FerroChina Becoming Largest Galvanized Steel Manufacturer

Becoming the largest galvanized steel manufacturer in China on the back
of acquisition. FerroChina completed the acquisition of Superb Team on 30 Oct
07 so that the latter’s revenue for the last two months of 2007 will be
consolidated into the former. With the acquisition, FerroChina willbecome one
of the top galvanised steel manufacturers in China with a total annual capacity
of 1.85m tonnes and a 10-15% market share. In addition, the acquisition will help
FerroChina to diversify its products and customers. FerroChina will gain
exposure to the fast-growing consumer electronics and automotive sectors in
China through Everbright and Changgang. We expect the consolidation of two
parties would significantly elevate both FerroChina’s top and bottom lines as a
whole.

Cut forecast for FY07 due to 2-month-delay in acquisition schedule. This
favourable move of consolidation, however, came two months later than our
previous expectation. The delay in turn causes FerroChina to underperform our
projections for FY07, but has no effect on later years. Therefore, we cut our
earnings forecast for FY07 by 18.7% to Rmb421.9m to reflect the impact of this
delay. Since we use relative valuation based on FY08 earnings to value
FerroChina, the cut will have no impact on our target price. Maintain BUY.

Outlook. The volume of China’s steel export grew 83.8% yoy for 8M07. The
government has thus imposed several measures, such as reduction of VAT
rebates and elevation of export tariffs to slow down the high growth speed. While
the tariff does not cast a direct impact on FerroChina, it dims the outlook of steel
sector as a whole. In addition, the management expects the VAT rebates to be
further cut in the future. News as these places FerroChina in a more rigorous
business environment and might hurt its growth. However, as Superb Team sells
its products mainly to domestic customers, the consolidation has reduced the
proportion of exports and made them account for less than 20% of FerroChina’s
total output, thus effectively mitigating the risk arising from export.