WEICHAI POWER: Record performance, new low stock price behind

So far this year, state-owned enterprises have performed better than the overall market, but not all state-owned enterprises have been so lucky. Apart from banks, resources, and utilities stocks, the performance of other state-owned enterprises has been mediocre. No growth, low dividends, no increase, that's not a problem. However, there are quite a few state-owned enterprises that have achieved record-high performance and decent dividend yields this year, but still haven't stood out. For example, Weichai Power, in the latest Q2 data released, is close to achieving a historical high in performance for the same period. And currently, the core business of heavy-duty truck engines sales has not yet reached its most prosperous state. If the prosperity is restored, there is still room for performance improvement. With such performance, it has already stood out among state-owned enterprises, but the stock price remains flat, even declining all the way. Is this performance a bit harsh on the market? Can such growth be achieved during an economic downturn, and what can we see from Weichai's financial report? 1. Record-high performance, diversified growth Weichai Power is an engineering machinery company under Shandong Heavy Industry, mainly engaged in heavy-duty truck engines, forklifts, logistics warehouse equipment, agricultural machinery, and other products, covering many industrial fields. From the track perspective, it is similar to industrial machinery companies such as Sany Heavy Industry. The company's development is definitely closely related to the prosperity of the domestic engineering construction industry, but it also has a considerable cyclicality. From a historical perspective, heavy-duty truck sales often fluctuate significantly in different years. Since the tightening of liquidity began in 2021, domestic heavy-duty truck sales have been on a downward trend, only starting to recover in the past two years. In this fluctuating state, there naturally comes the cyclicality of income, and the company's heavy-duty powertrain business also has a similar fluctuation pattern. This has also led to the company's revenue peaking between 2020-2021 and has not yet reached a new high. The performance in 2023 still falls short of the 2021 peak. The heavy-duty powertrain, as the core business, accounts for about 25% of revenue and around 40% of profit. The data currently displayed shows that the industry has not fully recovered. The expected performance in 2024 is only expected to return to the level of around 2019, which also means that while overall growth can be expected this year, the next cycle of peak performance is still ahead. Interestingly, the company has achieved long-term growth across cycles. Although there is some fluctuation, the overall trend is upward, and the growth rate has been more stable in recent years. This growth is mainly achieved through the company's diversification and globalization For example, as can be seen from the table below, the company has long been walking on two legs, advancing both domestic and international businesses, diversifying its development. With domestic cyclicality, growth is achieved through overseas channels, ensuring not to overly rely on either side. Up to now, the company has maintained a healthy 50-50 revenue structure between domestic and international markets, which is a reasonable income structure for a globalized enterprise compared to other Chinese companies. The company's strong mechanical products play a role, with Chinese products driving overseas expansion. For instance, the company's engine business has seen rapid export growth, but more importantly, outstanding external expansion and acquisition capabilities are key for expanding overseas revenue. In 2012, the company acquired around 25% of Kion Group's shares, which later expanded to about 44%. Kion owns forklift and logistics supply chain businesses, expanding the company's business scope, revenue, and global presence, contributing to revenue stability. Kion's revenue has been growing steadily in recent years, with profits also showing continuous improvement. Another notable acquisition by the company includes Linde Hydraulics and Lovol Agricultural Machinery, leading companies in excavator components and agricultural sectors respectively. After the acquisitions, both companies experienced growth in the domestic market, contributing to the company's performance growth. It can also be seen that the company, operating in a less favorable state-owned monopoly sector, has charted its own growth trajectory. Key to this growth has been numerous acquisitions, making Weichai Power a stock that has multiplied several times in the past decade, both in A-shares and H-shares, a performance that is truly commendable. Second, Performance Certainty and Dividend Yield Recently, the company announced its performance for the first half of the year. Against the backdrop of slow growth in the heavy truck industry, the company's profit level has nearly reached the peak level of 2021, with a year-on-year increase of 40-60% compared to 2023 Before this, the company launched a conditional equity incentive. From 2024 to 2026, the company's annualized growth rate should not be less than 10%, with a minimum profit margin. By calculation, this basically represents the company's performance in 2024-2026 to be above 11.5 billion, 14.3 billion, and 16 billion. Compared to past performance levels, this is achieving new highs and continuous growth. Although situations where equity incentives cannot be achieved do occur, considering the current operating status of Weichai Power and its historical excellence, this growth rate and profit margin level are not particularly high requirements. This minimum guarantee is reassuring. Among the currently hyped state-owned enterprises: whether it is utilities, telecommunications operators, or highway stocks, there are few that dare to guarantee sustained performance growth and a minimum profit margin. The confidence here is probably due to the elasticity after the reversal of the heavy truck cycle. Looking at the company's shareholder returns, performance was poor ten years ago, but the dividend payout ratio has increased from 30% to 50% in recent years, showing a good improvement trend. Combined with the current valuation, there is also a dividend yield of around 4%. Such performance is definitely considered excellent among state-owned enterprises. Many state-owned enterprises that have reached new highs this year already have average dividend yields, but at the same time, their performance has not shown good growth and lacks growth certainty. In the first half of this year, the company was actually considered undervalued, but recently, it has been continuously giving back the gains accumulated earlier in the year. Even with a half-year performance surprise, it has not changed the overall trend. Is the recovery of the heavy truck cycle falling short of expectations? However, peer China National Heavy Duty Truck Group's performance has not shown a similar pullback. Currently, the company's concerns still lie in management issues. 3. Issues with Personal Governance One of the main reasons for Weichai Power's recent decline comes from the departure of its legendary chairman Tan Xuguang. There are many rumors about his resignation and reassignment. It can be seen that Weichai is a non-typical growth-oriented state-owned enterprise. Many state-owned enterprises' growth, more or less, have dividends from monopolies and business model positioning. For example, compared to engineering construction, liquor has long-term business model advantages, which determines the difference in growth returns between the two A state-owned enterprise develops through globalization and external mergers, while also excelling in technological research and development, surpassing the business cycle. These practices were developed during Tan Xuguang's tenure. Therefore, for Weichai Power, the risk of management changes must be fully priced by the market. However, rationally speaking, Tan is already over sixty years old, and even if he does not change positions, retirement is inevitable. For the current company, reaching its current state, many things that have already happened will not change. In terms of market competitiveness, global assets already owned, asset quality, leading in valuation and dividend yield among peers, there is not much to worry about. In terms of human governance, how is a good management team defined? There are many examples of state-owned enterprises growing through excellent management teams, such as Gree Electric Appliances. In the past, Dong Mingzhu made significant contributions to the company's technology and brand marketing, turning Gree into a well-known frontline home appliance brand. However, in recent years, Gree's revenue growth has gradually stagnated, and many external developments have not been smooth. At this time, in the eyes of many shareholders, Dong Mingzhu has become a burden to the company. People can change, and past successes are not necessarily due to individual efforts. Success achieved in the past may have been a result of experiences and approaches that happened to align with the demands of that period. Once experiences and approaches no longer match the demands of the times, a different state is inevitable. Entrusting a company's future solely to the management team's capabilities is not entirely reasonable. In fact, what sustains long-term corporate development is the strength of corporate culture, corporate metabolism, and the ability to adapt to industry characteristics according to local conditions. For example, in some industrial sectors, companies that pursue the highest industry costs or efficiency tend to perform well in the long run. In cutting-edge technology fields, companies that ensure the construction of talent teams, invest in research and development efficiency, and achieve technological leadership are also successful. In the service industry, companies that continuously optimize their service quality and methods eventually stand out in the industry. Different periods require different types of leadership, which is very common. In the US stock market, rather than having an excellent management team, what is more important is having the correct mechanism for correcting management issues when they arise. Shareholder returns and performance growth should be assessed. As previously mentioned, top US stocks are often held by mutual funds as the top 10 shareholders. Their role is to prevent conflicts of interest and internal competition among similar shareholders. This ownership structure also constrains the management team. In less outstanding second-tier US stocks, where competitiveness is not outstanding, CEO turnover is more frequent because they are more like professional managers. If the data is not good and the stage requirements do not match, they are replaced. To some extent, this is the root cause of the decent long-term performance of second-tier blue-chip stocks in the US stock market. Moreover, to ensure the certainty of shareholding returns, several major shareholders, namely mutual funds, push for companies to distribute dividends as much as possible. This has disadvantages, but it maximizes shareholder interests invisibly. The recent speculation on special dividends is also important because of the high special dividend yield. Behind all these phenomena, interests can explain everything High dividends are often associated with a high dividend payout ratio. State-owned enterprises have always had higher dividend payout ratios than private enterprises, seemingly more generous and with more genuine profits. Behind this generosity are the major shareholders of these state-owned enterprises, with high state-owned assets leading to less profit loss from dividends. Who would be willing to share a large portion of profits if they do not hold more than 60% of the shares? On the other hand, private enterprises with high shareholding by major shareholders often introduce generous shareholder return plans. After multiple rounds of dilution, most private enterprises have a high proportion of floating shares and dispersed ownership. Without concentration or joint governance of ownership, management is reluctant to distribute dividends, leading to maximizing profits but also feeling helpless. This is the core reason for the poor shareholder returns of most Chinese companies. It can be seen that companies with low core shareholding and dispersed ownership struggle to introduce convincing shareholder return plans. However, dividends are not everything. Companies that do not pay dividends focus on growth, which the market appreciates. For example, Amazon has long been in such a state. This is also the situation for many listed private enterprises, guiding everyone to focus on growth and overlook dividend issues. The largest shareholders of private enterprises are often founders and management, so they are willing to invest all their energy in development. As long as they do not face growth bottlenecks, dividend issues can be avoided, with all focus on growth. From this perspective, in terms of shareholder structure, Weichai Power, as a state-owned enterprise, behaves too much like a private enterprise in terms of equity performance. Both the correction mechanism and continuous dividend distribution raise concerns. Conclusion: Therefore, the issues faced by Weichai Power are a microcosm of the problems many companies face in terms of ownership and governance. Behind every problem lies the influence of interests. Companies that do not grow are willing to pay full dividends every year, which will inevitably lead to slow growth in the long term. This is the experience of many second-tier low-growth companies in the U.S. stock market. However, how does this structure come about? It requires a redistribution of interests. It can be expected that long-term growth expectations will decline, most companies can no longer tell a growth story, yet the dividend issue remains unresolved. The ownership structure of most companies cannot support the dividend logic, leading to the current widespread decline in stock prices. Despite the prolonged decline, shareholder returns are still not as high as in the U.S.

Reorganizing the distribution of interests, or the interest structure, may be the key to reversing the current trend in the A-share market, transitioning from a decade of stagnation to slow bull markets every year