Fufeng Groupan Overweight rating and a Dec-11 PT of HK$9.0. • The key catalyst is the listing of its major competitor. Meihua Group is the second largest maker of MSG in China with

Asia Pacific Equity Research 26 October 2010

Fufeng Group Initiation

Overweight 0546.HK, 546 HK

Initiating with a TP of HK$9.0 - A taste of the good life

Price: HK$6.44

Price Target: HK$9.00

China Food & Food Manufacture

Leon Chik, CFAAC

(852) 2800-8590 [email protected]

Andrew Hsu (852) 2800-8572 [email protected]

J.P. Morgan Securities (Asia Pacific) Limited

2.5

4.5

6.5

HK$

Oct-09 Jan-10 Apr-10 Jul-10 Oct-10

Price Performance

0546.HK share price (HK$HSCEI (rebased)

YTD 1m 3m 12mAbs 0.7% 6.4% 6.2% 61.8%Rel -6.1% -5.3% -10.3% 57.1%

Fufeng Group (Reuters: 0546.HK, Bloomberg: 546 HK) Rmb in , year-end Dec FY08A FY09A FY10E FY11E FY12ERevenue (Rmb mn) 3,585 4,633 6,669 8,038 9,928Net Profit (Rmb mn) 294.7 928.3 1,041.1 1,310.6 1,636.7EPS (Rmb) 0.18 0.56 0.61 0.77 0.96DPS (Rmb) 0.09 0.13 0.14 0.18 0.23Revenue growth (%) 46.6% 29.2% 43.9% 20.5% 23.5%EPS growth (%) 533.9% 214.8% 9.8% 25.9% 24.9%ROCE 16.7% 39.4% 31.4% 29.3% 30.8%ROE 18.5% 44.9% 37.3% 35.5% 34.0%P/E (x) 31.1 9.9 9.0 7.2 5.7P/BV (x) 5.3 3.8 2.9 2.2 1.7EV/EBITDA (x) 16.6 6.9 6.1 4.6 3.3Dividend Yield 1.6% 2.4% 2.6% 3.3% 4.1%

Shares O/S (mn) 1,699Price (HK$) 6.44Market Cap (Rmb mn) 8,340.86Market Cap ($ bn) 1208.82Date Of Price 26 Oct 10Free float (%) 42.6%3-mth trading volume (mn) 73-mth trading value (HK$ mn) 413-mth trading value (US$) ($ mn) 5HSCEI 13,642Exchange Rate 7.76Fiscal Year End Dec

Source: Company data, Bloomberg, J.P. Morgan estimates. See page 19 for analyst certification and important disclosures, including non-US analyst disclosures. J.P. Morgan does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision.

• Demand for better tastes drives MSG demand. Fufeng is the largest producer of MSG in China with a market share of approximately 25%. Demand for the MSG in packaged foods and restaurants are rising with the rising incomes of Chinese consumers. The share price is up 21.1% over the past three months (vs.13.4% of HSI) and Fufeng is trading at 7.2x 11E P/E and a EPS CAGR of 25.4% in FY10-12. We initiate with an Overweight rating and a Dec-11 PT of HK$9.0.

• The key catalyst is the listing of its major competitor. Meihua Group is the second largest maker of MSG in China with approximately 15% - 20% market share. Meihua announced a back door listing in May 2010. The A-share listing should provide a favorable comparison to Fufeng given the relatively high P/E that is prevalent for Chinese food processors.

• Low cost manufacturer moving to consumer packs. Fufeng has been able to achieve low cost production by being a fully integrated large scale producer. Once Fufeng completes its new Northeast China plant, the cost of production of MSG for this plant can be lowered by about Rmb800 per ton (about 14% savings on the current cost of production), lifting overall GPMs in 2011 and 2012. Fufeng plans to broaden its customer base by selling smaller sizes of MSG packs. This can help diversify revenues and enhance sales.

• Fufeng trades at a 7.2x 11E P/E, 57.9% lower than its Food & Food Manufacturing peers 17.1x 11E P/E. Our DCF-based price target (Dec-11) of HK$9.0 implies a CY12E P/E of 10.6x. Risks to our PT are the rise in the price of corn and the pace of implementation of consumer packed products.

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Leon Chik, CFA (852) 2800-8590 [email protected]

Company Description P&L sensitivity metrics (10E) EBIT EPS impact (%) impact (%)

Change in MSG price Impact of 5% increase (w. no change in costs) 16.5% 17.6% Change in corn cost Impact of 5% increase (w. no pass through ) 11.2% 11.9% Change in MSG utilization Impact of 5% points inc 4.6% 4.9% GM Impact of each 100bps increase 5.5% 5.8% Source: J.P. Morgan estimates.

Established in 1999, Fufeng is one of the leading vertically integrated manufacturers of corn-based biochemical products primarily utilizing fermentation technology in China. The Company is the largest suppliers of MSG and Xanthan Gum in the world with 2,600 employees, 25 regional sales centers and 25 logistic centers. The company is leading the market in low cost and environmentally friendly production.

Price target and valuation analysis Revenue mix (2010E)

Our price target is based upon DCF methodology. The nature of the industry leads us to apply a terminal growth of 3% (lower end of the 3 to 6 percent growth rate used for SMID Caps).

DCF assumptions Risk free rate: 4.20% Market risk premium: 6.00% Beta: 1.20 Cost of equity 11.40%

MSG62% Xanthan

gum11%

Fertilisers5%Starch

5%

Glutamic acid5%

Corn refined

products12%

Terminal “g”: 3.00% Source: J.P. Morgan estimates Source: Company EPS: J.P. Morgan vs. consensus J.P. Morgan Consensus FY10E 0.61 0.61 FY11E 0.77 0.76 FY12E 0.96 0.94 Source: Bloomberg and J.P. Morgan estimates.

Our PT (Dec-11, DCF-derived) of HK$9.0 implies a fwd P/BV (FY12E) of 4.3x and implies a fwd P/E of 10.6x (FY12E). The key risks to our PT are the rise in the price of corn and the implementation pace of consumer pack products.

Peer comparison – Food & Food Manufacturing

Companies Ticker Price, LC MCAP

US$MM Vol

US$MM

1W chg 3M

chg 10E

P/E (x) 11E

P/E(x) 10E EV/ EBITDA

10E ROE

(%) P/B (x)

10E Yld (%)

FUFENG (OW)* 546 HK 6.44 (9) 1,116 6.8 11.2 21.1 9.0 7.2 6.6 37.3 2.6 3.4 HENAN LIANHUA-A (NR) 600186 CH 5.96 950 28.4 9.6 19.4 na na na na 4.4 na JIANGSU HENGSH (NR) 600305 CH 16.77 320 3.9 3.5 12.3 40.2 31.8 na na 5.1 na GUANGXI GUIT-A (NR) 000833 CH 14.19 631 56.2 7.9 50.0 40.9 40.0 na 13.4 5.2 na CHINA AGRI-INDUS (NR) 606 HK 11.58 6,028 16.9 4.1 35.0 16.5 13.7 10.6 15.0 2.6 1.5 CHINA CORN OIL (NR) 1006 HK 5.95 404 2.4 6.1 16.9 18.9 13.6 7.9 na 2.5 na POWER NEW (NR) 735 HK 0.79 725 4.1 (3.7) 3.9 20.3 14.6 6.4 5.0 1.1 0.0 CHINA STARCH (NR) 3838 HK 0.71 529 7.4 (4.1) 1.4 16.5 15.6 8.2 23.9 2.6 1.8 GLOBAL BIO-CHEM (NR) 809 HK 1.29 540 2.8 2.4 10.3 9.3 8.5 6.4 4.1 0.4 0.6 XIWANG SUGAR (NR) 2088 HK 2.65 343 3.8 (2.2) 38.0 10.2 8.5 7.5 11.9 1.2 3.1 Average 3.5 20.8 20.2 17.1 7.6 15.8 2.8 1.7 Source: Company data, Bloomberg, J.P. Morgan estimates. (*) Bloomberg estimates for NR companies. Share prices are as of 26 Oct 2010.

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Table of Contents Investment summary................................................................4 Positive share price drivers ..........................................................................................4 Negative share price drivers and risks to our thesis .....................................................5 Valuation and share price analysis.........................................6 DCF valuation at HK$9.0 (Dec-11) .............................................................................6 Company overview...................................................................8 Leader in MSG industry in China ................................................................................8 Largest Xanthan gum producer globally......................................................................9 New production plants in Northeast China ................................................................10 Threonine can be the next catalyst but still small ......................................................10 Comprehensive distribution network .........................................................................11 Shareholding structure ...............................................................................................11 Industry analysis ....................................................................12 Leading positions in MSG and Xanthan gum ............................................................12 Corn prices vary across locations...............................................................................13 Gross margin to be maintained at around 25% ..........................................................13 Financial analysis...................................................................14 Expect EPS CAGR of 17.9% during 2010 and 2011.................................................14

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Investment summary Positive share price drivers Market leader in Monosodium Glutamate. Fufeng is one of the largest producers of monosodium glutamate (MSG) in China and has a fully integrated production model which starts with the production of glutamic acid from corn and then further processing into MSG. Other by-products and related products made from corn include corn oil, animal feed, sweeteners, fertilizers and other food additives. Fufeng currently has the highest market share in MSG in China (~25%). The Company and Meihua (which is the second largest MSG producer) are the two largest low cost integrated producers and thus enjoy significant pricing power. Over the past 3 years, the impact from the global financial crisis together with tougher environmental regulations have resulted in the consolidation of MSG suppliers.

Figure 1: Fufeng - Revenue mix

0%

20%

40%

60%

80%

100%

06 07 08 09E 10E 2011E 2012E

MSG Glutamic acid Corn refined products others

Source: Company data; J.P. Morgan estimates.

Figure 2: Fufeng - Sales growth and gross margins

0%

10%

20%

30%

40%

50%

2006 2007 2008 2009 2010E 2011E 2012E

Gross margin Sales grow th

Source: Company data. J.P. Morgan estimates

Listing of major competitor could lift sentiment. Meihua Holdings Group is a private company based in Langfang, Hebei and is the second largest maker of MSG in China with approximately 15-20% market share. The company has announced the asset sale of its entire MSG businesses into a small listed A-share Wuzhou Minoro (600873 CH) – (i.e.: back door listing). The application was submitted in May 2010 and is pending approval. Once approved, perhaps over the next few months, there would be a suitable comparable company in the A-share market for Fufeng. The current listed A-share MSG maker is Henan Lianhua (600186 CH) with about 5% market share. The current 2009 P/E for Henan Lianhua is 30x and although we do not know what would be the P/E for the larger merged Meihua/Wuzhou Minoro, the listing should provide a favourable comparison to Fufeng given the relatively high P/E that is prevalent for Chinese food processors.

Low-cost manufacturing a key to Fufeng’s success. Fufeng has been able to achieve low cost production by being a fully integrated large scale producer with an advantage over its peers in terms of the corn procurement costs, manufacturing scale and distribution efficiency. Fufeng is now constructing a large scale production facility in the Northeast economic zone of Zhalantun in Inner Mongolia province and near Heilongjiang "the Northeast location" that adds an additional 200,000 tons of MSG production (37% growth over 2010 capacity of 540,000 tons). Once production commences in 2011, the cost of production can be lowered by about Rmb800 per ton (14% lower than current production cost of around Rmb6,000 per ton) which we expect to lift overall GPM in 2011 and 2012.

5



New MSG sales to retail market. Together with an aggressive expansion plan in MSG capacity, Fufeng is accelerating its sales to the small pack market. Currently, over 80% of Fufeng’s sales are to food processing companies and wholesale sales to restaurants. Fufeng intends to grow its sales network of consumer packs to the retailers such as Carrefour, Walmart, etc. While the overall GPM should be higher for retail consumer packs, the operating margin should be similar due to the higher selling costs involved. Nevertheless the addition of the consumer packs diversify Fufeng’s sales and can also help lift sales growth.

Negative share price drivers and risks to our thesis Economic impact of the government’s tightening measures Fufeng derives over 100% of its sales from the sale of MSG and other food additives in China. Demand for MSG and food additives can be impacted by the economy. The government has enacted some economic tightening measures in 2Q10 that were intended to cool the economy. While some of these measures have been softened in recent months, there is always a possibility that inflation-fighting measures could come back. Fufeng has not seen a significant negative impact from the tightening measures but that remains a potential risk for 2011.

Expansion into consumer packs a risk Currently more than 80% of sales relate to bulk MSG and other food additives sold to food processing companies and restaurants. Fufeng plans to broaden its customer base by expanding more into consumer packs of MSG sold to retail customers. This involves an establishment of a sales network and also negotiations with retail vendors, both of them could take longer than the company anticipates and may not result in the margins and returns that it is currently generating from its bulk MSG business...

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Valuation and share price analysis DCF valuation at HK$9.0 (Dec-11) Our Dec-11 price target is based on a DCF valuation that assumes a market risk premium of 6.0% and a risk-free rate of 4.2% (yield on 10-year government notes in China). We assume a beta of 1.2, higher than the Bloomberg beta of 1.05, given that the company has seen significant sales growth as well as a large increase in its share price over the past 12 months and we anticipate it could see more share price volatility going forward. Accordingly, we assume a WACC of 10.8%. We estimate free cash flow until 2015 and assume a terminal growth rate of 3.0%. The terminal growth is based on the annual growth rate expected in 2015 (the final year of the estimate period) subject to a minimum of 1.5% and a maximum of 4.5%, depending on the nature of the industry and the level of maturity in China.

We also analyze the DCF price sensitivity to WACC, and the terminal multiple.

Table 1: Fufeng—Base-case DCF analysis HK$MM 2007 2008 2009 2010E 2011E 2012E 2013E 2014E 2015E Cash flow estimates Sales 2,446 3,585 4,633 6,669 8,038 9,928 11,281 12,706 14,212 EBIT 91 368 1,049 1,223 1,556 1,977 2,070 2,079 1,982 NOPAT 87 365 950 1,110 1,410 1,792 1,814 1,780 1,698 Capex, net (578) (402) (229) (1,200) (500) (618) (702) (790) (884) Depreciation 105 155 193 246 292 312 339 370 405 Change in working capital (181) (32) (600) (271) (306) (127) (27) (78) (97) Free CF (excl. non-core)) (566) 85 315 (115) 896 1,360 1,423 1,281 1,122 DCF Parameters Assumptions Liabilities as a % of EV 0% Terminal growth 3.0% WACC 11.4% Risk-free rate 4.2%

Market risk 6.0% Enterprise NPV (11E-16E) 14,007 Beta 1.2 + Net cash (debt), current (126) Cost of debt 6.8% - Minorities (Market value) 0 +/- Other items 1,050 Implied exit P/E multiple (x) 10.8 = Equity value 14,931 / Number of shares 1,835 = Equity value per share (HK$) 9.0 Source Company data, J.P. Morgan estimates.

Table 2: Fufeng—Sensitivity analysis based on WACC and perpetual terminal growth rate Terminal growth rate

9.4 1.5% 2% 2.5% 3.0% 3.5% 4.0% 4.5% 9.9% 9.8 10.2 10.7 11.3 11.9 12.6 13.5

10.4% 9.3 9.7 10.1 10.5 11.1 11.7 12.4 10.9% 8.8 9.2 9.5 9.9 10.4 10.9 11.5 11.4% 8.4 8.7 9 9.4 9.8 10.2 10.8 11.9% 8.1 8.3 8.6 8.9 9.2 9.6 10.1 12.4% 7.7 7.9 8.2 8.5 8.8 9.1 9.5

WAC

C

12.9% 7.4 7.6 7.8 8.1 8.3 8.6 9 Source: Company data, J.P. Morgan estimates.

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Over the past three years, Fufeng has traded at a forward P/E range of as high as 12.3x to as low as 2.6x. Our price target implies a forward P/E of 10.6x which is 34.2% higher than the average forward P/E of 7.9x.

Figure 3: Fufeng—P/E bands

0.01.02.03.04.05.06.07.0

10/2

2/20

07

2/22

/200

8

6/22

/200

8

10/2

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08

2/22

/200

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/200

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/201

0

6/22

/201

0

10/2

2/20

10

Shar

e pr

ice (H

K$)

Price 1 3 5 7 9

Source: Bloomberg, company data.

Figure 4: Fufeng—P/B vs. ROE

0.0

1.0

2.0

3.0

4.0

10/2

2/07

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/08

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2/10

0%20%40%60%80%100%

P/B (LHS) ROE (RHS)


Figure 5: Fufeng—One-year forward P/E band

-5.00.05.0

10.015.020.0

10/2

2/07

2/22

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PER(x ) -1 std dev Av g +1 std dev


Figure 6: Fufeng—One-year forward P/BV band

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2/07

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PBR(x ) -1 std dev Av g +1 std dev


8



Company overview Established in 1999, Fufeng is one of the leading vertically integrated manufacturers of corn-based biochemical products in China, primarily utilizing fermentation technology. The Company is the largest suppliers of MSG and Xanthan Gum in the world with 2,600 employees, 25 regional sales centers and 25 logistic centers. Leader in MSG industry in China Monosodium glutamate (MSG), also known as sodium glutamate, is used as a food additive and is commonly marketed as a flavour enhancer. MSG appears as a white crystalline powder. Fufeng has a 25% market share (calculated by annual production capacities) in the MSG industry in China. The Company’s current annual production capacity of MSG is 540,000 tons and the utilization rate is close to 100%. Figure 7: Revenue breakdown within MSG segment (1H10A)

MSG67%

Glutamic acid4%

Fertilisers6%

Corn oil1%

Others1%

Starch sw eeteners7%Corn refined

products14%

Source: The Company

New MSG products on board The increase of domestic consumption demand supported the growth of MSG market in China. The ASP of MSG increased from Rmb6,886 per ton in 1H09 to approximately Rmb7,489 per ton in 1H10, representing an increase of 8.8% YOY; the revenue of MSG in 1H10 increased substantially by 94.7% YOY due to the increase in sales volume as the Fufeng’s market share and production capacity increase. The sales volume of MSG was 235,405 tons in 1H10, representing an increase of 79.1% YOY.

Figure 8: Fufeng’s MSG Pack Uo Series

Source: The Company.

Figure 9: Fufeng’s chicken powder

Source: The Company.

http://en.wikipedia.org/wiki/Food_additive

http://en.wikipedia.org/wiki/Food_additive

http://en.wikipedia.org/wiki/Flavour_enhancer

9



In 4Q09, Fufeng has launched Uo series products, a new series under its Uo brand, which consists of two major categories of products including “Uo Fresh MSG” and “Uo Fresh chicken powder”. The Uo series targets to capture the household market which benefits from the improved living standards in China recently. The products have sold in over 2,000 supermarkets in the retail distribution channel in China.

Sales of glutamic acid to diminish further Fufeng intends to move away from glutamic acid (to MSG). The sales volume of glutamic acid dropped from 62,440 tons to 12,309 tons in 2H10. Meanwhile, the ASP of fertilisers has decreased since 3Q08 – decreasing from Rmb862 per ton in 1H09 to Rmb762 per ton in 1H10, down 11.6% YOY. Fufeng has developed two new fertilisers brands, including “Golden Fufeng” and “Ka Fei Dou”. Moreover, the ASP of corn refined products increased in 2H10 due to an increase in corn kernel price. The revenue of corn refined products increased by about 50.8% YOY. Amid the shortage of sugar, the ASP of starch sweeteners increased from approximately Rmb1,830 per ton in 1H09 to approximately Rmb2,763 per ton in 1H10, representing an increase of 51.0%. Fufeng’s products also include corn oil and chicken powder. Corn kernels accounted for 58% of the total cost of MSG business in 1H10 Figure 10: Production cost in MSG segment (1H10A)

Coal 11%

Corn kernels57%

Others13%Staff cost

4%

Depreciation5%

Sulphuric acid1%

Liquid ammonia9%

Source: The Company

Due to the increase in market demand in 1H10, the price of corn kernels has started to rise since 2H09. The average cost of corn kernels in 1H10 was Rmb 1,699 per ton, an increase of 32.3% YOY. Coal accounted for 10.9% (1H 2009: 9.4%) of total production cost in 1H10. The average unit cost of coal in 1H10 was Rmb293 per ton, which represents an increase of 18.6% YOY. Although the average unit cost of coal increased significantly, the percentage of coal cost in total production cost only increased by 1.5%, due to economic of scale from the increased production output in plant in Inner Mongolia. Liquid ammonia accounted for approximately 9.4% (1H 2009: 11.2%) of total production cost in this segment in 1H10. Being affected by the increase of market demand as industrial demand recovery, the average unit cost of liquid ammonia increased to Rmb2,329 per ton in 1H10, representing 5.9% increase YOY. The other costs include sulphuric acid, cost of depreciation and employee benefits.

Largest Xanthan gum producer globally Xanthan gum is used as a food additive. In some circumstances, it can be used as a food thickening agent (e.g. in salad dressings) and a stabilizer (e.g. in cosmetic products). Fufeng has approximately 31% market share in xanthan gum globally as of 2009, according to China Fermentation Industry Association.

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Export sales is significant The revenue generated from xanthan gum was Rmb 381.5mn in 1H10, up 105.2% YOY driven by consumer’s preferences of this environmental friendly product for food processing. In order to gain market share, ASP of xanthan gum decreased to Rmb 19,987 per tons in 1H10 (representing a decrease of 8.5% YOY), while the sale volume increased by 127.5% YOY. During 1H10, overseas sales of xanthan gum contributed 88% (1H 2009: 86%) to the total sales of xanthan gum. Figure 11: Production cost in Xanthan gum segment (1H10A)

Coal 36%

Corn kernels27%

Starch5%

Soy bean6%

Depreciation10%

Staff cost9%

Others7%

Source: The Company

Figure 12: Fufeng’s Xanthan Gum)

Source: The Company

Low coal cost in Inner Mongolia plant During 1H10, coal accounted for 35.0% (1H 2009: 35.5%) of the total production cost of the Xanthan gum segment. The Company took full advantage of the relatively low coal cost in the plant in Inner Mongolia. The average unit cost of coal in 1H10 was Rmb242 per ton, which represents an increase of 9.5% YOY. Corn kernels and starch represented 32.8% (1H 09: 28.8%) of the total cost. The increase in proportion was mainly due to the large percentage increase in the costs of corn kernels and starch. The corn kernels price and starch price increased by 28.5% and 34.1% YOY respectively in 1H10. Soy bean accounted for 6.0% (1H09: 7.1%) of the total cost in the Xanthan Gum segment.

New production plants in Northeast China Construction of a new production plant in the Inner Mongolia Autonomous Region is in progress. Production is expected to commence in 2H11 and new production lines will include MSG (200,000 tons), glutamic acid (160,000 tons), fertilisers (200,000 tons) and synthetic ammonia (100,000 tons). The new plants are set to take advantage of the abundant corn supplies and the rich coal mines surrounding the area.

Threonine can be the next catalyst but still small Threonine is one of the eight essential amino acids for human beings and animals; it helps in maintaining body protein balance. Threonine is mainly used for medicine, food fortifier and food additives. The demand of threonine has significantly grown as feed additives. Since the 1990s, the threonine industry has developed rapidly - global annual production capacity is 400,000 tons in 2010 compared to 4,000 tons in 1993. The annual growth rate of the global demand of threonine maintains at about 25%. The threonine industry in China started to develop at the end of 2004 and CAGR was approximately 30% in the last 10 years.. The domestic production capacity of threonine will reach approximately 150,000 tons by the end of 2010 of which 30,000

11



tons is located in South China, 70,000 tons in Northeast China, 15,000 tons in Northwest China, and 55,000 tons in other regions. Major international Threonine producers include Ajinomoto in Japan, Kyowa Hakko in Japan, Degussa in Germany, C.J. in South Korea and ADM in U.S. Fufeng has an existing annual production capacity of Threonine of 5,000 tons in the plant in Inner Mongolia. The new production line (another 5,000 tons) is expected to commence operation in 1H11. The gross margin of Threonine is approximately 30%.

Comprehensive distribution network Fufeng established a nationwide marketing and distribution network with 25 regional sales centers and 25 logistic centers. Currently, the Company’s brand products have been sold in over 2,000 supermarkets and retail outlets. Major clients include (A) compound condiments companies such as Haitian, Gaga, Laogan Ma, Hao Ji, Cathay Pacific, Golden Palace, Vedan and Wei Chuan; (B) food catering companies such as Little Sheep, Shuanghui and gongs; and (C) overseas clients such as Unilever, Ajinomoto and CJ.

Shareholding structure Fufeng is 47.4% owned by Mr. Li Xue Chun, the Chairman of Fufeng.

Figure 13: Shareholding structure Fufeng (listed in HKSE)

29 management team members PublicLi Xue Chun

(Chairman)

47.4% 21.2% 31.5%

Source: The Company

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Industry analysis Leading positions in MSG and Xanthan gum Fufeng has the highest production capacities in glutamic acid and MSG. The Company’s market share in this segment has increased from approximately 11% in 2006 to 25% as of today; dominance market position results in strong pricing power. Fufeng also takes a leading role in Xanthan gum production, achieving approximately 31% in market share globally as of 2009, followed by Deosen (~29%) and CP Kelco (~10%), according to China Fermentation Industry Association. Table 3: Glutamic acid and MSG production capacities in 2010

Glutamic acid ('000 tons) MSG ('000 tons) Fufeng Group 460 540 Meihua Group (梅花集团) 330 400 Heinan Lianhua (河南莲花) 100 200 Shandong Snowflake Starch (山东雪花) 130 0 Ningxia Eppen Biotech (宁夏伊品) 60 80 Source: China Fermentation Industry Association

The domestic demand in MSG has been growing at a CAGR of approximately 10% which we expect to be sustainable in the next 5 years. MSG is mainly used for food processing and additive (50%) and catering (30%) in China. According to the management of Fufeng, the trend of usage will remain as such.

Figure 14: Usage of MSG (2009)

Food processing50%

Household consumption

20%

Catering30%

Source: China Fermentation Industry Association

Figure 15: MSG domestic demand (MM tons)

1.35 1.5 1.6 1.75 1.95

00.5

11.5

22.5

2006 2007 2008 2009 2010

Source: China Fermentation Industry Association

Meihua’s back-door listing Heibei based Meihua Group, the second largest manufacturer of glutamic acid and MSG in China, is planning for a back-door listing in the A-share market in 4Q10. The shell company is Wuzhou Minovo (600873 CH, NR). This listing, we believe, could serve as a catalyst to the stock price of Fufeng by providing another close peer and additional multiple comparison.

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Corn prices vary across locations Fufeng’s MSG production facilities are mainly located in Shaanxi and Inner Mongolia, where the corn prices are lower than the other provinces like Shandong. A new production plant is scheduled to operate in Inner Mongolia (close to Heilongjiang) in 2011, which will further lower production cost due to lower staff cost in Heilongjiang.

Gross margin to be maintained at around 25% In 1Q10, Fufeng experienced a sharp reduction in gross margin as the Company strategically lowered its MSG selling price to gain market shares. To facilitate industry consolidation, management is intended to maintain its gross margin at around 25%, which is higher than the industry average owing to its lower production cost and strong pricing power. Figure 16: Fufeng’s GP margin

0.00%5.00%

10.00%15.00%20.00%25.00%30.00%35.00%40.00%

1Q072Q07 3Q07 4Q071Q08 2Q083Q08 4Q081Q09 2Q09 3Q094Q09 1Q102Q10010002000300040005000600070008000900010000

MSG selling price (Rmb/ tonnes) Cost of corn kernels (Rmb/ tonnes)GP margin (MSG segment only)

Source: The Company

14



Financial analysis Expect EPS CAGR of 17.9% during 2010 and 2011 Fufeng achieved sales CAGR of 37.6% during 2008 and 2009 due to the rise in capacity in MSG and Glutamic acid as well as the introduction of more new corn based products. We estimate Fufeng should achieve a sales CAGR of 31.7% during 2010 and 2011due to continued expansion of capacity in the new NorthEastern location and the growth of new products such as animal feed (Threonine).

Figure 17: Fufeng—Revenue mix

MSG67%

Glutamic acid4%

Fertilisers6%

Corn oil1%

Others1%

Starch sw eeteners7%Corn refined

products14%

Source: Company data, J.P. Morgan estimates.

Figure 18: Fufeng—Cost breakdown

Corn55%

Coal11%

Depreciation4%

Others 21%

Ammonia9%

Source: Company data.

Fufeng’s gross margin was up to 30.2% in 2009 from 18.0% in 2008, mainly because of the surge in the price of MSG especially in the 3Q and 4Q of 2009 as the economy boomed and demand for MSG outstripped supply. The price has fallen back from a peak of Rmb9,193 per ton in 4Q09 to Rmb7,821 per ton in 2Q10. We are assuming Rmb7,950 per ton for FY10 and a lower GPM of 25.5% in 2010. The start of the new low cost production centre for MSG in Northeast China should help lift GPM in 2011 and 2012 as the cost of production is estimated to be around Rmb800 per ton for MSG than at the company’s other plants. Fufeng has been able to control its SG&A expenses in 2009, cutting SG&A as a percentage of sales to 8.9% from 8.6% a year earlier. We expect a SG&A below 9% for the next few years. Fufeng achieved an EPS growth of over 3 times in 2009 compared to 2008 on the recovery of the MSG market. We estimate that FUFENG’s EPS will increase at a CAGR of 17.9% during 2010 and 2011 Historically, Fufeng’s profitable business generates sufficient cash to fund capital expenditure for 2007 through 2009 but the capital expenditure related to the new production lines in Northeastern China has resulted in additional cash requirements for 2010 which Fufeng funded with a Rmb1.0bn convertible bond . Over the next few years, we expect Fufeng to accumulate more cash which it can use to develop new products.

15



Table 4: Fufeng—Key assumptions

Year-end Dec FY09 FY10E FY11E FY12E FY13E MSG prices (Rmb/ton) 1,413 7,952 8,270 8,312 8,374 Corn prices (Rmb/ton) 1,413 1,837 1,874 1,911 1,968 MSG Capacity (000 tons/yr) 305 540 640 780 880 Glutamic Capacity (000 tons/yr) 350 460 540 660 740 Source: Company data, J.P. Morgan estimates.

Table 5: Fufeng —Revenue mix Rmb MM, year-end December 2009 2010E 2011E 2012E 2013E MSG 2,245 4,039 5,083 6,226 7,077 YoY 123.6% 79.9% 25.9% 22.5% 13.7% % of total 48.5% 60.6% 63.2% 62.7% 62.7% Glutamic acid 721 335 134 178 167 YoY -31.6% -53.5% -60.1% 33.3% -6.5% % of total 15.6% 5.0% 1.7% 1.8% 1.5% Xanthan gum 408 738 816 917 1,023 YoY -9.7% 80.8% 10.5% 12.4% 11.6% % of total 8.8% 11.1% 10.1% 9.2% 9.1% Others 1,259 1,557 2,005 2,607 3,015 YoY 17.0% 23.7% 28.8% 30.0% 15.7% % of total 27.2% 23.3% 24.9% 26.3% 26.7% Total 4,633 6,669 8,038 9,928 11,281 YoY 29.2% 43.9% 20.5% 23.5% 13.6%


16



Table 6: Fufeng —P&L statement Rmb MM, year-end Dec FY08 FY09 FY10E FY11E FY12E FY13E Total Revenues 3,585 4,633 6,669 8,038 9,928 11,281 YoY change (%) 46.6% 29.2% 43.9% 20.5% 23.5% 13.6% Cost of Goods Sold (2,941) (3,233) (4,966) (5,905) (7,237) (8,402) YoY change (%) 33.9% 9.9% 53.6% 18.9% 22.6% 16.1% Gross Profit 644 1,400 1,702 2,133 2,690 2,880 YoY change (%) 158.1% 117.2% 21.6% 25.3% 26.1% 7.0% Gross Margin 18.0% 30.2% 25.5% 26.5% 27.1% 25.5% SGA (308) (411) (571) (688) (850) (966) YoY change (%) 41.5% 33.2% 39.0% 20.5% 23.5% 13.6% Other Income/(Expenses) 32 60 92 111 137 156 Operating profit 368 1,049 1,223 1,556 1,977 2,070

EBITDA 523 1,242 1,470 1,848 2,290 2,408 EBITDA margin 14.6% 26.8% 22.0% 23.0% 23.1% 21.3% Depreciation & Amortization (155) (193) (246) (292) (312) (339) YoY change (%) 46.8% 24.9% 27.4% 18.6% 6.9% 8.4% EBIT 368 1,049 1,223 1,556 1,977 2,070 EBIT margin 10.3% 22.6% 18.3% 19.4% 19.9% 18.3% Net Interest Expense (42) (25) (75) (110) (110) (110) Exceptional item 0 0 0 0 0 0 Associates 1 0 0 0 0 0 Gains/losses (2) 0 0 0 0 0 Net Income Before Taxes 325 1,024 1,149 1,446 1,868 1,960 YoY change (%) 615.4% 214.6% 12.2% 25.9% 29.2% 4.9% Tax (31) (95) (108) (135) (231) (282) Effective Tax rate 9.4% 9.3% 9.4% 9.4% 12.4% 14.4% Minority Interests 0 0 0 0 0 0 Net Income 295 928 1,041 1,311 1,637 1,678 YoY change (%) 553.9% 215.0% 12.2% 25.9% 24.9% 2.5% Net margin 8.2% 20.0% 15.6% 16.3% 16.5% 14.9%


Table 7: Interim estimates Rmb MM, year-end Dec 1H09 2H09 1H10 2H10E 1H11E 2H11E Total Revenues 2,055 2,577 2,988 3,681 3,941 4,097 Gross Profit 577 823 742 960 1,017 1,115 EBIT 401 648 541 682 753 803 Net Income Before Taxes 388 636 513 636 700 746 Net Income 354 574 460 581 634 676 Diluted EPS (HK$) 0.213 0.343 0.271 0.342 0.374 0.398 Ratios Revenue split 44.4% 55.6% 44.8% 55.2% 49.0% 51.0% GPM 28.1% 31.9% 24.8% 26.1% 25.8% 27.2% EBIT margin 19.5% 25.1% 18.1% 18.5% 19.1% 19.6% NPM 17.2% 22.3% 15.4% 15.8% 16.1% 16.5% YoY Revenue 68.1% 9.1% 45.4% 42.8% 31.9% 11.3% GP 425.1% 53.9% 28.6% 16.7% 37.1% 16.2% EBIT 539.4% 112.1% 34.9% 5.4% 39.1% 17.6% NP 604.2% 135.0% 30.0% 1.2% 37.9% 16.4%


17



Table 8: Fufeng —Balance sheet Rmb MM, year-end Dec FY08 FY09 FY10E FY11E FY12E FY13E Cash and Cash Equivalents 225 343 940 1,487 2,437 3,382 Inventories 356 551 793 956 1,181 1,342 Accounts receivable 356 551 990 1,193 1,474 1,675 Other Current Assets 46 26 103 149 126 78 Total Current Assets 1,175 1,608 2,826 3,786 5,218 6,476

Intangible Assets 0 0 0 0 0 0 Property and Equipment, Net 2,087 2,648 3,602 3,810 4,115 4,478 Other Assets 0 5 5 5 5 5 Non-Current assets 2,088 2,653 3,607 3,815 4,120 4,483 Total Assets 3,262 4,261 6,433 7,601 9,338 10,959

Accounts Payable 888 1,140 1,477 1,603 1,980 2,249 Other Accrued Expenses 0 14 25 40 57 79 Taxes Payable 7 0 12 40 136 186 ST and current LT debts 276 418 400 400 400 400 Total Current Liabilities 1,170 1,572 1,915 2,083 2,573 2,915

Long-term Debt 312 180 1,213 1,213 1,213 1,213 Other Noncurrent Liability 50 139 115 115 115 115 Noncurrent liabilities 362 319 1,328 1,328 1,328 1,328

Total Liabilities 1,521 1,867 3,243 3,411 3,901 4,243

Share capital 169 169 169 169 169 169 Reserves and Surplus 1,572 2,225 3,021 4,020 5,268 6,547 Total Shareholders' Equity 1,742 2,394 3,190 4,189 5,437 6,717 Minority Interest 0 0 0 0 0 0 Total Shareholders' Equity 1,742 2,394 3,190 4,189 5,437 6,717 Total Liabilities and Equity 3,262 4,261 6,433 7,601 9,338 10,959


Table 9: Fufeng —Cash flow statement Year to Dec (Rmb MM) FY08 FY09 FY10E FY11E FY12E FY13E EBIT 368 1,049 1,223 1,556 1,977 2,070 Depreciation and Amortization 155 193 246 292 312 339 Working Capital Changes (32) (600) (271) (306) (127) (27) Tax Paid 0 (31) (95) (108) (135) (231) Cash Flow From Operations 491 611 1,104 1,435 2,027 2,040 Capital expenditures (402) (229) (1,200) (500) (618) (702) Investments and others 3 6 0 0 0 0 Net Interest (42) (25) (75) (110) (110) (110) Cash Flow from Investing (441) (248) (1,275) (610) (727) (702) Free Cash Flow 50 363 (171) 825 1,300 1,338 Dividends (14) (293) (232) (278) (350) (394) Common issue 0 0 0 0 0 0 Debt (60) 10 1,001 0 0 0 Other Financing 20 37 0 0 0 0 Cash Flow from financing (54) (245) 769 (278) (350) (394) Change in cash (4) 118 598 547 950 945 Cash beginning 229 225 343 940 1,487 2,437 Foreign exchange changes 0 0 0 0 0 0 Cash at end 225 343 940 1,487 2,437 3,382


18



All Data As Of 18-Oct-10

Quant Return Drivers (a Score >50% indicates company ranks 'above average') J.P. Morgan Composite Q-ScoreScore 0% (worst) to 100% (best) vs Industry Raw ValueValueP/E Vs Market (12mth fwd EPS) 96% 0.5xP/E Vs Sector (12mth fwd EPS) 98% 0.3xEPS Growth (forecast) 17% 11.9%Value Score 96%Price Momentum12 Month Price Momentum 86% 83.2%1 Month Price Reversion 17% 12.4%Momentum Score 81%QualityReturn On Equity (forecast) 98% 37.9%Earnings Risk (Variation in Consensus) 52% 0.12 Quant Return Drivers Summary (vs Country)Quality Score 99%Earnings & SentimentEarnings Momentum 3mth (risk adjusted) 63% 36.81 Mth Change in Avg Recom. 45% 0.00Net Revisions FY2 EPS 27% 0%Earnings & Sentiment Score 52%COMPOSITE Q-SCORE* (0% To 100%) 98%

Targets & Recommendations** EPS Revisions** Historical Total Return (%)

Consensus Growth Outlook (%)

Closest in Country by Size (Consensus. ADV = average daily value traded in US$m over the last 3 mths)Code Industry ADV PE FY1 Q-Score*242-HK 7.20 14.0 3%2880-HK 1.18 13.6 27%285-HK 2.68 9.8 34%1999-HK 1.72 11.8 68%548-HK 1.35 12.9 71%546-HK 4.06 8.3 98%178-HK 2.94 20.9 91%1238-HK 0.60 7.3 47%2380-HK 1.22 15.8 17%3331-HK 6.52 23.6 79%598-HK 0.51 11.4 88%

Source: Factset, Thomson and J.P. Morgan Quantitative Research. For an explanation of the Q-Snapshot, please visit http://jpmorgan.hk.acrobat.com/qsnapshot/Q-Snapshots are a product of J.P. Morgan’s Global Quantitative Analysis team and provide quantitative metrics summarized in an overall company 'Q-Score.'Q-Snapshots are based on consensus data and should not be considered as having a direct relationship with the J.P. Morgan analysts’ recommendation. * The Composite Q-Score is calculated by weighting and combining the 10 Quant return drivers shown. The higher the Q-Score the higher the one month expected return. On a 14 Year back-test the stocks with the highest Q-Scores have been shown (on average) to significantly outperform those stocks with the lowest Q-Scores in this universe. ** The number of up, down and unchanged target prices, recommendations or EPS forecasts that make up consensus.

1,252

1,3021,263

Electric Utilities

Q-Snapshot: Fufeng Group Ltd.

EPS Momentum (%)

I N D U S T R Y

96%

97%50%

1,258

62%

23%

Real Estate DevelopmentOther TransportationElectronic Components

USD MCAP

China Power International Development Ltd.Vinda International Holdings Ltd.

Shun Tak Holdings Ltd.

98%

Fufeng Group Ltd.

Sinotrans Ltd.

1,245

1,230

1,2181,222

1,2081,199

Real Estate DevelopmentSpecialty Stores

1,241

Air Freight/Couriers

53%

Dalian Port (PDA) Co. Ltd.BYD Electronic (International) Co. Ltd.

Sa Sa International Holdings Ltd.Powerlong Real Estate Holdings Ltd.

Man Wah Holdings Limited

Pulp & Paper

vs Country

98%93%

96%

85%34%84%

26%

Home FurnishingsOther TransportationChemicals: Specialty

55%

Name

Shenzhen Expressway Co. Ltd.

12 12 83

770

0

200

400

600

800

1000

1Mth 3Mth 1Yr 3Yr(L

ocal

Curre

ncy

%)

0

12

34

5

Up Dn Unchanged

Cons

ensu

s Cha

nges

(4wk

s) Targets Recoms

0

0.5

1

1.5

2

2.5

Up Dn Unchanged

Cons

ensu

s Cha

nges

(4wk

s)

FY1 FY2

0.0

2.0

4.0

6.0

8.0

10.0

-1 Mth -3 Mth

(%)

FY1 FY2

HIGH/STRONGER

0%

25%

50%

75%

100%

0% 25% 50% 75% 100%LOW/WEAKER

COUNTRY

6.8

17.1 18.914.1

10.0

20.4

0.0

5.0

10.0

15.0

20.0

25.0

EPS Actual To FY1 EPS FY1 To FY2 EPS FY2 To FY3 Cash Flow FY1 To FY2 Dividends FY1 To FY2 Sales FY1ToFY2

0%25%50%75%

100%

VALUE PRICE QUALITY EARNINGS

19



Analyst Certification: The research analyst(s) denoted by an “AC” on the cover of this report certifies (or, where multiple research analysts are primarily responsible for this report, the research analyst denoted by an “AC” on the cover or within the document individually certifies, with respect to each security or issuer that the research analyst covers in this research) that: (1) all of the views expressed in this report accurately reflect his or her personal views about any and all of the subject securities or issuers; and (2) no part of any of the research analyst’s compensation was, is, or will be directly or indirectly related to the specific recommendations or views expressed by the research analyst(s) in this report.

Important Disclosures

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Price(HK$)

Feb07

Nov07

Aug08

May09

Feb10

Fufeng Group (0546.HK) Price Chart

Source: Bloomberg and J.P. Morgan; price data adjusted for stock splits and dividends.This chart shows J.P. Morgan's continuing coverage of this stock; the current analyst may or may not have covered itover the entire period.J.P. Morgan ratings: OW = Overweight, N = Neutral, UW = Underweight.

Explanation of Equity Research Ratings and Analyst(s) Coverage Universe: J.P. Morgan uses the following rating system: Overweight [Over the next six to twelve months, we expect this stock will outperform the average total return of the stocks in the analyst’s (or the analyst’s team’s) coverage universe.] Neutral [Over the next six to twelve months, we expect this stock will perform in line with the average total return of the stocks in the analyst’s (or the analyst’s team’s) coverage universe.] Underweight [Over the next six to twelve months, we expect this stock will underperform the average total return of the stocks in the analyst’s (or the analyst’s team’s) coverage universe.] J.P. Morgan Cazenove’s UK Small/Mid-Cap dedicated research analysts use the same rating categories; however, each stock’s expected total return is compared to the expected total return of the FTSE All Share Index, not to those analysts’ coverage universe. A list of these analysts is available on request. The analyst or analyst’s team’s coverage universe is the sector and/or country shown on the cover of each publication. See below for the specific stocks in the certifying analyst(s) coverage universe.

Coverage Universe: Leon Chik, CFA: China Liansu Group Holdings (2128.HK), China Shineway Pharmaceutical Group Limited (2877.HK), China State Construction (3311.HK), Chu Kong Petroleum and Natural Gas Steel Pipe Holdings (1938.HK), Concord Medical Services Holdings Limited (CCM), Dah Chong Hong (1828.HK), Haitian International Holdings (1882.HK), Kingboard Chemical (0148.HK), Kingboard Laminates (1888.HK), Lee & Man Paper Manufacturing (2314.HK), Lijun International Pharmaceutical Holdings (2005.HK), Mindray Medical (MR), Nine Dragons Paper Holdings Ltd (2689.HK), Shandong Chenming Paper (1812.HK), Shandong Weigao Group Medical Polymer Co. Ltd. (1066.HK), Shougang Concord International (0697.HK), Sino Biopharmaceutical (1177.HK), Sinopharm (1099.HK), Skyworth Digital Holdings (0751.HK), TCL Multimedia (1070.HK), Techtronic Industries (0669.HK), The United Laboratories (3933.HK), VTech Holdings (0303.HK), WSP Holdings (WH), Xinyi Glass (0868.HK)

20



J.P. Morgan Equity Research Ratings Distribution, as of September 30, 2010

Overweight (buy)

Neutral (hold)

Underweight (sell)

J.P. Morgan Global Equity Research Coverage

46% 43% 12%

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“Other Disclosures” last revised September 1, 2010.

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Fufeng Groupan Overweight rating and a Dec-11 PT of HK$9.0. • The key catalyst is the listing of its major competitor. Meihua Group is the second largest maker of MSG in China with