Capacity Utilization Rates in China Rising
The author is an analyst of Shinhan Investment Corp. She can be reached at hpark@shinhan.com. -- Ed.
2Q earnings likely sluggish due to COVID-19 lockdowns in China
We now expect Cosmax to post consolidated operating profit of KRW12.6bn (-71.2% YoY) on sales of KRW374.9bn (-12.9% YoY) for 2022, missing consensus estimates. With Shanghai in lockdown from the last week of March, most of the company’s production units likely saw capacity utilization rates fall far below past averages in 2Q22. We believe production units in China operated at roughly 30% of normal capacity in April-May, and expect the production unit in Korea to report top-line growth below 1Q22 levels for 2Q22 due to notably weaker China demand. Domestic sales should come in near previous year levels at KRW233.8bn (+1.7% YoY), but COGS ratio likely rose from increased orders for lipsticks and other makeup products. Shanghai and Guangzhou units stand to report a 35.7% YoY decline in sales for 2Q22, and the US subsidiary should post similar top-line growth as 1Q22 with earnings remaining in the red.
Rising utilization in China to drive gradual earnings recovery in 3Q
For 3Q22, some positive signs are starting to emerge. Capacity utilization rates in China have been on a clear recovery path since June, with efforts made to meet demand from the 618 (June 18) shopping festival through overtime and weekend work. Given the recent hike in Korean exports of makeup products, the domestic production unit is likely seeing steady growth in makeup exports this quarter. Rising demand from Japan should also help Cosmax reduce its dependence on China for earnings growth in the mid/long-term. Meanwhile, COGS ratios should continue upwards in the near term due to the increase in orders for makeup products. In the US, the closure of the Ohio production unit with annual sales over KRW70bn could cause a dip in near-term sales, but overall impact should remain limited with NuWorld Beauty expected to take over a large share of orders secured by the plant. The closure of the Ohio unit is seen positive with the removal of losses over KRW6bn per quarter (2021) and decline in interest expenses expected to lead to improvement in financial structure.
Focus more on potential upside than further downside
We lower our target price for Cosmax to KRW89,000, reflecting adjustments made to forecasts for domestic earnings and China operations in 2Q22 and US earnings in 2023 (revised down for the Ohio unit, adjusted upward for NuWorld Beauty). Our revised target is based on a 12-month forward PER of 28x (past two-year average PER high). We believe most of the negatives are already priced in at current share price levels. Concerns over product mix changes, overseas losses, and the China unit IPO continue to limit upside in share prices at the moment. However, given the rise in expectations for a recovery in market demand, we recommend focusing more on potential upside from current levels than further downside in share prices.