Earnings growth on expansion and improved efficiency; maintaining Buy Yonghui delivered solid results in 1H16. Store expansion is progressing asguided, with a resilient SSSg at 3% yoy in 1H16. Fresh food and grocery hasrecovered to high-teen-to-20% growth after the organizational restructure in2H15. Operating efficiency has improved, mainly driven by the efforts in: 1)direct sourcing, 2) optimization of the SKU mix, and 3) OEM and private labelproducts. We expect earnings growth at a 41% CAGR in 2016-18E, best-inclassbusiness operations in fresh food and its cash-wealth to accelerate theindustry consolidation. Maintaining Buy. 1H16: EBIT up 43% and core NP up 40%, despite macro headwind 1H16results were in line with our estimates. Core NP (excluding investmentgain and revaluation) grew 40% to RMB661m on an 18% rise in sales toRMB24.5bn. 2Q16core NP/Sales were up by 40%/22%. Core EBIT increasedby 80% yoy in 2Q on a low base last year and stringent cost control in opex.Cash generation was strong with operating cash flow of RMB1.2bn. Modest earnings revisions – lower FY2016-18E NP by 1-5% We lower our forecasts by 1-5% for 2016-18E, mainly due to the transitioningof its apparel (4% of total revenue in 1H16). We expect apparel to recover in2017, after it adopts a partnership program and with the new store layout in2H16. We also factor in the increase of interest income from the placementproceeds of RMB6.4bn in August. We expect NP to grow at 41% in 2016-18E,driven by store network expansion (15% CAGR in 2016-18E), resilient SSSg (2-4%) and the improved supply chain management. Lowering target price to RMB5.7from RMB5.8; risks Our primary valuation methodology is DCF, employing COE of 9.5%, a beta of1.0and a TGR of 1.5%. This produces a fair value of RMB5.7/share (old: RMB5.8), implying 44x/38x FY16/17E PE or 39/31x FY16/17E PE, excluding netcash (RMB11bn). This is justified given the 59x/49x PE of A-share retailers’average PE multiple (Figure 2). Key catalysts include new APP to launch in 2Hfor O2O initiatives, and acquisition deals. Key risks: competition from on/offlineplayers, weak SSS, and management capability in nationwide expansion.

Target price adjusted to RMB5.80 on scrip dividend Yonghui Superstores implemented its dividend payout for 2015 on 3 June 2016with cash dividend of RMB0.15 and scrip dividend of one bonus share forevery one existing share. Total shares outstanding will increase from4,067.5mn to 8,135mn. Accordingly, we revise our target price fromRMB11.60 to RMB5.80 to reflect the share capital adjustment. Valuation remains unchanged; maintaining Buy Our target price is derived from DCF, employing 9.5% COE, a 1.0 beta and a2.5% TGR. It is equivalent to 36x FY17E P/E, unchanged from our previousvaluation. We have a Buy rating on the stock, as 1) we believe Yonghui should be a longtermbeneficiary of China’s secular trends of modern trade retailing, and 2) itowns industry-leading expertise in fresh food operations, driven by its strongsourcing capability, well-established supply chain management and optimizedbusiness procedures. We estimate 41% net profit growth for FY16-18, on 20%revenue growth, driven mainly by 60-80 new store additions each year, 2-3%SSSg and operation leverage. Key downside risks: keen competition, low CPI and challenges in nationwideexpansion.

TP adjusted to RMB22.18 Midea announced on 29 April that it will distribute scrip dividend (5 for 10) andcash dividend (RMB1.2/share) for 2015. Accordingly, we change our TP fromRMB33.25 to RMB22.18 to reflect the share capital adjustment. The exdividendday is 5 May, and the first day of the dealing in the new share is 6May. Zhuhai Rongrui places 94m shares through block trade Midea announced on 7 May that Zhuhai Rongrui, a subsidiary of ICBCInternational, has reduced 94m shares through block trade during April-May. After the share placement, Zhuhai Rongrui reduced its stake from 7.14% to4.94% in Midea. We believe the share placement will relieve the PE investor’soverhang. To recap, Zhuhai Rongrui acquired 12% stake in Midea forRMB64bn in November 2011. The lock-up period for the PE investors (ZhuhaiRongrui) was one year after the IPO date (September 2013) of Midea. Valuation and risks Our TP is derived from DCF, factoring in 9.5% WACC and 2% TG, in line withour assumptions for Chinese consumer stocks. It is equivalent to 10x/10xFY16/17 PE. We have a Buy rating on the stock. Key downside risks: irrationalglobal expansion could incur unnecessary risk, slower-than-expecteddestocking of AC, unfavorable weather and intense competition.

1Q16 EBIT and sales in line with our expectations. Midea reported strong 1Q16 results on 29 April after the market closed. Netprofit rose 17% yoy to RMB3.9bn on the back of a 9% decline in sales revenueto RMB39bn. 1Q16 EBIT and sales are 33%/26% of our full-year forecasts, vs. 32%/26-27% in 1Q114/15. The strong earnings were mainly driven by a GPmargin improvement. Key highlights of 1Q16 results. Sales declined 9% yoy to RMB38.6bn. Sales volume of air conditionersdeclined 25% yoy, while sales volume of refrigerators and washing machinesrose 17% and 16% yoy, respectively, according to China IOL. We believe ASPfor air conditioners improved slightly in 1Q16. According to management,installation cards for air conditioners increased 10% yoy in 1Q16. GP margin improved 3.1ppts to 29.9%, mainly driven by 1) product mixchanges to more high-end products, 2) lower raw material costs and 3)improvement in overall ASP. Opex ratio increased 0.8ppts to 17.2%. EBIT grew 12% yoy to RMB4.6bn, with EBIT margin increasing 2.3ppts to 12%. Inventory decreased 10% yoy to RMB10bn, attributable to improved ordermanagement as the company had adopted a make-to-order distribution model(i.e. T+3 order management system) for washing machines. Please refer to ournote, “Key takeaways from Midea's Investor Day on 27 April”, published on 28April for details on the T+3 system. Cash flow rose 164% yoy to RMB6.6bn, mainly due to decreased accountsreceivable. 2016 outlook. We believe management is decisive in de-stocking channel inventory for airconditioners, as it guided during the Investor Day on 27 April. We believe thisshould benefit Midea in the long run as it should: 1) enable the company toflexibly adjust production and R&D to address evolving and personalized enduserdemand; 2) improve operating efficiency by reducing inventory in both thefactories and distribution channels; and 3) optimize the supply chain byflattening the distribution channel. For 2016, we expect air conditioner sales revenue to slightly increase 4% yoy,driven by 1) recovering market demand, with installation cards increasing 10%yoy in 1Q16, 2) ASP gradually improving, and 3) a low base in 2H15.

A true global company; maintaining Buy 2016 to continue optimizing sales channel management We like Haier’s brand equity and its leading position in the washing machine and refrigerator segment. We believe management has identified the channel management issue and is optimizing the channel management. About 95% of its products sold overseas are own-brand products. We expect the GE Appliance deal to be completed by mid-2016, and it is likely to raise EPS by 15- 16% in 2017-18E. Overseas business accounted for 20% of total sales in 2015 after consolidation of Haier Singapore, and is likely to increase to 44% after consolidation of GE Appliance; maintaining Buy. 2016 to continue optimizing sales channel management We expect Qingdao Haier to continue streamlining its sales channel in 2016 and expect it to report organic growth of 3-6% during 2016-18E with bottom-line growth of 5-10% during the same period, mainly driven by GP margin expansion with a focus on development of high-end products. For 2016, we expect NP to grow 15% yoy to RMB4.9bn, including a one-off gain (RMB528m) from the re-classification of Bank of Qingdao (3866.HK, NR) from 1Q16. GE Appliance to raise NP by 15-16% in 2017-18E We expect GE Appliance to raise Qingdao Haier’s net profit by 15-16% in 2017-18E. In 2016, the increase should be about 10% of Haier’s net profit, as it is likely to start consolidation in 2H16. In our model, we have not factored in the acquisition of GE Appliance, as it is still awaiting approval. Valuation and risks We maintain our Buy rating, while lowering our DCF-based target price (9.5% COE, 2% long-term growth rate) by 6% to RMB10.16 to reflect the constraint output in air conditioners and the investment for high-end products. We have not factored in the GE deal as it is still awaiting approval. Our target price translates into 12x/11x FY16E/17E PE. Downside company risks include: 1) failure to develop overseas markets, 2) failure to integrate the acquired business, 3) delay in acquiring GE Appliance and 4) the continued connected transaction with Haier Electronics.

2016-20 development strategy Yonghui released a five-year development plan (2016-20) in its audited FY15results on 27 April. According to the plan, it targets becoming one of the topthree offline retailers in China, by developing both online and offline channelsto cater to consumers’ evolving demands. It will focus on strengthening themerchandise operation capability by enhancing the supply chain managementand optimising business procedures. It targets 1) establishing strongrelationships with 300 domestic key suppliers and 30 overseas suppliers, 2)private label products accounting for 15-20% of total sales, 3) building 10regional DCs and 30 fresh food DCs, 4) building five to 10 central kitchens. 2016: focus on supply chain integration and digitalised management Yonghui plans to continue to improve the supply chain management for thefresh food and general merchandise divisions. For apparel, it will reinforceprofitability by improving inventory turnover, lowering costs, andstrengthening KPI reviews and motivation. It will develop a joint procurementwith allied partners to source from domestic and international suppliers. Itlaunched its first central kitchen in February 2016 in Chongqing to processfresh food, and it will build another two kitchens, in Beijing and Fujian. Lowering net profit by 9-12% for 2016-17E; maintaining Buy We cut our 2016-17E net profit by 9-12% to reflect the investment in supplychain management and lower-than-expected FY15 results, owing to corporaterestructuring. We estimate 38% net profit growth for FY16-18, on 20% rev. growth, driven mainly by adding 60-80 new stores each year, 2-3% SSSg andop. leverage. Prelim. 1Q16 rev. and net profit are 26% and 41% of our FY16forecast, respectively, vs. 25% and 36% in FY14. We believe Yonghui shouldbe a l/t beneficiary of China’s secular trends of modern retail and mgmnt’soperational expertise in fresh food. Our primary valuation methodology is aDCF, employing 9.5% COE, a 1.0 beta and a 2.5% TGR, which is at the highend of the 1-3% range we apply for the consumer sector (as China is one ofthe key drivers in the food retail consolidation globally). This produces a fairvalue of RMB11.6/share (previously RMB12.9), implying 39x FY17E P/E. Keydownside risks: keen competition; low CPI; challenge in nationwide expansion.

Midea’s annual Investor Day in Shunde on 27April Midea hosted its annual Investor Day on 27April. We visited its home ACautomation factory in Nansha, the innovation projects in its R&D workshop,and Ande Logistics. The managers of five divisions – home AC, commercialAC, washing machine, small appliances and kitchenware – presented therecent developments in those divisions. The key takeaways from the Q&Asession with senior management are: Destocking of home AC: Midea is de-stocking home AC from Jun-Jul 2015.This has reduced inventory by 40% at the regional sales offices and by 20-30%at the distributors from the peak. Shift from make-to-stock (压货) to make-to-order model: Management is quitedecisive on shifting from the current make-to-stock (demand push) distributionmodel to make-to-order (demand pull) model by introducing the “T+3” ordermanagement system. In T+3, there are four stages for a full cycle: 1) orderplacement; 2) material and parts preparation by suppliers; 3) final assembling;and 4) delivery of finished goods to clients. Midea’s subsidiary Little Swan(000418.SZ, NR) has piloted this model and has reduced the turnover period(from order placement to receiving the merchandise) to 12days from 28.Management believes this is achievable as it has: 1) standardized productionprocesses and procedures; 2) automated production; and 3) logistics capabilityfor nationwide delivery in a short time. Continuation of globalization strategy: It plans to enter the US and Europeanmarkets through M&A, backed by its strong operating cash flow. For theToshiba (6502.T, NR) white goods acquisition, it has formed working groupsfor ensuring a smooth transition. Midea has found that Toshiba’s refrigeratorsegment in Japan is loss making. The company plans to turnaround Toshiba(5-6% net loss ratio) in 2-3years. Deutsche Bank commentsWe like Midea’s initiatives to shift to the make-to-order distribution modelbacked by its strong execution capability. We believe this should benefit Mideain the long run as it will: 1) enable the company to flexibly adjust productionand R&D to address the evolving and personalized end-user demand; 2)improve operating efficiency by reducing inventory in both the factories anddistribution channels; and 3) optimize the supply chain by flattening thedistribution channel. However, Midea has to prolong the output constraint tofully de-stock the channel inventory, which could result in a short-term marketshare loss. The company is scheduled to release its 1Q16results on 30April.

USD693m for 80% stake in Toshiba white goods business Midea announced on 30 March that it has reached an agreement with Toshiba(6502.T, NR) whereby Midea will acquire an 80.1% stake in Toshiba Lifestyle(TLSC) for a total consideration of USD693m in cash (USD473m for the equityand USD220m for debt repayment). TLSC will continue to develop,manufacture and sell white goods products such as refrigerators, washingmachines, vacuum cleaners and small appliances under the Toshiba brand. Midea will be granted the right to use the Toshiba brand globally for 40 years. Procedures for closing the deal This deal does not need SGM approval, but is pending approval from the JapanFair Trade Commission and needs to be registered with China’s Ministry ofCommerce and State Administration of Foreign Exchange. Midea expects tocomplete the deal by 30 June 2016. About TLSCToshiba is one of the largest white goods brands in Japan. Its washingmachines and refrigerators are ranked in the top three in Japan, according toEuromonitor, with a market share of 20%/15%. It also has a presence in SoutheastAsia and the Middle East. By region, 70% of its revenue is from Japan andthe remaining 30% is from other regions. By product, refrigerators, washingmachines and home air conditioners account for 26%/23%/15% of totalrevenue. It has nine production bases located in Japan, China and Thailand. Deutsche Bank comments We believe this is an important milestone for Midea in its exploration of theglobal market and is positive for Midea in the long term. We expect Midea to1) upgrade its R&D and automated manufacturing capability, leveragingToshiba’s R&D resources; 2) introduce Midea products to the Japanese andSoutheast Asian markets, leveraging Toshiba’s distribution network; and 3)turn around Toshiba’s white goods performance by improving operatingefficiency and controlling costs. We believe the target witnessed a net loss ofJPY8.2bn in 1HFY15 (deduced from the reduction in net assets), or 6% ofMidea’s NP for the same period, so we calculate that dilution is about 5% forMidea in 1HFY15. The sales revenue of the target was USD3.6bn in FY15(ending March 2015), or 16% of Midea’s revenue. This includes USD1.6bnrevenue from the distribution of Toshiba’s non-white goods products (TV sets,PCs and lighting products). We believe that the consideration implies 0.2x PSof the target, or 0.4x PS of Toshiba’s white goods business in FY15. Webelieve this is reasonable when compared with Qingdao Haier’s GE deal (0.9xPS). Midea had net cash of RMB8bn as of end-2015. We maintain our Buyrecommendation.

Key takeaways from Lianhua’s conference call Younghui’s associate Lianhua (0980.HK, CMP:HKD2.66, NR) released its FY15results and held a conference call on 31 March. Below are the key takeaways:Outlet development and store closure. LH plans to add 300+ new stores (204new stores added in 2015) in 2016, including 7-9 hypermarket stores, 150/150supermarket and CVS stores. In terms of store closure, it will cautiously closethe underperforming stores. The loss-making stores are mainly big stores. SSSg declined by 6.5% yoy in 2015, mainly due to traffic (-10%), while ASPincreased by 2-3%. By products, fresh goods, seasonal merchandise, andlaundry products outperformed. Sales performance in Jan-Feb 2016. Sales improved due to the efforts made in2H15, despite an intensive competition environment. Prepaid card sales improved in 1Q16. The decline in sales of prepaid cardsnarrowed by 3-5ppts in 2015 from that in 2013-14. Prepaid card sales in 1Q16were better than that in 2015. Prepaid card settlement is 25-30% of the totalsales. E-commerce. It plans to launch an omni-channel (on/offline plus mobile) inMay 2016, after a successful testing conducted in March in Shanghai. To continue to improve fresh food mix and GP margin. It plans to increase thesales mix of fresh food (30% currently) by efforts in the operationmanagement. It plans to improve GP margin from 12% in 2015 to the industrybenchmark level, by controlling shrinkage and logistics optimizations. Yonghui alliance update. Lianhua aims to lower procurement cost byleveraging Yonghui’s supply chain system and procurement platform. Fordirectly purchasing from Yonghui, the annual cap was set at RMB130m in2016 (0.5% of LH’s COGS in 2015). LH has improved its business operation ofits fresh food segment, by improving daily operations and training theoperation staff. The next step is to optimize non-fresh food operations by 1)centralized procurement for key items especially national procurementproducts, and 2) direct sourcing. YH has helped upgrade LH’s Zhuanqiao storein terms of optimizing shopping route, expanding gallery space, optimizingmerchandise mix and improving operating efficiency. It plans to renovate 13hypermarket stores and 13 supermarket stores in 2016. Deutsche Bank’s comments We believe Yonghui’s contribution in Lianhua’s turnaround is mainly focusedon the merchandise operations and store renovations. We expect Yonghui tobenefit from the joint procurement with Lianhua, which will lower theprocurement cost on economy of scale. LH was in a net loss of RMB146m in2015. YH holds 21% stake in LH and has nominated two of the 11 directors onLH’s board. This note marks the transfer of coverage for Yonghui to Richard Huang asprimary analyst, Anne Ling as the secondary analyst.

A key beneficiary of air conditioner destocking; maintaining Buy We expect washing machine (WM) and refrigerator (RF) to continue theirgrowth momentum in 2016, while air conditioner (AC) should graduallyimprove due to the ASP pickup and low base in 2H15. We expect Midea to bea key beneficiary when AC destocking is completed by mid-2016. We expectMidea to keep developing the robot business and explore overseas businessvia M&As. It is trading at 9x FY17 PE and 4.5% dividend yield. Maintain Buy. 2016 – Washing machine and refrigerator to continue growth momentum Midea expects top line to grow in single digit for FY16, which is consistentwith its guidance during the 3Q15 analyst conference call. It believes WM andRF should continue their growth momentum (double-digit growth in 2015),while AC sales are likely to improve gradually, driven by the recovery in theproperty market and the low base due to output constraint in 2H15. We expectAC/RF/WM to grow at 4%/13%/16% yoy in 2016, respectively, and overall GPmargin to remain flattish yoy. We expect 7%/8% yoy growth in grosssales/EBIT to RMB149bn/RMB14bn for 2016, respectively. FY15 NP up 21% yoy to RMB12.7bn, in line with DB and market expectations NP grew by 21% yoy to RMB12.7bn, on a 2% decline in revenue to RMB139bnin 2015. NP and top line were in line with our and market expectations. WMand RF were the bright spots, with 17% and 20% yoy growth in sales,respectively, driven by the product upgrade and new products. For 4Q15, NPincreased by 9% on a 26% decline in EBIT. EBIT was in line with ourexpectation, while NP beat our expectation on a lower-than-expected ETR andhigher-than-expected subsidy income and associates. DPS was RMB1.2(flattish payout ratio at 40%). Target price fine-tuned to RMB33.25 from RMB34.09, on 10x FY17E PE; risks We lower our target price by 2% to reflect the AC output constraint ytd 2016.Our DCF (9.5% COE, 1.0 beta, 2% TGR) yields RMB33.25/share (old:RMB34.09), implying 11x/10x FY16/17E PE. Dividend yield is at 4.5% at currentprice. Key catalyst is the Toshiba M&A. Downside risks: global expansion;slower-than-expected destocking of AC; unfavorable weather; competition.

FY15 NP up 21% yoy, to RMB12.7bn, in line with our and market expectations. Midea reported FY15 results on 25 March, after the market close. NP rose 21%yoy, to RMB12.7bn, on a 2% decline in sales revenue, to RMB139bn. NP andthe top line were in line with our and market expectations. Midea declared adividend of RMB1.2 per share, implying a payout of 40% (unchanged vs. 2014). By segment, washing machines and refrigerators were the bright spots,with 17%/20% yoy sales growth. This was offset by an 11% decline in AC salesdue to the output constraint. The GP margin improved 0.4ppts to 25.9% drivenby the product mix change and a lower raw material price, while the opex ratiorose 0.4ppts mainly due to the 16% yoy increase of R&D expense (3.8% ofrevenue in FY15). The EBIT margin was flat yoy, at 9.3%. 4Q15 EBIT in line with Deutsche Bank estimates. For 4Q15, NP rose 9%, on a 26%/17% decline in EBIT/sales revenue. EBIT wasin line with our expectations, while net profit beat our expectations, on alower-than-expected ETR and higher-than-expected associates. Key tasks in 2016. Midea plans to continue with its upgrade production capability, to streamlinethe supply chain, enforce a logistics platform, speed up its globalisationexpansion and implement a smart home and smart manufacturing strategy. Post-results conference call on 28 March. Midea will hold a conference call at 10-11 am on 28 March. We expect the keyfocus to be 1) the progress of AC de-stocking, 2) the update of the Toshiba(6502.T, NR) M&A, and 3) the outlook for 2016. The dial-in number is +86-25-68673555; meeting room: 9402; pass code: 5013.

Definitive agreement reached with JD According to the 2Q15 results announcement from JD.com (JD.OQ, US$32.81,Hold) on 7 August 2015, Yonghui entered into definitive agreements with JDon the same day. For reference, trading in Yonghui’s stock has beensuspended since 31 July. Yonghui will place c.479m new shares at a price ofRMB9.00/share, or an 11% discount to its 30 July closing price of RMB10.15.The total consideration will be RMB4.31bn. Upon completion, JD will hold a10% stake in Yonghui and have the right to nominate two directors (includingone independent director) to Yonghui's board of directors. Strategic partnership – joint procurement and O2O Yonghui and JD will form a strategic partnership to strengthen supply chainmanagement through joint procurement, and will continue to exploredevelopment opportunities in O2O initiatives and other areas of potentialstrategic cooperation. Deutsche Bank comments After the deal, Dairy Farm’s stake (subscribed in April 2015 at RMB7/share, adiscount of 22% to JD) will be diluted from 19.9% to 17.88% and the majorshareholder’s stake from 31.94% to 28.58%. While we believe this strategicpartnership will help strengthen Yonghui’s online operation and digitalmarketing capability, there is no detail in the announcement. Procurement isone of YH’s key strengths, especially for fresh products, and it also has leadingmarket share in areas like Fujian and Chongqing; we believe these are thereasons why JD is interested in investing in YH. That said, we have not seenany successful O2O business model in the industry so far and both companieswill need to explore its potential and execute correctly. We believe there will bemore updated information with Yonghui’s announcement.

Placement of 15% new shares to JD, DF and Mr. Zhang family; trading toresume on 10 August。 After the announcement earlier on 7 August by JD.com (JD.OQ, US$32.07,Hold) regarding subscribing shares of Yonghui (YH) (please refer to our note“Strategic partnership with JD.com” published on 7 August), YH announced acomplete placement plan later the same day. YH will place 718m new shares,18% of existing or 15% dilution of enlarged issued shares (718/4,785mshares=15%). In addition to JD’s subscription of 479m shares, Mr. Zhangfamily/Dairy Farm (DF) will subscribe 96m/143m shares, with a lock-up periodof three years. After the placement, DF’s stake will remain unchanged at19.99%, while Mr. Zhang family’s stake will fall to 29.15% from 31.94%. Strategic framework agreement with JD。 YH will ally with JD in its online platform, O2O business, warehouse &logistics, and internet finance business. YH plans to build up its O2O businessmodel, integrate its on/offline business and fulfill the last mile delivery service,leveraged by JD’s experience in e-commerce. It plans to introduce traffic fromonline to its offline stores. YH believes the partnership with JD will improvecustomers’ shopping experience and enhance customer loyalty. The jointprocurement is expected to pare down the purchase cost. RMB6.5m proceeds mainly to be used in store network and logistics。 YH will use the total proceeds of RMB6.5bn to strengthen its store network(RMB5.5bn), upgrade its cold chain logistics (RMB500m) and build up a DC inFuzhou (RMB460m). Total investment in these three projects is budgeted atRMB7.8bn. It plans to open 225 new stores in its covered provinces during2015-18 (vs. previous target of 180-200 new stores in three years from 2014 to2016). To recap, it operated 351 stores in 17 provinces as at end-June 2015.