CITIC Construction Investment: Strengthening fiscal policies and taking a comprehensive look at the computer sector

The Zhitong Finance App learned that CITIC Construction Investment released a research report saying that the Ministry of Finance held a press conference, which is expected to promote the development of computer and other technology industries. The highlights include: 1) promising to meet annual budget targets to strongly support economic development; 2) increasing support in key areas to support scientific and technological innovation; 3) supporting local authorities to resolve hidden debts and clear corporate arrears. Currently, revenue in the computer sector is rising steadily, gross margin is under slight pressure, cost control is more effective under fine management, and profit decline is narrowing. It is expected that as the industry continues to reduce costs and increase efficiency, combined with strengthened fiscal policies, sector profits will continue to pick up, and the scissor gap in revenue and profit growth will be released simultaneously. Investment suggestions: 1) valuation repair+pro-cyclical Hakuba targets; 2) mutual fund and brokerage IT; 3) expected reversal of IT companies (government IT, consumer IT, fiscal IT and government procurement IT, cybersecurity, etc.); 4) the direction of localization, acceleration of party, government and industry innovation, and fiscal IT and government procurement IT; 5) related industry chain enterprises catalyzed by recent events in Huawei and Tesla.

CITIC Construction Investment's main views are as follows:

On the morning of October 12, 2024, the Information Office of the State Council held a press conference. Minister of Finance Lan Foan, Vice Ministers Liao Min, Wang Dongwei, and Guo Tingting attended the press conference to introduce developments relating to increasing countercyclical adjustment of fiscal policies and promoting high-quality economic development. The contents of the press conference were sorted out. The key points relating to computer and other technology industries were as follows:

1) Commit to meet annual budget targets and strongly support economic development.

Since this year, the Ministry of Finance has insisted on an active fiscal policy to moderately strengthen and improve quality and efficiency. In 2024, the fiscal deficit was 4.06 trillion yuan, an increase of 180 billion yuan over the budget at the beginning of the previous year, providing strong support for high-quality development. Lan Foan said that although there are some new situations and problems in the current economic operation, and the growth rate of the country's general public budget revenue is expected to fall short of expectations, China's finance is resilient enough. By adopting comprehensive measures, it is possible to achieve balance of income and expenditure and achieve the annual budget target. Implemented in specific measures, the Ministry of Finance has already entered the decision-making process, including: (a) increasing debt levels to support local mitigation of government debt risks; (b) issuing special treasury bonds to support large state-owned commercial banks to supplement core tier 1 capital; (c) supporting the use of special bonds and other tools to stop the decline and stabilize the real estate market; and (d) increasing support and guarantees for key groups. Furthermore, Lan Foan emphasized that the central government still has more room to borrow money and raise the deficit, which can support the introduction of other policy tools to promote economic development.

2) Increase support in key areas to support scientific and technological innovation.

The Ministry of Finance continues to strengthen security in key areas of science and technology. In 2024, central science and technology spending increased by 10%; optimized preferential tax policies; from January to August 2024, the main policies supporting scientific and technological innovation and manufacturing development exceeded 1.8 trillion yuan in tax cuts and tax rebates; used the issuance of ultra-long-term special treasury bonds to support security capacity building in major national strategies and key areas, particularly to support local efforts to make up shortcomings in key areas. From January to September 2024, it issued 3.6 trillion yuan of additional special bonds to support more than 30,000 projects, and used more than 260 billion yuan in project capital. Beginning in early September, various regions introduced specific operational measures one after another to increase support for equipment upgrades in key areas, strongly boosting investment growth and promoting industrial development. In the next step, the Ministry of Finance will continue to reasonably support forward-looking and strategic emerging industry infrastructure to accelerate the development of new quality productivity.

3) Support local authorities to resolve hidden debts and clear corporate arrears.

The Ministry of Finance continues to promote overall mitigation of local debt risks, and has achieved certain results. On the basis of allocating more than 2.2 trillion yuan of local government debt limits in 2023, the central government also allocated 1.2 trillion yuan in 2024 to support localities, especially high-risk regions, in mitigating existing debt risks and clearing up arrears in corporate accounts. Blue Buddha said that in order to ease the pressure on local governments to reduce debt, in addition to continuing to specifically arrange a certain amount of bonds in the new special debt limits every year to support the resolution of existing government investment project debts, it is also proposed to increase large-scale debt limits to replace hidden local government debt stocks at once, and step up efforts to support the local government in mitigating debt risks.

The Ministry of Finance's press conference made key statements on supporting economic development, supporting key industries, and resolving local debt, which can effectively promote the development of the technology industry represented by computers. 1) Supporting economic development: Economic development is the foundation for enterprise growth. The government is expected to actively expand effective domestic demand through budget adjustments to promote continued economic recovery; 2) Supporting key industries: In the context of geopolitical risk fluctuations, key area guarantees have always been an important national strategy. The computer sector, as the core industry of credit innovation, directly benefits from the government's support for forward-looking and strategic emerging industry infrastructure; 3) Resolving local debt: There are many downstream G-end customers for computer companies, and on the one hand, it is beneficial to resolve local debt receivables Cage, on the other hand, can also support the resumption of G-end informatization services.

Revenue in the computer sector has been rising steadily, and the decline in profits has narrowed somewhat.

1Q23-2Q24, revenue in the computer sector continued to grow year on year. Among them, 1Q24 and 2Q24 growth rates were 9.59% and 15.26%, respectively, up from 1Q23 (3.21%) and 2Q23 (4.29%). On the profit side, the overall performance of the computer sector is under pressure. Net profit growth rates for 1Q24 and 2Q24 were -95.10% and -15.59%, respectively. Among them, the rate of decline in 2Q24 narrowed, reflecting a relative improvement in the overall profitability of the computer sector.

Gross margin is under slight pressure, and the share of three fees has narrowed under fine management.

1Q23-2Q24, the overall gross margin of the computer sector was relatively stable. Among them, 1Q24 and 2Q24 were 25.49% and 25.77%, respectively. Compared with 1Q23 (25.16%) and 2Q23 (26.52%), the year-on-year changes were +0.34pp and -0.76pp, respectively, and 2Q24 was slightly pressured by macroeconomics. On the cost side, the computer sector continues to strengthen fine management. The 2Q24 sales/management/R&D expense rates were 7.72%/5.04%/9.01%, respectively, down 0.15/0.21/0.19/0.57pp, respectively, while financial expenses were 0.57%, up 0.57pp year on year, mainly due to a decrease in interest income compounded by exchange losses, and an increase in financial expenses.

Combined with the operating conditions of the computer sector, against the backdrop of a weak macroeconomy, the computer industry generally controlled expenses through overall cost reduction this year. In particular, the rate of decline in Q2 profits narrowed markedly. In addition, the Ministry of Finance strongly supports economic development, increases support in key areas, and supports local resolution of hidden debts. Computer companies, mainly G-end and big-end customers, are expected to achieve continuous improvement in operations through the recovery of information technology services and the return of accounts receivable. It is expected that sector profits will continue to pick up, and the scissor gap in revenue and profit growth will gradually be released.

Summary: The Ministry of Finance held a press conference, which is expected to promote the development of computer and other technology industries. Highlights include: 1) promising to meet annual budget targets and strongly support economic development. In particular, the central treasury also has more room to borrow and raise deficits, which can support the introduction of other policy tools to promote economic development; 2) increase support in key areas, support forward-looking and strategic emerging industry infrastructure, and promote the accelerated development of new quality productivity; 3) Support local authorities to resolve hidden debts and clear up arrears of corporate accounts. It is proposed to increase large-scale debt limits at one time on the basis of new special debt limits. The amount replaces the hidden debt in the local government's stock. Currently, revenue in the computer sector is rising steadily, gross margin is under slight pressure, cost control is more effective under fine management, and profit decline is narrowing. It is expected that as the industry continues to reduce costs and increase efficiency, combined with strengthened fiscal policies, sector profits will continue to pick up, and the scissor gap in revenue and profit growth will be released simultaneously.

Investment advice: Take a comprehensive look at the computer sector.

1) Valuation repair first, with liquidity release and economic policy expectations shifting to favor the return of valuations of high-quality technology companies in Hakuba and Hong Kong stocks. The restoration of the fundamentals of the computer's target often comes from an improvement in economic expectations or policy expectations. The current shift in market expectations and rising wind bias favors the return of the white horse standard valuation of the pro-cyclical computer industry.

2) Increased liquidity in the financial market, increased turnover led to a recovery in demand for consulting, services, etc., compounded by financial credit innovation. It is recommended to focus on mutual funds and brokers' IT direction.

3) Policy incentives are compounded on the upward trend, and the expected reversal changes are large. It is recommended to focus on IT companies that reverse expectations (government IT, consumer IT, fiscal IT, government procurement IT, cybersecurity, etc.)

4) Continue to see that more localization benefits from increased government spending. Recently, frequent orders have appeared.

5) Considering recent events such as the upcoming launch of the Huawei Mate70 and the launch of Tesla Robotaxi, attention to the Huawei industry chain and the direction of intelligent driving is expected to increase.

Risk Alerts

(1) Downstream macroeconomic risk: The downstream of the computer industry involves thousands of industries. Under downward macroeconomic pressure, industry IT expenditure falling short of expectations will directly affect computer industry demand; (2) Bad accounts receivable risk: most computer companies' business is mainly project-based and can receive repayments after approval. Longer downstream customer payment cycles may increase bad accounts receivable and may further lead to asset impairment losses; (3) Increased competition in the computer industry: demand in the computer industry is more determined, but supply-side competition intensifies or causes changes in the industry pattern; (4) International The impact of environmental changes (currently the US continues to raise interest rates, affecting the valuation of the technology industry. At the same time, market expectations for overseas recession are increasing, which may have an impact on companies with a relatively high share of overseas revenue. Furthermore, the US continues to put pressure on Chinese technology).