"Toys, games and sports" strategy still unproven
In 2013, the company responded to slower growth in its toy business by enteringgaming and online advertising via acquisitions. In 2014, it entered the film & TVindustry by acquiring Spring Ronghe Entertainment, adopting a "toys, film, TV, gamesand online advertising" strategy. Early this year, the company sold its film & TV unit andonline advertising business and entered the sports industry by acquiring Spanishfootball club RCD Espanyol. However, its "toys, games and sports" strategy remainsunproven.
We expect toy revenue growth to stay in single digits in 2016-18
Rastar's toy and kids business derives around 70% of its revenue from outside Chinaand its exports are mostly settled in USD. UBS economists forecast the RMB to keepdepreciating against the USD in the next 3 years, which by itself benefits exporters.
However, keeping in mind rising labour and raw material costs and fiercer competition,we expect toy and kids revenue to continue posting single-digit growth (5-6% YoY) in2016-18.
Games and sports to drive double-digit earnings growth
Games were Rastar's biggest profit generator in 2015, contributing over 30% of grossprofit. In early 2016, the company announced it would acquire a 67.13% stake inQuwen Network Technology to strengthen its gaming business. We expect the gamingbusiness to post slower but still 20%+ earnings growth in 2016-18. We also expect thesports business to deliver Rmb100m in earnings this year, with segment revenuegrowing 10% YoY in 2017-18.
Valuation: Lowering price target to Rmb14.5; downgrading to Neutral
Considering the sale of the film & TV business, single-digit toy revenue growth, weakergaming revenue growth, volatility of sports earnings and uncertainty over whether theQuwen Network Technology deal will go through, we are lowering our 2016-18E EPSto Rmb0.33/0.36/0.41 from Rmb0.37/0.45/0.53 and cutting our mid-/long-termrevenue growth assumptions for toys and games. Our new Rmb14.5 price target (fromRmb24) is based on DCF and assumes a 6.6% WACC. Rastar is trading at a 12-monthforward PE of 37.3x, roughly in line with the average since it reorganized its business in2013 (36x). We are downgrading our rating to Neutral.
