UOB Kay Hian analyst Clement Ho has initiated coverage on specialty chemical producer China Sunsine Chemical Holdings with a “sell” recommendation and a target price of 31 cents.

The recommendation comes as selling prices of rubber accelerators, the main earnings driver for the company, remain low due to depressed prices of raw materials and industrial overcapacity, Ho writes in a report dated September 15.

“Given that the industry consolidation is still on-going and headwinds remain on selling prices of rubber accelerators, we believe valuation for Sunsine would stay depressed,” says Ho.

Ho’s target price is pegged to “1.4x 2021F enterprise value/earnings before interest, taxes, depreciation, and amortization (EV/EBITDA), or -1 standard deviation (SD) of its historical 5-year average”. Currently, Sunsine trades at 2.1x 2021F EV/EBITDA and an implied 10.9x 2021F price-to-earnings ratio (PE).

However, not all is negative on the company. Being the global market leader in rubber chemical production, Ho says China Sunsine has benefited from “customer stickiness” and high barriers to entry. 

While the company’s industry capital expenditure (capex) and compliance expenditure are likely to be lifted due to the raising of the already-high entry barriers to the rubber chemical industry, Ho believes that the industry’s ongoing market consolidation, has led to the closure of smaller factories and the gradual phasing out of uncompetitive suppliers.

Additionally, Sunsine is on track to further increase its output by end-2020, lifting production capacities by 21%, 100% and 67% for rubber accelerators, insoluble sulphur and antioxidants, respectively.

Ho observed that aniline, a major raw material, is a derivative of crude oil, and its prices have been on a downtrend together with crude prices. Furthermore, the industry consolidation has resulted in aggressive pricing competition among larger players for market share, as well as price slashing by smaller players to stay afloat.

As at 12.11pm, shares of China Sunsine traded at 34 cents, with a FY20 price-to-book ratio of 0.7 and a dividend yield of 1.3%