Core earnings break even; challenging market ahead but valuation holding up    We expect a challenging operating environment for QSLI, particularly for itschemical integration project, which overhangs QSLI's performance. The companyshowed signs of improvement in operations QoQ in 2Q17and reached operationalbreakeven; if we strip out one-off items (i.e., asset impairment), QSLI's coreearnings entered positive territory with a profit of RMB23mn in 2Q17vs. a loss ofRMB210mn in 1Q17, thanks to an improved transportation situation with higherpotash sales volume QoQ. 2H17should see an improvement HoH, with highersales volume of potash/lithium, while the potential debt-to-equity swap may bethe next catalyst for the share price; however, shaky market conditions plusdifficult financials with higher DD&A charges could offset the positives. We see abalanced risk-reward profile and keep our Hold rating and TP of RMB11.66/share.    Debt-to-equity swap plan to support share price; 1H17net gearing at 114%    The potential restructuring of debt should support QSLI's valuation, with tworestructurings planned: 1) QSLI has proposed a debt-to-equity swap; and 2) a newbond issuance. EBIT broke even at RMB174mn in 1H17, while operating cash flowwas RMB401mn, down 27% YoY. We see limited balance sheet improvement,with a net gearing of 114% in 1H17(vs. 115% in 1H16/125% in FY16). On the otherhand, QSLI signed a debt-to-equity swap MOU with Qinghai SASAC and CCB,forming a deleveraging fund of RMB20bn to facilitate the debt-to-equity swapprocess. The details of the plan are still under negotiation. As per our analysis,the debt-to-equity swap will likely be accretive for both ROE and EPS; under ourscenario 1, which uses our TP as an exercise price, FY18E ROE is enhanced by+1.9%pts and EPS by +135% (see our analysis table for details).    Recap of 1H17earnings: sluggish on both ends    QSLI posted 1H17results on 30August with a net loss of RMB523mn (EPSof RMB-0.188/share), down 243% YoY and in line with the preliminary resultsannouncement. The sluggish 1H17performance was mainly attributed to 1) assetimpairment of RMB448mn on urea/methanol/inventory; 2) a 25% YoY decline inpotash sales volume; 3) a 19% YoY dip in potash ASP; and 4) higher DD&A onmagnesium integration and Haina PVC projects. Stripping out the one-off items,1H17core net loss would have been RMB142mn vs. 1H16core net profit ofRMB347mn. Looking at the cash earnings, however, the EBITDA to net interestexpenses was 2.0x in 1H17, while net gearing stood at 114%.

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