HC International:Downgrade to Sell

M&A to Drive Growth-HCI’s Q1 results were very disappointing. Revenues declined 5.5% while EPS fell over 40%y/y. Online MMT revenues have begun to decline materially and growth for HCI going forward will increasingly be more dependent on JVs and M&A. Management has gone away from providing forward guidance as earnings in 2015 and most likely 2016 will be blurred from the firm’s transition from B2B to B2B2C. Additional investments are probable, with the strategy framework for investments to be based on adding vertical industry coverage of HCI’s B2B platform as well as technology to enhance the platform.

Forecast and Valuation -We are reducing our FY2015 earnings estimate from RMB45fen/share to RMB27fen/share and our FY16 EPS from RMB0.56 to RMB0.37. We reduce our target price for the stock at HK$10/share based target P/E of 22X. Stock currently trading on 28X/20X 2015/16estimates.

Recommendation -We are downgrading our recommendation on the stock from BUY to Sell. While management expects that this is the bottom for the company, the year over year comps do not necessarily get easier for the company given challenges the company is having with its B2B business. Additionally new acquisitions, increasing focus on new lines of business add further integration risks. Completion of recently announced acquisition of ZOL .com will not occur until Q3, meaning there is little new sources of growth to offset weakness in the core business until the end of the year. Given the current stock valuation, soft fundamentals in the core business, additionalequity raising and better investment opportunities in thesmall-mid captech sectornear term, we recommend SELL on the stock. We would be more constructive given better M&A transparency and improvement in core business fundamentals.

UpsideRisks -1) Better than expected growth in MMT memberships; 2) growth in ZOL.com better than expected; 3) Earlier than expected monetisation of B2B transaction model.