Luzhou Bio-Chem (S$0.495) - 2QFY07 results ? Weighed down by high corn prices

? Missed expectations by a wide margin. Net profit of Rmb7.0m

(-73.8% yoy) missed our estimate and consensus by a wide margin. 1H07 net profit of

Rmb32.8m makes up 21.6% of our old FY07 estimate and 21.7% of consensus. While

1H07 topline of Rmb924.0m was within our expectations, accounting for 44.6% of our

previous FY07 revenue forecast, gross margins collapsed under the weight of escalating

corn prices.

? Gross margins crumbled. Overall gross margins fell to 11.7% from 18.4% in 2Q06 and

16.0% in 1Q07. Both sweeteners and corn starch products reported significant declines

in gross margins. In particular, sweetener gross margins almost halved to 13.2% from

25.0% in 2Q06, while the margin decline for corn starch was a more manageable 2.7%

pts to 12.6% from 15.3% in 2Q06. With sweeteners accounting for 73.9% of sales in

2Q07, the drastic drop in margins was the main reason behind the 6.7%-pt fall in overall

gross margins. Unrelenting corn-price hikes were the culprit, coupled with the company?s

inability to pass on the cost increases.

? Cutting FY07-09 estimates. Although management is optimistic of the company?s

performance in 2H07 due to expectations of declining corn prices and the longer-term

outlook for the industry, we think the risk of high corn prices remains significant. Hence,

we have cut our FY07-09 earnings estimates by 16-56%.

? Downgrade to Underperform from Neutral; lowered target price to S$0.505 fromDue to the 2Q07 performance, Luzhou?s vulnerability to high raw material prices,

S$0.75.

and its lack of pricing power, we have lowered our target price to S$0.505 from S$0.75,

based on 8x CY08 P/E. We have changed our valuation method to P/E from blended

P/E and DCF in response to the increased volatility of the company?s earnings.

Downgrade to Underperform from Neutral.

Nearing a point of reversal

- Luzhou Bio-Chem Tech has been on a downtrend since Nov 06, but experienced several minor rebounds along the way, and several technical observations indicate Luzhou is nearing a point of reversal.

- Over the last 4 weeks, we observed that the price decline has been accompanied by gradually declining volume. This indicates the downtrend is weakening and could very likely reverse in the days ahead.

- The MACD is currently indicating a positive divergence, while the stochastic indicator is currently in oversold regions.

- Furthermore, Luzhou is trading close to a significant support level at S$0.55, we expect the stock to form a base there before it commences an up move.

- Support at S$0.55, 1st resistance at 0.66 and 2nd resistance at S$0.75.