Fundamentals and Sentiment Both Set to Improve from 3Q22
The authors are analysts of Shinhan Investment Corp. They can be reached at yjjung86@shinhan.com and dongho2852.shin@shinhan.com, respectively. -- Ed.
2Q22 OP comes in at KRW195.6bn (-73.0% YoY, -24.4% QoQ)
LG Energy Solution posted sales of KRW5.1tr (-1.2% YoY, +16.8% QoQ) and operating profit of KRW195.6bn (-73.0% YoY, -24.4% QoQ) for 2Q22. Mid/large-size battery (EV and ESS) sales are estimated at KRW2.8tr (-25.9% YoY, +14.9% QoQ) and operating profit at KRW9bn (-98.5% YoY, -89.7%QoQ). Profitability dropped as rising prices of materials added to the cost burden amid the absence of product price hikes in 2Q22. We expect margins to return to normal levels in 3Q22 upon upward-adjustment of prices.
Sales of the small-size battery (cylindrical and pouch) business is estimated at KRW2tr (+97.6% YoY, +19.8% QoQ) and operating profit at KRW186.6bn (+59.8% YoY, +8.8% QoQ) for 2Q22. Cylindrical batteries secured better-than-feared sales from a Chinese client, but pouch cell battery sales were hit hard by the drop in market demand for tech products. In 3Q22, we expect to see stronger demand for cylindrical batteries as the Chinese client resumes normal production. Demand for pouch cells should also improve in 3Q22.
Fundamentals and sentiment both set to improve from 3Q22
Going forward, we believe profitability will improve every quarter with the impact of negatives seen in 2Q22 (increase in costs and drop in client company capacity utilization rates) set to dissipate from 3Q22. Prices of pouch cells supplied to key clients for use in electric vehicles will be raised from July. China lockdowns ceased to have an impact from end-June, and US-bound shipments to the joint venture with General Motors are set to begin in 3Q22. As a result, we expect operating margin to improve from 2Q22 bottom of 3.9% to 6.5% in 3Q22.
We also note the removal of external issues that drove recent share price correction. Market concerns rose on news that LG Energy Solution is reassessing its plans for the construction of a new battery plant in Arizona due to higher costs, but the outlook now appears brighter with expectations upward-adjusted for overall demand in North America. According to newly announced plans, the company's production capacity target for 2025 has been raised to 540GWh from previous 520GWh (announced in April) with increased investment slated for North America. Meanwhile, the overhang issue from the release of 10mn lock-up shares on July 27 had no significant impact on share prices. With negatives removed, we believe now is the time to focus on the improvement in company fundamentals.
Retain BUY for a target price of KRW570,000
We maintain our BUY rating on LG Energy Solution for a target price of KRW570,000, based on 2024F earnings and a target EV/EBITDA of 19.8x. Given recent share price gains of global peers, LG Energy Solution's share valuations appear undemanding at current levels.