3Q17earnings beat on higher sales growth and lower selling expense    Wuliangye reported 3Q17results with 43% yoy sales growth to RMB6,356m and64% yoy net profit growth to RMB1,993m. Net profit in the first nine months grewby 37%, tracking ahead of the market's full-year growth forecast of 26%.The earning beat is mainly attributable to higher-than-expected sales growthand a lower SG&A expense ratio, which declined 670bps yoy to 19.6% in9M17, helped by lower channel subsidy and operating leverage. To recap, thecompany increased channel subsidy during 2014-16, when channel profit waslow/negative. As the retail price recovered from 2017, the company began toremove the channel subsidies.    Adjusted sales declined 15% on increasing competition and a high base    If adjusted by advances from customers (sales + changes in advance balance), theadjusted sales declined 15% yoy in 3Q17, which could be lower than the marketexpectation. This is partly because of the high base in 3Q16. The company raisedits ex-factory price in September 2016. Distributors increased their procurementvolume before the price hikes, resulting in higher advances and sales in 3Q16. Onthe other side, Wuliangye revised down the supply volume for distributors in 3Q17to streamline the pricing system. We think this is also partly due to increasingsupply from Moutai from Aug 15to Sep 30. We expect the adjusted sales to pickup on recovering retail prices.    Needs more brand investment instead of simply controlling volumes    For the near term, we expect Wuliangye's earnings growth to remain strong,helped by alternative demand from Moutai and new management's increasingefforts in channel building. Furthermore, savings in channel subsidy should alsodrive its margin expansion.    However, we are a bit concerned about management's over-focus on supportingthe retail price. Wuliangye indicated that it is reducing supply volume todistributors by 25% to strengthen the retail price. In such a case, wheneverMoutai increases its sales volume, Wuliangye's volume and price could be underpressure, as we saw in 3Q. For the long term, a sustainable retail price dependsmore on branding than the supply and demand situation.

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