Dilution vs a potentially good FY17 result?

We see mixed signals from ZTE-A’s proposed RMB13bn private placementwhich was announced post market-close today. On the negative side, theraising is likely to be 3% EPS dilutive and there is no participation from thecontrolling shareholder which typically suggests its lack of confidence and isusually not taken well by A-share investors. On the positive side, this willreduce company’s gearing and with the EGM to approve the raising occurringon 28 March (and hence likely to be post the result announcement), this maysuggest a good FY17 print coming up which would help win support from theinstitutional investors. As such we see risks evenly balanced from thisparticular event and leave our ratings unchanged on ZTE-H and ZTE-A.

We do not expect a cost blowout from the raising

ZTE-A has indicated that RMB9.1bn of the amount raised is earmarked forresearch into 5G (within a total 5G R&D investment budget of RMB42.9bn)while the rest is to be used for working capital purposes. RMB33.8bn of the 5Gspend will be expensed which can be readily accommodated by our R&Dexpense forecasts of RMB44.4bn over the next 3 years. As such we do notbelieve that the equity raising signals a material blowout in R&D spend for thecompany. We think the most likely use for the funds will be to pay down someof the RMB18bn short term debt currently on ZTE’s balance sheet.

Other key aspects of the placement

A total amount of up to RMB13bn or alternatively a maximum of 686.8mshares will be raised from the private placement. The placement price will bebased on the weighted average trading price in the 20 days prior to thedetermination date with a maximum discount of 10%. The shares will beplaced with up to 10 institutional investors and there is no obligation for ZTE tocommit to the placement if the share price sdips too low. The controllingshareholder Zhongxingxin will not participate in the placement and itsshareholding may drop from 30% to 26% as a result.

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