According to the Securities Times APP, China Galaxy Securities released a research report stating that central state-owned enterprises in the machinery industry are shifting from pursuing scale to focusing on high-quality development. Currently, the proportion of central SOEs in the machinery industry is smaller than private enterprises but holds a larger market cap proportion. ROE and net margins are relatively low; shifting towards high-quality development can effectively improve profitability, stimulate corporate vitality, leverage synergies, and enhance enterprise efficiency. It is recommended to focus on the cyclical upturn of the construction machinery sector in the machinery industry and representative central SOEs, the shipbuilding industry with cyclical upturn and representative central SOEs, and the rail transit equipment sector with low dividend attributes and representative central SOEs.

China Galaxy Securities' main points are as follows:

Characteristics of central state-owned enterprises in the machinery industry include fewer numbers but significant proportions in market cap and revenue, with relatively low ROE and net margins.

The proportion of central SOEs in the machinery industry is smaller than private enterprises but holds a larger market cap proportion. As of November 18, 2024, the proportions of central and local state-owned enterprises are 8% and 9% respectively, but the total market cap proportion reaches 30%, with individual enterprise market cap mainly ranging from 5-30 billion yuan. The central SOEs in the machinery industry are mainly focused on traditional sectors such as rail transit equipment, mining and metallurgical machinery, energy, heavy machinery, construction machinery, and fluid machinery.

In terms of performance, central state-owned enterprises lead in revenue and show relatively stable fluctuations, with their revenue proportion in the industry ranging between 47-49% over the past 3 years. However, from the perspective of ROE and net margins, the profitability of central state-owned enterprises is relatively weak. The median net margin for central SOEs and private enterprises is 1.5-3% and 4.7% respectively, while the median ROE is 4.5-6% and 6.8%.

Overview of central state-owned enterprise reform: shifting from pursuing scale to pursuing high-quality development.

In June 2020, the "State-owned Enterprise Reform Three-Year Action Plan (2020-2022)" was implemented. In 2022, at the end of the three-year action, the reform entered a deep water area. Since 2023, state-owned enterprise reform has paid more attention to high quality. In June 2023, the General Office of the CPC Central Committee and the General Office of the State Council jointly issued the "Action Plan for Deepening and Enhancing the Reform of State-owned Enterprises (2023-2025)", elaborating on the basic principles and core requirements of deepening and enhancing the reform of state-owned enterprises. The Third Plenary Session of the 20th CPC Central Committee held in July this year further proposed to promote the strengthening, optimization, and expansion of state-owned capital and state-owned enterprises.

The mechanical industry's state-owned enterprise reform mainly includes mixed ownership reform, stock-based incentives, and mergers and acquisitions (asset injection) models. By introducing strategic investors, incentivizing core management and technical personnel, integrating related assets in the industry chain, strategically developing emerging industries, and other methods, it can effectively stimulate corporate vitality, leverage synergies, improve corporate efficiency, and promote high-quality development of enterprises.

The core focus is on improving ROE, with potential sectors coming from construction machinery, ships, and rail transit equipment.

The bank divides state-owned enterprises in the machinery sector according to the comparison of PE, PB, and ROE (compared with the industry and private enterprise averages):

1) A high PB and low PE, with a high ROE, indicates that it may be at the top of the cycle.

2) A low PB, low PE, high ROE, and high dividend payout ratio may indicate undervaluation, low ROE, with expectations of improvement if the industry is expected to move upward. Companies in the machinery sector mainly include rail transit, ships, construction machinery, and some similar companies.

3) A high PB, high PE may indicate expectations of asset injection or expanding new business. Rail transit equipment, energy, and heavy equipment sectors, state-owned enterprises have a financial advantage, which are currently mainly state-owned enterprises. Whereas in general automation, other general/special equipment, the leading role is played by private enterprises.

4) A low PB, high PE, and low ROE may indicate being at the bottom of the cycle, with expectations of a turnaround from the predicament. Big market cap companies mainly focus on ships, energy, and heavy equipment fields, which are also the competitive areas of state-owned enterprises.

Further considering market cap size, roe and valuation improvement expectations, and excluding some companies whose PE or PB values are abnormal due to recently turning losses into profits, screening out the three major sectors of the machinery industry where state-owned enterprise reform potential is concentrated: 1) construction machinery: upward cycle, cost reduction and efficiency improvement, with performance improvement expectations; 2) ships: upward cycle, with performance improvement and restructuring expectations; 3) rail transit equipment: underestimated dividends, expanding new businesses.

Investment advice:

It is recommended to focus on the construction machinery sector in the machinery industry with an upward cycle, represented by state-owned enterprises XCMG Construction Machinery (000425.SZ), Guangxi Liugong Machinery (000528.SZ), Shantui Construction Machinery (000680.SZ) (new business expansion + injection of high-quality assets), the shipbuilding industry with an upward cycle and represented by state-owned enterprise China Shipbuilding Industry (601989.SH) (undervalued + cost reduction and efficiency improvement + restructuring), the rail transit equipment sector with undervalued dividends and represented by state-owned enterprises CRRC Corporation (601766.SH), Times Electric (688187.SH), China Railway Signal & Communication Corporation (688009.SH) (stable rail transit business + expanding new businesses).

Risk warning: Risks of domestic macroeconomic performance falling short of expectations, risks of policy implementation falling short of expectations, risks of rising raw material prices, risks of export trade disputes.