Poor potash volume drags down QSLI’s 1Q17 numbers.
   
Potash losing market share; volume QSLI recorded a net loss of RMB265mn in 1Q17, compared with net profit of RMB81mn in 4Q16 and RMB144mn in 1Q16. The loss was driven by: 1) sluggish potash sales (volume fell by 270kton YoY), leading to lower market share due to a transportation cost hike, 2) a higher DD&A charge on the magnesium integration and Haina PVC projects due to construction-in-progress transferred to fixed assets; and 3) lack of a one-off gain - stripping out the one-off gain from the Shanghai Fuyou Property disposal, 1Q16 would have seen a net loss of RMB127mn. We expect QSLI to achieve economies of scale after its potash capacity ramp-up; hence, we maintain our Hold rating.
   
Potash losing market share; volume falls by 270kt in 1Q17.
   
QSLI recorded a potash sales volume drop in 1Q17 despite expanding capacity in 2H16 to 5mntpa, indicating a market share loss after the transportation law passed in 3Q16 led to higher transportation costs. QSLI’s potash sales volume dropped by 29% (270kton) to 670kton, from c.940kton in 1Q16. On the other hand, Chinese potash consumption increased by 5.5% YoY in 1Q17.
   
Improved chemical segment performance.
   
QSLI continued to reduce the cost of the chemicals segment. During the quarter: 1) chemical integration project phases one and two reported in-line additional cost-cutting of RMB1.11bn, -28% YoY compared with RMB1.54bn in 1Q16, 2) profitability improved for lithium carbonate due to an enhanced production capacity, and 3) the PVC project suffered a heavy loss due to the construction transfer to fixed assets, which could offset the gains.
   
Earnings, valuation and risks; maintaining Hold.
   
We cut our FY17E/18E EPS to RMB0.24/0.46 by 46%/34% after lowering the utilization rate for potash production in FY17E/18E to 75%/80%; however, we maintain our Hold rating with a DCF-based target price of RMB17.5 (assuming 7.2% WACC and 2% terminal growth), which implies 1.19/1.16 FY17E/18E P/B. We believe most of the negative effects have been factored in, and the potash utilization should start to improve as demand picks up. Key downside risks: 1) sluggish chemical prices and soft demand could lead to lower product sales; and 2) unfavorable government policy. Key upside risks: 1) better-than-expected potash prices; and 2) faster-than-expected demand growth.