 27.17% YoY but rose 41.31% QoQ to Rmb299mn, and attributable net profit decreased 19.10% YoY but surged 97.24% QoQ to Rmb51mn, in line with our expectation.

Trends to watch

COVID-19 resurgence affects revenue recognition of design business in 1H22; ample orders on hand to bolster medium to long-term growth. We believe that the firm’s 1H22 revenue fell YoY, due to slower project acceptance resulting from COVID-19 resurgence in China. 2Q22 revenue and profit recovered notably QoQ, as the firm had been accelerating advancing design services since June, and sped up its revenue recognition QoQ, in our view. Total value of existing orders for the firm's R amp;D business was Rmb2.10bn, up from 1Q22. We believe the firm continued to showcase its competitiveness as a leading domestic third-party design service provider. Looking forward, we expect the firm to accelerate fulfilling its existing orders on hand.

Expanding product portfolio of auto parts business for alternative fuel vehicles （AFVs）； dedicated hybrid transmissions （DHT） assemblies to contribute incremental revenue in 2H22. The firm has accumulated the technological know-how on vehicle design. For its auto parts business, the firm is supplying decelerators to original equipment manufacturers （OEMs） such as Guangqi Honda Automobile, Dongfeng Honda Automobile and Continental AG as well as first-tier suppliers. In 1H22, the firm became a DHT assembly supplier for SAIC-GM-Wuling Automobile. We expect the firm’s mass production ramp-up of auto parts to accelerate in 2H22 with the launch of SAIC-GM-Wuling’s Xingchen model. The firm’s profitability slightly declined QoQ in 2Q22, as gross margin of auto parts business was lower than that of the design business. 2Q22 gross margin edged up 0.90ppt YoY but dropped 4.15ppt QoQ to 35.36%.

AI-enabled and driving related business well on track; expanding to smart cockpit and smart driving businesses. In 1H22, the firm focused on its service-oriented architecture （SOA） developer platform, and advanced smart cockpit and smart driving businesses. The firm’s 1H22 R amp;D expenses grew 31.0% YoY to Rmb81mn. For the smart cockpit business, the firm has completed the Phase-I design, development and testing of its software and hardware system for smart cockpits based on SemiDrive Technology’s system on chip （SoC）。 The firm expects to complete the system testing in 2022. For the smart driving business, the firm is stepping up efforts in developing domain control software for smart driving and providing solutions such as adaptive cruise control for clients.

Financials and valuation

Given slower recognition of projects due to COVID-19 impact, we lower our 2022 and 2023 net profit forecasts 21.5% and 12.7% to Rmb235mn and Rmb357mn. The stock is trading at 32.8x 2022e and 21.5x 2023e P/E. Considering ample orders on hand, we expect faster implementation of orders to accelerate revenue recognition. We maintain OUTPERFORM but cut our TP 12.6% to Rmb20.10, implying 42.6x 2022e P/E with 30.1% upside.

Risks

Disappointing production ramp-up of auto parts and/or new project expansion; COVID-19 resurgence affects revenue recognition.