Report Date: October 30, 2024
Broker: UOB Kay Hian
Company Overview
Background
Shenzhen Inovance Technology Co., Ltd. is a prominent player in automation and electrical equipment, offering products such as low-frequency converters, servo drivers, and programmable logic controllers (PLCs). The company focuses on the automation sector, which includes its rapidly growing electric vehicle (EV) powertrain business.
Market Position
With a strong foothold in China, Shenzhen Inovance has established itself as a key supplier of automation solutions, servicing a range of industries and leveraging growth opportunities in the EV sector. Its expansion into global markets has further enhanced its reputation as an innovative automation provider.
Financial Performance
3Q24 Earnings Overview
For the third quarter of 2024, Shenzhen Inovance reported revenue of Rmb9.21 billion, marking a 20.1% year-over-year increase but a 4.9% sequential decline. This performance aligns with preliminary earnings guidance, driven primarily by the EV powertrain segment, which saw a 90% year-over-year increase, contributing about Rmb4.4 billion to total revenue. However, the broader automation business and other non-EV segments, such as elevators, faced challenges during the quarter.
Profit Margins
The gross margin for 3Q24 declined to 29.7%, down from 35.0% in the previous year, largely due to the shifting product mix. The EV powertrain business, which has a gross margin below 20%, outpaced the traditional automation business, where margins exceed 40%. As a result, overall profit margins saw some pressure. Operating profit (OP) margin also declined, reflecting the impact of increased competition and changes in the revenue composition.
Key Business Segments
EV Powertrain Business
The EV powertrain segment continues to be a significant growth driver for Shenzhen Inovance, expanding by 90% year-over-year in 3Q24. Management anticipates this growth to continue, projecting a year-over-year increase of 40-50% in 2025, fueled by new design wins and increasing EV market penetration. Though gross margins for this segment are relatively low, the company expects improved net margins due to operational scaling, with a long-term net margin target of 8% for the EV powertrain business.
General Automation Business
The general automation segment faced headwinds in 3Q24, with revenue dropping by 7.9% year-over-year. This decline is attributed to weak demand in key verticals like solar and lithium-ion batteries, which impacted order growth. Management notes, however, that order growth turned positive in September 2024, signaling a potential recovery in automation demand going forward.
Elevator Business
Inovance’s elevator segment, which historically has been stable, experienced a 14.4% year-over-year decline in 3Q24 due to the sluggish property developer market in China. Management has indicated plans to offset domestic weakness by expanding into international markets and after-sales services, though a full recovery in this segment remains uncertain in the near term.
Strategic Outlook and Growth Opportunities
Recovery Expectations in Automation Demand for 2025
Management forecasts a gradual recovery in the automation segment for 2025, supported by government policies that encourage equipment replacement, particularly in highly pollutive industries. The process automation market is expected to be an early beneficiary, with Inovance already engaging multiple clients interested in upgrading equipment. Additionally, recovery in the lithium-ion battery sector and a base effect from the solar vertical are anticipated to support growth.
Continued Expansion of EV Powertrain Business
With the EV sector in China and globally experiencing robust growth, Inovance is strategically positioning itself as a key supplier of EV components. The company has secured new design wins, particularly for plug-in hybrid electric vehicles (PHEVs), which it expects will sustain growth for the powertrain business. Gross margins remain modest in this segment, but scalability and operational improvements are expected to drive enhanced profitability.
Margin and Expense Management
Cost Control Initiatives
To counter margin pressures, Inovance has implemented several cost management measures, including optimizing production capacities, employee restructuring, and supply chain improvements. These steps have shown effectiveness in supporting profitability, particularly within the EV powertrain and automation segments.
R&D and Expense Ratios
Inovance’s R&D expense-to-revenue ratio rose slightly in 3Q24 to support ongoing innovation, particularly within the EV and automation segments. The administration expense ratio saw a year-over-year decrease, reflecting Inovance’s commitment to efficient cost control across its operations.
Valuation and Recommendation
Target Price and Valuation
UOB Kay Hian has downgraded Shenzhen Inovance to a “HOLD” rating, maintaining the target price at Rmb56.00. This valuation is based on a forward PE of 26.6x for 2025, which is 0.5 standard deviations below its historical average over the past five years. The current market conditions and the company’s fair valuation suggest limited upside potential in the short term.
Earnings Forecast Adjustments
The broker adjusted the 2024 net profit forecast slightly downward by 1.7% to Rmb4.88 billion. This adjustment reflects lowered revenue projections in the general automation and elevator segments, alongside expectations for reduced margins due to competitive pressures.
Conclusion
Shenzhen Inovance’s strong positioning in the EV powertrain business and its strategic response to challenges in the automation segment underscore its adaptability in a competitive market. While short-term headwinds persist, particularly in non-EV segments, Inovance’s focus on efficiency improvements and expansion into EV components supports a positive long-term outlook. The broker’s “HOLD” recommendation reflects the balanced view of Inovance’s growth potential and current market valuation.
