12FYP

Strategy | C H I N A
NOMURA INTERNATIONAL (HK) LIMITED
Henry Wu, CFA
+852 2252 2122
henry.wu@nomura.com
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A N C H O R
R E P O R T
Twelfth Five Year Plan a healthy push

We believe the upcoming 12th Five Year Plan (2011-15, to be rolled out in March 2011) will have significant implications for investment strategy in China over the next few years. We have looked in detail at past plans and discovered that strong companies in industries that were the focus of previous plans saw significant outperformance over the plan periods. We expect a similar effect this time, and have tried to identify potential winners. Given the direction of government policies and announcements in recent months, we think the push continues for a healthier, more balanced development profile for the economy, as China transitions from an investment-driven to a consumption-driven growth model. In our view, this drives four key themes: consumption, industry consolidation/upgrades, development of western and central China, and increasing energy efficiency. We identify 19 long-term stories exposed to these themes and highlight 10 top investable ideas: Agricultural Bank of China (central and western China development), Angang Steel (industry consolidation), BYD (energy saving), China Everbright International (environmental protection), China Yurun (consumption), Dongfeng Motors (consumption), Gome (consumption), Jiangsu Expressway (central and western China development), O-Net (industry upgrade), and Zhuzhou CSR Times Electric (industry upgrade).
Stocks for action

Stock (HK$) Agricultural Bank of China (1288 HK) Angang Steel (347 HK) BYD (1211 HK) China Everbright Intl (257 HK) China Yurun (1068 HK) Dongfeng Motor (489 HK) Gome (493 HK) Jiangsu Expressway (177 HK) O-Net (877 HK) Zhuzhou CSR Times Electric (3898 HK) Price Rating Price target BUY BUY BUY BUY BUY BUY BUY BUY BUY* BUY 3.8 12.6 56.2 3.6 29.1 2.4 5.2 21.6 4.3 16.0 62.0 5.5 34.0 4.1 7.5 25.4
14.4 17.0 8.0 11.95
* Initiating coverage; Price target up

Closing price as of 21 Sept 2010
Analyst
Henry Wu, CFA +852 2252 2122 henry.wu@nomura.com
Economists
Chi Sun +852 2252 7705 chi.sun@nomura.com Tomo Kinoshita +852 2252 2162 kinoshita.tomo@nomura.com And the China Equity Research Team
Consumption a new growth driver Industry consolidation/upgrades/central and western China

development to improve returns
Energy saving for long-term sustainable growth 10 stocks most geared to the 12th FYP
Nomura Anchor Reports examine the key themes and value drivers that underpin our sector views and stock recommendations for the next 6 to 12 months.
Any authors named on this report are research analysts unless otherwise indicated. See the important disclosures and analyst certifications on pages 225 to 228.
Nomura 29 September 2010
Strategy | C H I N A
Henry Wu, CFA
+852 2252 2122
henry.wu@nomura.com
TOP DOWN
Action
We believe the upcoming 12 Five Year Plan (2011-15, to be rolled out in March 2011) will give a strong push to Chinas transition from an investment-driven economy to a consumption-driven one, with the key focuses being consumption, industry consolidation and upgrades, development of western and central China, and greater energy efficiency. Strong companies in industries targeted in previous plans have historically seen significant outperformance. We expect a similar effect this time and identify some potential winners. Anchor themes We are positive on Chinas long-term consumption outlook. Chinas GDP per capita (about US$3,700 in 2009) is close to seeing consumption pick up, based on the experience of developed markets (GDP per capita of US$3,300-3,800). We think support for emerging industries considered to have strategic importance under the 12th FYP will offer investment opportunities in the next few years.
th
Stocks for action

We recommend 10 stocks that have exposure to consumption growth, industry consolidation/upgrade, western/central China development and improving energy-saving efforts.
Stock (HK$) Agricultural Bank of China (1288 HK) Angang Steel (347 HK) BYD (1211 HK) China Everbright Intl (257 HK) China Yurun (1068 HK) Dongfeng Motor (489 HK) Gome (493 HK) Jiangsu Expressway (177 HK) O-Net (877 HK) Zhuzhou CSR Times Electric (3898 HK) * Initiating coverage; Price target up; Closing price as of 21 Sept 2010 Price Rating Price target BUY BUY BUY BUY BUY BUY BUY BUY BUY* BUY 3.8 4.3 12.6 16.0 56.2 62.0 3.6 5.5 29.1 34.0 14.4 17.0 2.4 4.1 8.0 11.95 5.2 7.5 21.6 25.4
Twelfth Five Year Plan a healthy push

Consumption a new growth driver
By boosting consumption, we think China could: 1) achieve more sustainable longterm economic growth; 2) reduce oversupply, improve industry profits and returns, and encourage further investment; and 3) narrow the wealth gap between western China and central China, thereby supporting social stability.
Analysts
Henry Wu, CFA +852 2252 2122 henry.wu@nomura.com Yang Luo +852 2252 2141 yang.luo@nomura.com Michael Shen +852 2252 2140 michael.shen@nomura.com
Industry consolidation/upgrade/central and western China

development to improve returns
We believe the 12th FYP will refocus on industry consolidation, particularly of fragmented sectors, thereby improving investment returns. We also expect the seven emerging industries of strategic importance 1) energy efficiency and environmental protection, 2) next generation IT, 3) bio-technology, 4) high-end manufacturing, 5) new energy, 6) new material, and 7) clean-energy vehicles to receive support in the goal of achieving overall industry upgrade.
Economists
Chi Sun +852 2252 7705 chi.sun@nomura.com Tomo Kinoshita +852 2252 2162 kinoshita.tomo@nomura.com And the China Equity Research Team
Energy saving for long-term sustainable growth

Chinas efforts to conserve energy are apparent: energy consumption per unit of GDP declined 22% in 1991-95, 65% in 1996-2000, 9% in 2001-05 and 15% in 2006-09. We believe the continued focus on reducing energy consumption per unit of GDP will offer opportunities for companies involved in pollution and waste treatment, clean-energy cars and alternative energy.
10 stocks most geared to the 12th FYP

The 10 stocks we think will benefit most are Agricultural Bank of China (central and western China development), Angang Steel (industry consolidation), BYD (energy saving), China Everbright International (environmental protection), China Yurun (consumption), Dongfeng Motor (consumption), Gome (consumption), Jiangsu Expressway (central and western China development), O-Net (industry upgrade), and Zhuzhou CSR Times Electric (industry upgrade).
Nomura
29 September 2010
Strategy | China
Henry Wu, CFA
Contents
Executive summary 12th Five-Year Plan preview sustained GDP growth a positive for equities
Our key conclusions
5
6
Sustainable growth the key objective Consumption, consumption, consumption

Transforming growth pattern favours consumption Income distribution reform to boost consumption Consumption at tipping point towards higher growth
11 13
13 14 18
Industry consolidation and upgrade to sustain long-term investment growth 21

Industry upgrade by supporting emerging industries of strategic importance M&A and operation inland relocation 21 24
Central and western China: still plenty of opportunities

Rapid growth in secondary industry
28
31
Energy consumption cuts Appendix: development of FYPs

How FYP has worked in the past
33 37
37
Five-Year Plans: development maps

Timetable of 12th FYP 12th FYP: historical perspective
42
42 43
Boosting household consumption

Background aiming to change the pattern of growth Various polices expected in the 12th FYP Other factors to support consumption growth
44
44 45 46
Promoting regional development

17 Regional plans already under way Strong focus on developing Central and Western China (CWC)
51
51 51
Improving energy efficiency and protecting the environment

Background growth sustainability is at risk Decisive policy actions are expected
56
56 57
Nomura
29 September 2010
Strategy | China
Henry Wu, CFA
China sector views

Alternative energy Auto Bank Battery Cement F&B Fertiliser Healthcare Industrial Internet Macau gaming Oil & Gas Real Estate Retail Steel Telecom Equipment and IT Software Telecoms Transportation Utilities 66 71 76 79 82 86 91 94 99 104 118 110 114 117 121 123 125 127 130
China stock picks

Agricultural Bank of China Angang Steel Anhui Conch Cement BYD China Blue Chemical China Everbright International China High Speed Transmission China Resources Gas China Yurun Food Ctrip.com International Dongfeng Motor Gome Electrical Jiangsu Expressway O-Net Communications Group PetroChina SJM Tencent Holdings Zhuzhou CSR Times 142 146 150 154 158 163 167 170 174 178 181 187 190 198 201 206 210 216
Also see our Anchor Report: China Telecom Equipment - Rising with convergence (29 September, 2010)
Nomura
29 September 2010
Strategy | China
Henry Wu, CFA
Executive summary
Henry Wu, CFA / Yang Luo / Michael Shen
Executive summary
The key focus of Chinas 12th Five-Year Plan (FYP) (2011-15), to be officially released in March 2011, will be to transform its economic growth model to achieve sustainable medium-term economic growth, in our view. We believe the 12th FYP will have significant implications for Chinas economic growth, industry returns and profitability, and equity market performance in the next five years. Declining capital returns, slowing demand growth and overcapacity will remain the major issues in the secondary industry, in our opinion. As such, we believe investmentled economic development will become increasingly unsustainable and hard to maintain. The transformation of Chinas economic growth pattern appears to be under way with consumption to become increasingly important. Adjusting the income distribution system and further accelerating the development in western China and central China will be key to boost consumption, in our view. While several measures implemented in the past to promote consumption, such as vehicles for the countryside, home appliances for the countryside and the old for new programme are more short-term measures, in our view, rising individual income and narrowing the income gap are drivers that should boost domestic demand in a more sustainable manner and have a more significant positive effect on the countrys overall economic development. Meanwhile, based on developed countries experience, we believe China is approaching a watershed point (GDP per capita of US$3,300-3,800) for consumption to gain momentum. Chinas GDP per capital reached US$3,687 in 2009, according to the World Bank. Ongoing industry consolidation and upgrades will serve to improve investment returns in the long term, in our view; the government is continuing to introduce measures to support M&A, the relocation of plants from coastal areas to inland areas, and developing key emerging industries of strategic importance energy efficiency and environmental protection, next generation information technology, bio-technology, high-end manufacturing, new energy, new material and clean-energy vehicles. Aggressive targets to reduce energy consumption per unit of GDP should help to phase out low energy-efficiency enterprises and improve industry returns, and in turn support sustainable long-term economic growth. In past Five-Year Plans, energy consumption per unit of GDP declined 22% in 1991-95, 65% in 1996-2000, 9% in 2001-05 and 15% in 2006-09. The importance of western/central China development has several implications. First, it helps urbanisation growth, boosts personal income levels and narrows the income gap in these regions vs Chinas coastal regions. Second, it helps these regions to leverage their rich natural resources to develop industries such as agriculture and food processing. Third, by relocating plants to these regions from coastal areas, sectors such as textile, toys, electrical appliance, etc are able to leverage inexpensive inputs (labour and land) and achieve better export competitiveness. We highlight stocks from each of these sectors that we believe will benefit the most from the forthcoming 12th FYP: Agricultural Bank of China (central and western China development), Angang Steel (industry consolidation), BYD (energy saving), China Everbright International (environmental protection), China Yurun (consumption), Dongfeng Motors (consumption), Gome (consumption), Jiangsu Expressway (central and western China development), O-Net (industry upgrade), and Zhuzhou CSR Times Electric (industry upgrade).
Income distribution, consumption, industry consolidation, support to emerging industries of strategic importance, and energy savings will likely be focuses under the 12th FYP To transform the countrys economic growth model
Nomura
29 September 2010
Strategy | China
Henry Wu, CFA
Key conclusions
12th Five-Year Plan preview sustained GDP growth a positive for equities
In our opinion, the key objective for Chinas 12th FYP (2011-15) is to achieve balanced and sustainable medium-term growth mainly through transforming its economic model and adjusting the income distribution system. As the most essential and instructive measure to depict Chinas development blueprint, we believe the 12th FYP will have significant implications for Chinas economic growth, industry efficiency and profitability, as well as equity market performance in the next five years.
We believe the 12th FYP will have significant implications for Chinas economic growth, industry efficiency and profitability, as well as equity market performance
Exhibit 1. Historical FYPs and 12th FYP outlook

8th FYP Indicators GDP Nominal GDP (%) Real GDP (%) Real GDP per capita (%) GDP Component Consumption % of GDP (%) Capital Formation % of GDP (%) Export % of GDP (%) Structure (Primary:Secondary:Tertiary) Primary--Agriculture ROE (%) Secondary--Steel ROE (%) Equity Market A Share Return (%) H Share Return (%) SHCOMP 5y change HSCEI 5y change 90 (61) 273 (51) (44) 228 182 140 at FYP period end at FYP period end at FYP period end at FYP period end Five-year average Five-year average 58 40 2 20:47:33 27 9 21 62 35 2 15:46:39 15 12 9 53 42 5 12:47:41 3 15 5 49 to increase compared with the 11th FYP 48 stabilize compared with the 11th FYP 4 to decrease compared with the 11th FYP 10:46:43 Tertiary to account for higher proportion 6 to increase compared with the 11th FYP 10 to increase compared with the 11th FYP 12 to increase compared with the 11th FYP Five-year CAGR Five-year CAGR Five-year CAGR 27 12 11 10 9 8 13 10 9 16 11 targeting 7-7.5% lower than 11th FYP of 7.5% 11 Description 9th FYP 10th FYP 11th FYP* 12th FYP outlook (1991-1995) (1996-2000) (2001-2005) (2006-2010) (2011-2015)
Industry Return - A share listed companies
Tertiary--Whole & retail trading ROE (%) Five-year average
Note: H share return starts 1993; * refer to 2006 to 2009 Source: CEIC, WIND, Nomura research
In our view, the upcoming 12th FYP is likely to focus more on the quality of GDP growth than on growth rates, which means a likely lower GDP target (7-7.5%) for the next five years vs the 7.5% target seen under the 11th FYP. This may disappoint the market initially, but we believe the market will eventually appreciate the higher quality and more sustainable GDP growth. A quality-oriented GDP growth rate could shed new light on equity market hot spots, resulting in significant potential investment opportunities.
A quality-oriented GDP growth rate could shed light on equity market hot spots, resulting in significant potential investment opportunities
Exhibit 2. Quarterly GDP growth vs H share EPS growth (4Q95-2Q10)

150 HSCEI index earnings growth (%) y = 5.9314x - 0.4823
Exhibit 3. Quarterly GDP growth vs A share EPS growth (1Q04-2Q10)

CSI300 index earnings growth (%) 120 y = 11.599x - 1.0424 80
100
50
40 ` 0
(50) 4 8 12 GDP growth (%) 16
(40) 4 8 12 GDP growth (%) 16
Source: Bloomberg, WIND, CEIC, Nomura research
Source: Bloomberg, WIND, CEIC, Nomura research
Nomura
29 September 2010
Strategy | China
Henry Wu, CFA
Our key conclusions

We favour consumption stocks, as we believe the 12th FYP will continue to focus on boosting consumption. We expect: 1) consumption in China to experience robust growth as the economic growth model transforms to consumption-driven from investment-driven; 2) China adjusts the income distribution system to stimulate consumption; and 3) the per capita income threshold as has been the experience in developed economies including the US, Japan and Korea suggests that China is close to seeing a pick-up in consumption. We believe industry consolidation will continue to favour leaders that operate in fragmented industries, as they will likely see greater market share consolidation. We also like stocks with exposure to emerging industries of strategic importance, such as the new energy, new material and clean-energy vehicle sectors. For companies with large exposure to central and western China, especially those involved in secondary industries, we believe they are likely to enjoy strong growth. With the government focusing on developing central and western China, the secondary industries in these regions are likely to record rapid growth, underpinned by the ongoing industry relocation trend. In addition, living standards in China and western China are likely to improve, which in turn should benefit consumption. In our opinion, companies that have exposure to alternative energy resources such as nuclear, wind, solar and hydro-power with advanced technology are likely to enter a golden age of development in the medium term. To reduce energy consumption further, we believe the Chinese government is likely to: 1) enhance efficiency of high energyconsuming and high-pollution sectors and to phase out outdated capacity; and 2) actively promote the development of alternative energy resources such as nuclear, wind, solar and hydro-power.
Companies with exposure to alternative energy resources are likely to enter a golden age of development in the medium term, in our view We favour consumption stocks, as we believe the 12th FYP will continue to focus on boosting consumption
Exhibit 4. Stock valuation

EPS Company Agricultural Bank of China Angang Anhui Conch BYD China Blue China Everbright Intl China High Speed China Yurun Food CR Gas Ctrip.com International Dongfeng Gome Electrical Jiangsu Expressway O-net PetroChina SJM Tencent Holdings Zhuzhou CSR Times 1288 HK 347 HK 914 HK 1211 HK 3983 HK 257 HK 658 HK 1068 HK 1193 HK CTRP US 489 HK 493 HK 177 HK 877 HK 857 HK 880 HK 700 HK 3898 HK 0.25 0.10 1.98 1.77 0.21 0.11 0.78 1.00 0.31 4.67 0.73 0.09 0.41 0.14 0.56 0.22 2.97 0.49 0.31 0.65 1.28 1.83 0.29 0.16 1.02 1.29 0.47 6.61 1.35 0.12 0.51 0.26 0.77 0.55 4.80 0.81 0.36 1.57 2.12 0.36 0.20 1.33 1.71 0.60 8.78 1.45 0.14 0.57 0.35 0.95 0.70 6.75 1.06 13.5 14.0 27.7 23.6 34.0 19.6 29.0 34.6 62.8 17.2 22.6 17.3 37.9 13.8 37.7 47.1 36.8 P/E (x) 10.7 16.1 21.7 26.7 17.6 22.4 15.3 22.4 23.3 42.6 8.9 16.3 13.7 20.1 9.9 15.1 29.0 22.2 8.6 11.9 17.7 23.1 14.0 18.0 11.4 17.0 18.2 31.3 8.2 13.8 11.7 15.0 8.0 12.0 20.6 17.0 2.6 1.4 1.7 6.3 2.4 2.9 4.2 5.8 14.9 13.9 3.9 2.5 2.3 15.9 1.7 4.9 20.5 5.2 PB (x) 1.9 1.4 3.1 5.7 2.1 2.6 2.6 4.2 9.9 10.5 2.7 2.2 2.1 4.5 1.5 3.6 12.3 4.4 1.6 1.3 2.7 4.6 1.9 2.3 2.2 3.5 6.9 8.1 2.1 1.8 1.7 3.4 1.4 3.0 7.9 3.8 ROE (%) 20.5 1.4 13.3 27.1 9.9 10.1 23.7 25.7 27.2 26.7 25.7 13.8 13.6 53.7 12.6 11.5 59.7 14.8 20.5 8.7 15.0 23.1 12.8 12.3 23.5 22.7 50.9 28.6 35.6 15.8 16.0 34.5 15.9 27.4 57.0 21.5 20.1 11.1 16.1 22.1 13.7 22.3 23.3 44.6 Net debt/equity (%) 2009 n.a. 58.6 21.0 8.0 23.6 78.4 218.8 2010F n.a. 32.2 34.8 38.1 41.0 0.8 126.3 2011F n.a. 31.0 27.1 38.0 57.0 16.8 81.2 Ticker 2009 2010F 2011F 2009 2010F 2011F 2009 2010F 2011F 2009 2010F 2011F 0.88 100.3
14.3 netcash netcash netcash
0.9 netcash netcash
29.4 netcash netcash netcash 28.7 netcash netcash netcash 16.2 netcash netcash netcash 16.9 17.7 47.0 17.4 28.3 21.2 16.6 27.2 26.0 netcash netcash netcash 27.4 net cash net cash net cash 49.5 net cash net cash net cash 24.0 net cash net cash net cash
Note: Prices as of 21 September, 2010; numbers rounded up Source: Bloomberg, Company data, Nomura estimates
Nomura
29 September 2010
Strategy | China
Henry Wu, CFA
Exhibit 5. Stock performance

Mkt cap Company Agricultural Bank of China Angang Anhui Conch BYD China Blue China Everbright Intl China High Speed China Yurun Food CR Gas Ctrip.com International Dongfeng Gome Electrical Jiangsu Expressway O-net PetroChina SJM Tencent Holdings Zhuzhou CSR Times Ticker Price (US$bn) Rating 1288 HK 347 HK 914 HK 1211 HK 3983 HK 257 HK 658 HK 1068 HK 1193 HK CTRP US 489 HK 493 HK 177 HK 877 HK 857 HK 880 HK 3898 HK 3.8 12.6 33.6 56.2 5.7 3.6 17.4 29.1 10.9 44.0 14.4 2.4 8.0 5.2 8.7 8.4 21.6 160.7 11.8 7.6 16.5 3.4 1.7 3.1 6.3 2.0 6.5 16.0 4.6 5.2 0.5 204.4 5.6 38.3 3.0 BUY BUY BUY BUY BUY BUY BUY BUY BUY BUY BUY BUY BUY BUY BUY BUY BUY TP 4.3 16.0 36.3 62.0 6.0 5.5 22.0 34.0 14.4 48.0 17.0 4.1 12.0 7.5 13.7 9.0 25.4 Upside to TP (%) 12.0 26.8 8.0 10.3 4.9 51.9 26.4 17.0 32.6 9.1 17.7 73.7 48.6 44.8 58.0 7.8 25.2 17.6 Share performance (%) 1mth 10.7 8.8 24.4 21.1 11.9 2.0 3.0 10.5 (5.6) 6.9 28.5 0.0 6.1 10.2 0.0 13.1 7.5 0.9 3mth n.a. 17.1 27.0 (11.1) 17.7 2.6 (5.3) 16.0 0.7 (4.0) 50.1 (12.3) 11.5 37.0 (6.0) 19.3 20.9 28.0 YTD n.a. (26.3) 34.7 (17.9) 20.4 (9.5) (8.2) 26.3 (4.7) 22.4 29.2 (16.3) 16.2 n.a. (7.0) 95.1 (5.2) 35.9 2-year Beta n.a. 1.6 1.1 0.9 0.7 1.1 1.4 0.6 0.5 1.4 1.4 0.8 0.6 n.a. 1.3 0.8 1.0 0.7 Major catalysts Central & western China development especially rural areas Industry consolidation and Central & Western China development Central & Western China development and Industry consolidation Energy saving, consumption and central & western China development Central & Western China development and Industry consolidation Environmental protection (energy saving) Industry upgrade and Energy saving Consumption and Industry consolidation Central & western China development Consumption Consumption, industry consolidation, and Central & Western China development Consumption and Central & western China development Central & western China development Industry upgrade Energy saving Consumption Consumption Industry upgrade and Central & western China development
700 HK 159.8
BUY 200.0
Note: Prices as of 21 September, 2010; numbers rounded up Source: Bloomberg, Nomura research
Nomura
29 September 2010
Strategy | China
Henry Wu, CFA
Exhibit 6. Top-10 share price performance during each FYP period

Ticker 270 HK 171 HK 267 HK 349 HK 31 HK 181 HK * 1203 HK * 1199 HK 291 HK 217 HK Ticker 992 HK 135 HK 165 HK * 941 HK 517 HK 618 HK 152 HK 203 HK 144 HK 291 HK Ticker 1072 HK 914 HK 1133 HK 124 HK 323 HK 1053 HK 347 HK * 2355 HK 358 HK 995 HK Ticker 8058 HK 1066 HK 1211 HK 2308 HK 8230 HK 8102 HK 2302 HK 3311 HK 317 HK 2357 HK Name Guangdong Investment Ltd Silver Grant International Industries Ltd CITIC Pacific Ltd Industrial and Commercial Bank of China (Asia) Ltd China Aerospace International Holdings Ltd Fujian Holdings Ltd Guangnan (Holdings) Ltd COSCO Pacific Ltd China Resources Enterprise Ltd China Chengtong Development Group Ltd Name Lenovo Group Ltd Kunlun Energy Co Ltd China Everbright Ltd China Mobile Ltd COSCO International Holdings Ltd EC-Founder (Holdings) Co Ltd Shenzhen International Holdings Ltd Denway Motors Ltd China Merchants Holdings (International) Co Ltd China Resources Enterprise Ltd Name Dongfang Electric Corporation Ltd Anhui Conch Cement Co Ltd Harbin Power Equipment Co Ltd Kingway Brewery Holdings Ltd Maanshan Iron & Steel Co Ltd Chongqing Iron & Steel Co Ltd Angang Steel Co Ltd Baoye Group Co Ltd Jiangxi Copper Co Ltd Anhui Expressway Co Ltd Name Shandong Luoxin Pharmacy Stock Co Ltd Shandong Weigao Group Medical Polymer Co Ltd BYD Co Ltd EVOC Intelligent Technology Co Ltd Shenzhen Dongjiang Environmental Co Ltd Shanghai Fudan Microelectronics Co Ltd CNNC International Ltd China State Construction International Holdings Ltd Guangzhou Shipyard International Co Ltd AviChina Industry & Technology Co Ltd Sector Gas, Water & Multi-utilities Financial Services General Industrials Banks Electronic & Electrical Equipment Real Estate Investment & Services General Industrials Industrial Transportation General Industrials Real Estate Investment & Services Sector Technology Hardware & Equipment Oil & Gas Producers Financial Services Mobile Telecommunications Chemicals Technology Hardware & Equipment Industrial Transportation Automobiles & Parts Industrial Transportation General Industrials Sector Industrial Engineering Construction & Materials Industrial Engineering Beverages Industrial Metals & Mining Industrial Metals & Mining Industrial Metals & Mining Construction & Materials Industrial Metals & Mining Industrial Transportation Sector Pharmaceuticals & Biotechnology Health Care Equipment & Services Electronic & Electrical Equipment Technology Hardware & Equipment Support Services Technology Hardware & Equipment Industrial Engineering Construction & Materials Industrial Engineering Automobiles & Parts 8th FYP (1991-1995) (%) 729.6 553.8 429.0 265.1 239.4 189.3 131.7 117.2 100.0 55.3 9th FYP (1996-2000) (%) 2548.3 351.5 312.8 303.8 233.3 227.0 216.3 188.8 172.3 148.8 10th FYP (2001-2005) (%) 2251.2 1636.4 1407.2 995.2 548.6 534.9 487.8 451.7 432.6 428.2 11th FYP (2006-present) (%) 2940.0 2505.9 1690.1 1345.4 1340.0 1108.3 1090.0 965.4 884.9 874.7
Note: 1) A total 255 China stocks were explored in the stock pool including 120 H shares in Main board, 93 Red chip shares in Main board, 37 H shares in GEM and 5 Red chip shares in GEM. 2) * represents share performance since IPO Source: Nomura research
Chinas past FYPs can be generalised in two phases: 1) pre-reform and economic openness in 1978 and 2) post-1978 economic reform. In phase 1, we saw no obvious relationship between economic development and the FYPs, while in phase 2, we have seen a high correlation. Since Chinas reform and economic openness in 1978 and the founding of Peoples Republic of China (PRC), the country has seen its economic growth model changed from command planned to mixed economy in about three decades. We believe China is now looking to embark on another major economic transition, extending its economic reform and openness first started in 1978. Since the major economic transition in the early 80s, China has adopted marketoriented reform measures, such as economic system restructuring and economic openness, enabling it to experience over three decades of economic growth with low unemployment rates and controllable inflation. We believe FYPs are leading indicators for a countrys development outlook, and play a crucial role in achieving an overall
We believe China is now looking to embark on another major economic transition, extending its economic reform and openness first started in 1978
Chinas GDP growth cycle (every five years) has a high correlation with FYPs since the country first opened its economy
Nomura
29 September 2010
Strategy | China
Henry Wu, CFA
economic success. Under Chinas 11th FYP, when the target of building a resourceconserving and environmentally friendly society was first mentioned, it triggered a string of opportunities for the alternative energy sector and M&A for the heavy chemical sector. Under the 10th FYP, it proposed developing central and western China, which entailed shifting the economic growth engine from eastern China to the central and western regions. We observe that Chinas GDP growth cycle (every five years) has had a high correlation with FYPs since the country first opened its economy and when it started to give more realistic and feasible targets under its FYPs. We believe this has led to a more closely correlated relationship between FYPs and the countrys economic development.
Exhibit 7. Economic development cycle for every FYP

(%) 45 6th FYP 30 7th FYP 8th FYP 9th FYP 10th FYP 11th FYP Outbreak of SARS 12th FYP
Asia finanical crisis
15
0 Economic cycle for every five years Opening up Economic cycle for every five years We expect another major economic transition to take place triggered by 12th FYP 1997 1999 2001 2003 2005 2007 2009
(15)
(30) 1953 1955 1957 1959 1961 1963 1965 1967 1969 1971 1973 1975 1977 1979 1981 1983 1985 1987 1989 1991 1993 1995
Source: WIND, Nomura research
Since the major economic transition in 1980, Chinas FYPs have had significant implications in driving economic growth, especially in the first several years of each of the five-year period between the 6th FYP and the 11th FYP. We think this is also a clear indication that the FYPs are highly correlated to economic development, as positive effects from the FYPs are likely to emerge only in the middle of each FYF rather than at the very beginning. In most of the above-mentioned periods, economic growth continued to gain momentum in the first several years, before overheating occurred and a slowdown started at the end of each five-year cycle.
Positive effects from the FYPs are likely to emerge only in the middle of each FYP rather than at the very beginning
Nomura
29 September 2010
Strategy | China
Henry Wu, CFA
Exhibit 8. HSCEI index performance vs GDP growth

(%) 20 15 Average GDP growth = 10% 10 5 0 (5) (10) 2007 1999 2000 2001 2002 2003 2004 1994 1995 1996 1997 1998 2005 2006 2008 2009 (%) 200 150 Average GDP growth = 10% 10 5 0 (5) (10) 2007 2008 1996 1997 1998 1999 2000 2001 2002 2003 2004 1990 1991 1992 1993 1994 1995 2005 2006 2009 100 50 0 (50) (100) 100 50 0 (50) (100) GDP y-y (LHS) HSCEI index y-y (RHS) (%) 200 150
Source: Bloomberg, CEIC, WIND, Nomura research
Exhibit 9. SHCOMP index performance vs GDP growth

(%) 20 15 GDP y-y (LHS) SHCOMP index y-y (RHS)
Exhibit 10. HSCEI index P/E vs quarterly GDP growth

(x) 32 HSCEI index PE (LHS) Average GDP growth (RHS) Average PE (LHS) Quarterly GDP growth y-y % (RHS) (%) 20
24 Average GDP growth of 10% 16 Average PE of 14x 8
15
10
0 Jul-02 Jul-03 Jul-04 Jul-05 Jul-06 Jul-07 Jul-08 Jul-09 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jul-10
Nomura
10
29 September 2010
Strategy | China
Henry Wu, CFA
Five-Year Plan major themes
Sustainable growth the key objective

Chinas GDP recorded a 10% CAGR over the past three decades, but its economic development appears to be at a crossroads with significant uncertainties ahead. It is hard for China to sustain its high economic growth, as investment is running out of steam and consumption has yet to take off. With the global economy still sluggish and Made in China products losing their competitive edge, net exports are also not helping the matter. In addition, the countrys vulnerable distribution system has caused wages to continue to drop as a percentage of total GDP and the government, alongside enterprises not private household savings is now the driving force behind the countrys rising national saving rate. We believe that under current conditions, Chinese policymakers are likely to focus more on reforms than on GDP numbers and inflation. We believe the Chinese government will want to resolve these issues during the 12th FYP period (2011-2015) in order to achieve balanced and sustainable growth in the mid-term. We believe measures taken would fall under four categories: 1) structural change; 2) efficiency improvement; 3) peoples well-being; and 4) environmental protection. The 12th FYP is scheduled to be approved and promulgated by the Chinese government at the beginning of 2011, with key goals, objectives and tasks outlined. Structural change: We believe adjusting the economic growth structure will still be kept as a major theme under the 12th FYP, as: 1) the Chinese government strives to have consumption-driven economic growth since the current economic growth pattern is hard to maintain investment is running out of steam amid overcapacity and a majority of capital-intensive sectors within the secondary industry is seeing declining returns; and 2) the newly promoted development of seven emerging industries of strategic importance will be a new growth pillar, in our view. The authorities recently circulated two directives to strengthen the future development of seven emerging industries of strategic importance, which are new-generation information technology, high-end equipment manufacturing, advanced materials, alternative-fuel vehicles, energy-saving and environmental protection, alternative energy and biotechnology. Moreover, we expect the upgrade on the traditional industry to be a key government focus, targeting more value-added development other than only low-end, labour-intensive production. Efficiency improvement: We expect more M&A to take place in different industries during the 12th FYP period, leading to improved efficiency and higher economies of scale. When ROEs started to decline during the 11th FYP period (2006-2009) for most subsectors in the secondary industry, due to falling efficiency, it became a major concern for many enterprises in the secondary industry. The Chinese government recently introduced measures to promote M&A activities, with focus on the auto, steel, cement, manufacturing, aluminium and rare earth elements sectors, targeting to improve efficiencies and investment returns via economies of scale. We expect more supportive policies for the domestic industries. We also expect a speedier elimination of outdated capacity (albeit challenging in terms of execution in the near term), especially in the heavy chemical industry as we think the overcapacity problem is now turning into a major hurdle to achieving improved efficiency and investment returns. We believe the elimination of outdated capacity is likely to take place in the steel, cement, aluminium, paper, glass, coke and other construction materials sectors. Well-being of people: We think enhancing the well-being of people will be a major issue to be addressed in the upcoming 12th FYP, in view of the continued widening wealth gap and the governments strong intention of boosting consumption. According to the National Bureau of Statistics of China, the Gini coefficient (a measure of the inequality of distribution) for China reached over 0.49 in 2006, one of the ten-highest scores in the world. According to the National Development and
Uncertainties in Chinas economic growth and distribution
Structure, efficiency, peoples well being and the environment are key areas of focus
We believe the structural change for economic growth will continue under the 12th FYP
The government recently introduced measures to promote M&A, targeting to improve efficiencies and investment returns via economies of scale
Enhancing the well-being of people will be a major issue under the 12th FYP, in our view
Nomura
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29 September 2010
Strategy | China
Henry Wu, CFA
Reform Commission (NDRC), the high Gini coefficient could lead to social instability. Consequently, we think the widening wealth gap could be a potential threat to Chinas economic development. Nevertheless, the Chinese government recently unveiled plans to adjust the income distribution system to stimulate consumption and improve living standards by raising the minimum wage level and aims to increase the proportion of the middle class in society. In the last nationwide salary adjustment in 2009, central and western China saw salary increase 26% and 27%, respectively, due to a low comparison base, while it was only 19% for eastern areas. The central government also encourages sectors such as textile and garments, toys, electrical appliance, agricultural product processing and equipment manufacturing companies to relocate their plants inland, from Guangdong, Zhejiang and other coastal provinces that are facing rising land and labour costs. We think this will help facilitate the development of central and western China. Moreover, increasing health and medical insurance coverage is another key focus, especially for Chinas aging population in rural areas. We believe this will eventually bring increased security for the Chinese and ultimately help to boost consumption in the long run. Environment protection: We believe lowering energy consumption per unit of GDP and reducing pollutant emissions will remain as one of the top priorities under the 12th FYP. Energy consumption per unit of GDP has experienced a significant drop over the past two decades, but the current energy consumption structure, which relies on highly pollutant coal as a major resource, will likely cause the decline to slow in future. To prevent such a potential adverse outcome, we believe the Chinese government is likely to implement two key measures in the upcoming 12th FYP: 1) reduce energy consumption per unit of GDP by enhancing efficiencies especially for high-energy consumption and high-pollution sectors, such as the heavy chemical industry, and phasing out of outdated capacity; and 2) encourage the development of alternative energy resources including nuclear, wind, solar and hydro-power, among others. We think the recent cut in power supply by provincial governments is a clear indication of helping the government achieve its energyintensity target (a 20% reduction by 2010 from 2005) before the 11th FYP ends. We believe that even if energy consumption per unit of GDP were to rebound starting from next year, the overall declining trend would continue in the long term. This should help to phase out low energy-efficiency enterprises and improve industry profitability.
The structure of energy consumption in China currently relies on coal as the major resource. If this continues, it will likely drive a decline in energy consumption per unit of GDP
Exhibit 11. 12th FYP major themes

12th FYP major themes
Structure change process
Efficiency improvement
People's well-being
Environment protection Lower unit GDP energy consumption Decrease pollutant emission
Consumption driven growth Strategic emerging industry development Upgrade on traditional industry
Industry consolidation
Adjusting income distribution system Development of Central & Western China Increase medical coverage for aging population
Investment return improvement
Phase out outdated capacity
Resources conservation
Source: Nomura research
Nomura
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29 September 2010
Strategy | China
Henry Wu, CFA
Drilling down
Consumption, consumption, consumption

We think consumption will benefit significantly during the 12th FYP period (2011-2015), considering: 1) consumption is gaining importance in contributing to Chinas future economic development; 2) the governments intention to adjust income distribution to stimulate consumption; and 3) historical developments in foreign countries including both the U.S. and Japan suggest that consumption tends to grow at an accelerating pace when GDP per capita reaches US$3,300-3,800. We think this is also applicable to China Chinas GDP per capita reached US$3,687 in 2009, according to the World Bank.
Consumption to be boosted further
Transforming growth pattern favours consumption

We believing transforming the economic growth pattern from investment-driven to consumption-driven will be one of the major themes kept under Chinas development plan. We believe China is undergoing another major economic transition period aiming to achieve a long-term sustainable growth rate, to be mainly driven by consumption rather than investment and net exports. We believe the investment expansion seen in the past is unlikely to be maintained during the 12th FYP period amid overcapacity and decreased efficiency. The high investment growth rates recorded over the past two decades have largely benefitted the secondary industry, especially the heavy chemical sector. The secondary industry is largely capital intensive, and with the significant investment seen in the past, has caused it to record above-average growth rates. Our research on Chinas historical economic development suggests that the average growth rate for the secondary industry was 12.1% during the 8th-10th FYP period (1990-2005), far outpacing 4.1% and 9.8% for the primary and tertiary industries, respectively. We expect overcapacity and low efficiency to lead to more fund outflows in the secondary industry and eventually benefit tertiary industries, especially consumption. Capital formation contributed the most to Chinas GDP growth during the 10th-11th FYP periods (2000-2009). This also signifies that investment was the major force driving Chinas economic development over the past decade. We think the current unbalanced growth model is hard to maintain during the 12th FYP period. This situation also forces the Chinese government to somewhat switch its focus more on economic growth quality than GDP growth numbers or inflation. We believe consumption will inevitably be a major beneficiary of the upcoming economic growth pattern transformation.
Consumption-driven economic development over investmentand net export-driven growth
Exhibit 12. Average y-y growth rate by industry (1990-2005)

(%) 16 Average growth rate (8th - 10th FYP) (1990-2005) 12.1% 12 9.8% 8 4.1% 4
Exhibit 13. Contribution to GDP breakdown by industry (9th 11th FYP)

(%) 80 Contribution to GDP by primary industry Contribution to GDP by secondary industry Contribution to GDP by tertiary industry 60
40
20
0 Primary industry Secondary industry Tertiary industry
0 9th FYP 10th FYP 11th FYP
Source: WIND, CEIC, Nomura research
Nomura
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29 September 2010
Strategy | China
Henry Wu, CFA
Exhibit 14. Contribution to GDP growth breakdown by expenditure (9th 11th FYP)
(%) 8 Contribution to GDP by consumption Contribution to GDP by capital formation Contribution to GDP by net export 6
Exhibit 15. Fixed asset investment growth vs GDP growth (1981 2009)
(%) 20 GDP growth (LHS) Fixed asset investment (RHS) (%) 75
15
50
10
25
1981
1983
1985
1987
1989
1991
1993
1995
1997
1999
2001
2003
2005
2007
9th FYP
10th FYP
11th FYP
Income distribution reform to boost consumption

According to the National Bureau of Statistics of China, the Gini coefficient, a measure of the inequality of distribution, reached over 0.49 for China in 2006, which is one of the ten-highest in the world. We think the surging Gini coefficient is a clear manifestation of the continued widening wealth gap in China, which could pose a serious threat to social stability and hence Chinas economic development. To narrow the wealth gap, adjusting the income distribution system is the most useful and direct measure, in our view. The government recently unveiled plans to adjust the income distribution system, including raising the minimum wage in each province, which is likely to raise living standards and promote domestic consumption. The Chinese government has already implemented measures to stimulate domestic consumption over the past few years, including vehicles for the countryside, home appliances for the countryside and the old for new programme. However, we think these measures could only stimulate domestic consumption in the short term, whereas adjusting the income distribution pattern is more of a long-term solution. In our view, domestic consumption has failed to take off, due to: 1) lack of a sound social security system; 2) spiralling property prices; and 3) scarcity of education resources. China has benefited from hefty investment and industrialisation over the past three decades, recording a 10% GDP CAGR. However, the capital-intensive industrialisation process has resulted in high returns for capital, evidenced by the rising national saving growth rate, which jumped to 48% in 2009 from 35% in 2000, on savings by enterprises and the government, a departure from the past when personal saving deposits were the key driver. During the 10th-11th FYP periods (2000-2009), savings deposits grew only 16% compared to 20% for enterprises and 30% for the government. Hence, saving deposits accounted for only 46% of total deposit in 2009, down from 58% in 2000, whereas those of enterprise increased to 45% from 39% and those of the government surged to 9% from 3%. Total wage as a percentage of GDP also saw a downward trend over the past half century, down to 11% in 2009 from 23% in 1961. This suggests that wage growth was far less than that of economic development, another major obstacle to promoting consumption as we observe a clear positive correlation between saving deposits and retail sales. This also requires policymakers to adopt more effective and efficient measures to boost salary levels nationwide. In Japan, total wage as a percentage of GDP recorded a sharp increase in 1972-1975 when its GDP per capita reached about US$3,000, according to the World Bank. With Chinas GDP per capita at US$3,687 in 2009, we think Chinas consumption is reaching a turning point.
Adjusting income distribution to narrow the wealth gap
Nomura
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29 September 2010
2009
(25)
Strategy | China
Henry Wu, CFA
Exhibit 16. Gini coefficient in China (2000-2006)

0.45 Gini coefficient - Rural (LHS) Gini coefficient - Urban (LHS) Gini coefficient - Overall (RHS) 0.40 0.46 0.51
0.35
0.41
0.30 2000 2001 2002 2003 2004 2005 2006
0.36
Source: National Bureau of Statistics of China, Nomura research
Exhibit 17. Income distribution reform (to be released before 2010) summary
Highlights Each province's minimum wage standard should be published and submitted to the central government. Improve Lowincome Groups Earnings Consumer Price Index (CPI) should be taken into consideration when deciding an employee's wage increase. Overtime pay, public subsidies, "three insurances and one pension" should not be counted in Minimum Wage. The wage and welfare adjustment in monopolized industry should be submitted to the government for approval and made public. The average wages level and increase in monopolized industry should be regularly made public. "Wage Margin Deposit" should be put into the income distribution safeguard mechanism. Labour union laws need to be further modified to enhance the role of labour union. Earlier statistics by Ministry of Human Resources and Social Security showed that the incomes of some industries, eg. Utility, telecom, financial, insurance, and tobacco, are much higher than average wage. The rules restrict earnings increase of high-income groups and make public their average wage level. The rules protect low-income groups from the actual income decrease due to CPI increase, vague "Minimum Wage" definition, etc. Impacts
Restrict Highincome Groups Earnings
Security for income distribution

The rules reduce occurrence of wages in arrears, offering security for income distribution.
Nomura
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29 September 2010
Strategy | China
Henry Wu, CFA
Exhibit 18. Minimum wages standard adjustment

Western Central Eastern MW represents most updated monthly minimum wage per capita (RMB) GDP PC represents GDP per capita of 2009 (RMB) MW: 960 GDP PC: 19,926 Jilin Xinjiang Liaoning MW: 900 GDP PC: 40,225 MW: 760 GDP PC: 12,852 MW: 710 GDP PC: 21,475 MW: 580* GDP PC: 19,454 MW: 760 GDP PC: 21,732 MW: 800 GDP PC: 20,477 MW: 950 GDP PC: 15,295 MW: 900 GDP PC: 22,450 MW: 850 GDP PC: 17,339 MW: 680* GDP PC: 22,916 MW: 650* GDP PC: 10,258 MW: 830 GDP PC: 13,536 MW: 670* GDP PC: 15,923 Yunnan Guang Guangxi xi Guangdong Hong Kong Taiwan Tibet Sichuan Sichuan Hubei
g on Ch ng qi
lia ngo r Mo Inne
Heilongjiang
MW: 880
GDP PC: 21,665
MW: 820 MW: 900 MW: 960 MW: 920 MW: 900
GDP PC: 26,319 GDP PC: 34,898 GDP PC: 68,788 GDP PC: 62,403 GDP PC: 24,284 GDP PC: 35,796 GDP PC: 21,544 GDP PC: 44,232
Gansu
Beijing Tianjin Hebei
Qinghai
Ning xia Shanxi Shaan xi
Shandong
MW: 920 MW: 850
Jiangsu Henan Shanghai Anhui Zhejiang Jiangxi Fujian Hunan
MW: 960
MW: 1,120 GDP PC: 78,225 MW: 720 GDP PC: 16,391
MW: 1,100 GDP PC: 44,335 MW: 720 MW: 900 MW: 850 GDP PC: 17,185 GDP PC: 33,051 GDP PC: 20,226
Guizhou
MW: 1,030 GDP PC: 40,748
Macau Hainan * Including four provinces which still not released the information
MW: 830
GDP PC: 19,166
Source: CEIC, new.xinmin.cn, Nomura research
Exhibit 19. Non-investment fiscal spending plan, announced March 2010

Period Projects Subsidies for rural households to purchase electric appliances, motor cycles and automobiles Agricultural subsidies Subsidies for purchases of agricultural machinery Preferential policies to western, central, northeast China development Measures to boost employment and provide job training Social security Income tax reducing and exempting to small-and-medium-sized enterprises (SMEs) Reducing water, electricity, heat and gas price to service industry Preferential Purchase tax to Low-emission cars Income distribution reform Energy saving and emission reduction Subsidies for electric appliances, motor cycles and automobiles replacement 2009-2011 Healthcare reform 2010 2010 2010 2010 2010 2010 2010 2010 2010 2010 2010 2010
Nomura
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29 September 2010
Strategy | China
Henry Wu, CFA
Exhibit 20. Average deposit growth for 10th and 11th FYPs (2000-2009)
(%) 40 Average deposit growth for 10th and 11th FYPs (2000-2009) 30.0% 30
Exhibit 21. Deposit growth breakdown by enterprise, government and savings (2000-2009)
(% y-y) 60 Enterprise deposit y-y % Government deposit y-y % Savings deposit y-y %
40 20.3% 20 16.2% 20 10 0 2000 2001 2002 2003 2004 2005 2006 2007 2008
2007 2008
Enterprise
Governement
Savings
Exhibit 22. Total deposit changes (1997-2009)

(%) 80 Enterprise as % of total deposit Government as % of total deposit Saving as % of total deposit
Exhibit 23. Total deposit changes (1997-2009)

(RMBbn) 80,000 Savings deposit Government deposit Enterprise deposit 60,000
60
40
40,000
20
20,000
0 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
0 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2009
Exhibit 24. Average property price (1997-2009)

(RMB/sq m) 5,000 4,000 3,000 2,000 1,000 0 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
Exhibit 25. Saving deposit vs retail sales (1953-2009)

16,000 Retail sales (RMBbn) R2 = 0.9914 12,000
8,000
4,000
0 0 5,000 10,000 15,000 20,000 25,000 30,000 Saving deposit (RMBbn)
Source: CEIC, Nomura research
Nomura
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29 September 2010
2009
Strategy | China
Henry Wu, CFA
Exhibit 26. Chinas total wages as % of GDP (1961-2009)

(%) 25
20
15
10
5 1961 1963 1965 1967 1969 1971 1973 1975 1977 1979 1981 1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009
Exhibit 27. Japans total wages as % of GDP vs GDP per capita (1960-2000)
(US$) 60,000 Japan GDP per capita (LHS) Wages as % of GDP (RHS) (%) 65
45,000
55
30,000
Wages as % of GDP surged when GDP per capita reaching to about US$3,000
GDP per capita in China reached US$3,687 in 2009 4,448 4,156 3,817 2,832 1968 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000
45
15,000
35
0 1960 1962 1964 1966
25
Source: WIND, CEIC, World Bank, Nomura research
Consumption at tipping point towards higher growth

In our view, consumption in China is close to picking up momentum, based on developed countries GDP per capita and consumption as a percentage of GDP. Japan, Korea and the US have demonstrated a V-shape curved relationship in consumption as a percent of GDP historically. We attribute this to the change in their economic development patterns, from previously investment-led economic growth to consumption-led. We expect future consumption in China to follow this growth trend, as we believe Chinas economic growth is akin to that of these developed economies. We observe that, similar to what has happened to China over the past three decades, past economic growth of these developed countries were led by investment that benefited the capital-intensive sectors. Hence, the secondary industry accounted for a bigger proportion to total GDP, while consumption exhibited a downward trend to total GDP. However, empirical research on these three developed markets also suggests that this trend is unsustainable and is hard to maintain. We note that consumption tends to pick up pace when GDP per capita reaches about US$3,300-3,800. This implies that the investment-led economic growth pattern in China is losing momentum and the economy is likely to be led by consumption from now, given that its GDP per capita reached US$3,687 in 2009, according to the World Bank.
Nomura
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Strategy | China
Henry Wu, CFA
We expect consumption as a percentage of GDP in China (which reached 49% in 2009) to bottom out soon. Again, taking Japan, Korea and the US as references, their consumption as a percentage of GDP started to rebound after hitting 52-61%. We note that the ratio has never reached below 50%, except during the World War II when it dropped to nearly 50% for the US. As such, we believe China is close to seeing its consumption picking up pace.
Exhibit 28. GDP per capita vs consumption as % of GDP Japan

(%) % 70 GDP per capita (LHS) Consumption as % of GDP (RHS) (US$) 60,000
% 65 GDP per capita of USD3,817 % 60
45,000
30,000
% 55
Lowest consumption as % of GDP of 52%
15,000
% 50 1955 1957 1959 1961 1963 1965 1967 1969 1971 1973 1975 1977 1979 1981 1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009
Exhibit 29. GDP per capita vs consumption as % of GDP Korea

(%) 90 GDP per capita (RHS) Consumption as % of GDP (RHS) (US$) 25,000 20,000 15,000 70 Lowest consumption as % of GDP of 60% 60 10,000 5,000 0 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008
19
80
GDP per capita of US$3,368
50
Nomura
29 September 2010
Strategy | China
Henry Wu, CFA
Exhibit 30. GDP per capita vs consumption as % of GDP US

(%) 85 GDP per capita (RHS) Consumption as % of GDP (RHS) GDP per capita of US$3,458 (US$) 60,000
75
45,000
65 Lowest consumption as % of GDP of 61% ex World War II 1929 1933 1937 1941 1945 1949 1953 1957 1961 1965 1969 1973 1977 1981 1985 1989 1993 1997 2001 2005 2009
30,000
55
15,000
45
Exhibit 31. GDP per capita vs consumption as % of GDP China

(%) 100 GDP per capita (RHS) Consumption as % of GDP (RHS) GDP per capita of US$3,687 in 2009 (US$) 6,000
85
4,500
70
3,000
55
Lowest consumption as % of GDP of 49%
1,500
40 1952 1955 1958 1961 1964 1967 1970 1973 1976 1979 1982 1985 1988 1991 1994 1997 2000 2003 2006 2009
Nomura
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29 September 2010
Strategy | China
Henry Wu, CFA
Industry reforms
Industry consolidation and upgrade to sustain long-term investment growth

We believe a sound industry structure is crucial for China to achieve its long-term objective of balanced and sustainable growth. In our view, measures that need to be implemented to facilitate the establishment of a sound industry structure include: 1) industry consolidation through M&A activities; 2) developing emerging industries of strategic importance; and 3) upgrade the traditional industries. We believe these measures would help to enhance efficiencies, improve returns and phase out outdated capacity. Contribution as a percentage of total GDP by the secondary industry remains stubbornly high; it has amounted to almost half of total GDP over the past decade. Meanwhile, the tertiary industry is experiencing sluggish growth. Within the secondary industry, manufacturers rely more on processing businesses, which put them in a low market position due to lack of value-added technology and procedures. Moreover, most of their products target the mass market with low margins and little brand recognition. We think the aftermath of the financial crisis has exacerbated the situation of the irrational industry structure, as the Chinese government needed to introduce active monetary and fiscal policies via a RMB4tn stimulus plan to rejuvenate the economy. Most of these government-oriented investments have gone into the secondary industry, including the infrastructure, construction and other heavy chemical sectors. While the measures did help to boost the economy, investment as a percent of GDP growth jumped 95% in 2009, vs consumptions 53% while that of net exports dropped 48%. We believe these temporary macro stimulus measures are unlikely to drive economic growth in a sustainable, long-term manner. We expect more M&A and outdated capacity to be phased out during the 12th FYP period, resulting in higher efficiency and improved investment returns, as we note positive effects from the investment spree, especially in the secondary industry over the past two decades, are diminishing. Of the 15 sub-sectors under the secondary industry, we observe only four sub-sectors have recorded a rise in ROE over the past one decade, accounting for only 27 % of the total. The remaining 11 sub-sectors have declining ROEs, suggesting that investment-led economic growth is unsustainable, in our view. Indeed, the low efficiency of domestic enterprises, especially SOEs, has become a major concern for the government.
The financial crisis has exacerbated the problems of the irrational industry structure Industry reform to establish a sound industry structure
Low efficiency of domestic enterprises, especially SOEs, has become a major concern for the government
Industry upgrade by supporting emerging industries of strategic importance

The State Council recently promulgated several directives aiming to promote the development of seven emerging industries of strategic importance; they are energysaving and environmental protection, next generation information technology, biotechnology, high-end manufacturing, new energy, new material and clean-energy vehicles sectors. We think these industries will enter a golden age of development during the 12th FYP period. These unveiled directives clearly indicate the governments intention to upgrade the industry and adjust the current industry structure to a more rational and sound system. We are optimistic on the development of these emerging industries of strategic importance, as they could become a new growth pillar for China. We expect more supportive measures to be introduced, such as special permission on funds raising mechanism, direct subsidies and favourable tax treatment. However, we also expect the policymakers to keep a close eye on this development to avoid overcapacity and repetitive construction as seen in the steel and cement sectors during the 10th FYP period (2001-2005).
Development of emerging industries of strategic importance is a key measure, in our view
Nomura
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29 September 2010
Strategy | China
Henry Wu, CFA
Exhibit 32. Stocks relating to the seven emerging industries of strategic importance
Company
Energy saving and environmental protection Next generation information technology Biotechnology
China Everbright International (257.HK), Sound Global Ltd (SGL.SP), BEW (371 HK), Yanhua Smartech Co., Ltd (002178.CH), Jiuzhou Electric Co. (300040.CH), Das Intellitech (002421.CH), Tellhow Sci-tech Co. (600590.CH) ZTE (763.HK), Comba (2342.HK), AsiaInfo-Linkage (ASIA.US), O-Net (877.HK), Skyworth (751.HK), Digital China (861.HK), AutoNavi (AMAP.US), Searainbow Holding Corp., (000503.CH), Fujian Newland Computer Co., Ltd. (000997.CH), Changjiang Electronics Technology Co., Ltd. (600584.CH), Xiamen Xindeco Ltd. (000701.CH) Hualan Biological (002007.CH), Beijing Taintan Biological (600161.CH), Beijing SL Pharmaceutical (002038.CH), Shanghia RAAS (002252.CH), Shanghai Kehua (002022.CH), Mingyuan (233.HK), 3S Bio (SSRX.US), China Biological (CBPO.US), Yuan Longping High-tech Agriculture Co., Ltd. (000998.CH) China High Speed (658.HK), CSR Corporation Limited (1766.HK), Weichai Power (2338.HK), Zhuzhou CSR Times Electric (3898.HK), Dongfeng Motor (489.HK), Guangzhou Automobile Group (2238.HK), Zhongke Electric Co., Ltd (300035.CH) GCL Poly Energy (3800.HK), Trina Solar (TSL.US), JA Solar (JASO.US), Yingli Green Energy (YGE.US), Canadian Solar Inc (CSIQ.US), Suntech Power Hldg (STP.US), China High Speed (658.HK), Goldwind Science & Technology Co., Ltd. (002202.CH), Shanshan Co., Ltd (600884.CH) western Metal Materials Co. Ltd. (002149 CH), Advanced Technology & Materials Co., Ltd. (000969.CH), China Fiber Glass Co., Ltd. (600176.CH), Sinoma Science & Technology Co., Ltd (002080.CH), BGRIMM Magnetic Materials& Technology Co.,Ltd (600980 CH), TDG Holdings Co., Ltd. (600330.CH), China XD Plastics Company Ltd. (CXDC US) Dongfeng Motor (489.HK), Guangzhou Automobile Group (2238.HK), BYD (1211.HK), Tianneng (819.HK), Coslight (1043.HK), Beiqi Foton (600166.CH), Changan Auto (000625.CH), Anhui Ankai Automobile Co., Ltd. (000868.CH)
High-end manufacturing
New energy
New materials
Clean-energy vehicles
Source: Bloomberg, Nomura research
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Strategy | China
Henry Wu, CFA
Exhibit 33. Comparable sheet for stocks relating to the seven emerging industries of strategic importance
Company Energy saving and environmental protection China Everbright International Sound Global Ltd BEW Yanhua Smartech Co., Ltd Jiuzhou Electric Co. Das Intellitech Tellhow Sci-tech Co. Next generation information technology ZTE Comba AsiaInfo-Linkage O-Net Skyworth Digital China AutoNavi Searainbow Holding Corp., Fujian Newland Computer Co., Ltd. Changjiang Electronics Technology Xiamen Xindeco Ltd. Biotechnology Hualan Biological Beijing Taintan Biological Beijing SL Pharmaceutical Shanghia RAAS Shanghai Kehua Yuan Longping High-tech Agriculture Mingyuan 3S Bio China Biological High-end manufacturing China High Speed CSR Corporation Limited Weichai Power Zhuzhou CSR Times Electric Dongfeng Motor Guangzhou Automobile Group Zhongke Electric Co., Ltd New energy GCL Poly Energy Trina Solar JA Solar Yingli Green Energy Canadian Solar Inc Suntech Power Hldg China High Speed Goldwind Science & Technology Co., Ltd. Shanshan Co., Ltd New materials western Metal Materials Co., Ltd. Advanced Technology & Materials China Fiber Glass Co., Ltd. Sinoma Science & Technology Co., Ltd BGRIMM Magnetic Materials& Technology TDG Holdings Co., Ltd. China XD Plastics Company Ltd. Clean-energy vehicles Dongfeng Motor Guangzhou Automobile Group BYD Tianneng Coslight Beiqi Foton Changan Auto Anhui Ankai Automobile Co., Ltd. Ticker 257 HK SGL SP 371 HK 002178 CH 300040 CH 002421 CH 600590 CH 763 HK 2342 HK ASIA US 877 HK 751 HK 861 HK AMAP US 000503 CH 000997 CH 600584 CH 000701 CH 002007 CH 600161 CH 002038 CH 002252 CH 002022 CH 000998 CH 233 HK SSRX US CBPO US 658 HK 1766 HK 2338 HK 3898 HK 489 HK 2238 HK 300035 CH 3800 HK TSL US JASO US YGE US CSIQ US STP US 658 HK 002202 CH 600884 CH 002149 CH 000969 CH 600176 CH 002080 CH 600980 CH 600330 CH CXDC US 489 HK 2238 HK 1211 HK 819 HK 1043 HK 600166 CH 000625 CH 000868 CH Ratings BUY BUY BUY Not rated Not rated Not rated Not rated BUY BUY* NEUTRAL* BUY* Not rated Not rated Not rated Not rated Not rated Not rated Not rated Not rated Not rated Not rated Not rated Not rated Not rated Not rated Not rated Not rated BUY NEUTRAL BUY BUY BUY BUY Not rated NEUTRAL BUY BUY BUY NEUTRAL BUY BUY Not rated Not rated Not rated Not rated Not rated Not rated Not rated Not rated Not rated BUY BUY BUY Not rated Not rated Not rated Not rated Not rated Market cap (US$bn) 1.7 0.7 1.5 0.3 0.4 0.4 0.9 11.4 1.4 1.4 0.5 1.6 1.7 0.8 1.2 0.9 1.4 0.4 4.2 1.7 1.7 1.4 1.2 1.0 0.4 0.3 0.2 3.1 9.7 9.2 3.0 16.0 9.5 0.3 4.5 2.0 1.3 1.7 0.6 1.6 3.1 6.6 1.3 0.6 2.4 1.3 1.0 0.4 0.9 0.3 16.0 9.5 16.5 0.4 0.3 3.2 3.3 0.6 P/E (x) 2010F 2011F 22.4 2.7 17.5 100.1 34.8 60.3 33.1 31.7 14.7 24.6 20.1 7.9 14.4 41.5 n.a. 45.9 43.1 n.a. 35.6 46.4 33.2 47.0 29.9 92.8 15.8 21.7 6.9 15.3 30.3 13.1 22.2 8.9 13.8 n.a. 16.1 9.4 9.3 1.7 8.3 11.1 15.3 18.3 40.5 75.7 54.7 n.a. 43.8 n.a. n.a. 9.5 8.9 13.8 26.7 13.9 20.7 n.a. 12.0 72.2 18.0 2.0 14.6 81.9 26.6 41.9 23.0 25.4 12.4 20.1 15.0 6.8 11.9 27.6 n.a. 33.5 33.3 n.a. 30.5 40.6 26.0 37.1 22.9 62.6 13.2 18.4 6.1 11.4 23.3 12.0 17.0 8.2 12.7 n.a. 16.1 8.5 7.7 1.5 7.9 9.4 11.4 14.7 27.3 48.4 37.9 n.a. 30.2 n.a. 351.7 11.0 8.2 12.7 23.1 10.7 15.2 n.a. 10.9 46.6 P/B (x) 2010F 2011F 2.6 2.4 3.1 n.a. 1.5 5.9 3.5 4.0 3.5 4.0 4.5 1.9 2.8 n.a. n.a. n.a. n.a. n.a. 10.2 9.7 9.4 10.9 8.2 6.3 1.8 1.8 n.a. 2.6 3.6 3.3 4.4 2.7 3.3 n.a. 2.3 1.8 1.5 1.5 1.1 1.2 2.6 6.4 2.3 4.4 5.8 n.a. 4.4 n.a. n.a. n.a. 2.7 3.3 5.7 1.7 1.3 n.a. 2.1 n.a. 2.3 1.9 2.6 n.a. 1.4 5.3 3.2 3.3 2.8 3.1 3.4 1.9 2.8 n.a. n.a. n.a. n.a. n.a. 8.0 5.2 7.6 10.3 6.3 5.9 1.6 1.6 n.a. 2.2 3.1 2.5 3.8 2.1 2.7 n.a. 2.0 1.5 1.2 1.3 1.0 1.0 2.2 4.6 2.2 4.1 5.1 n.a. 3.9 n.a. n.a. n.a. 2.1 2.7 4.6 1.5 1.2 n.a. 1.7 n.a. ROE (%) 2010F 2011F 12.3 21.2 18.3 n.a. n.a. n.a. n.a. 16.1 27.5 23.7 34.5 n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. 23.5 14.7 35.7 21.5 35.6 25.5 n.a. 19.0 22.3 18.6 15.4 8.4 -4.7 23.5 n.a. n.a. n.a. 11.2 n.a. n.a. n.a. n.a. n.a. 35.6 25.5 23.1 n.a. n.a. n.a. n.a. n.a. 13.7 22.2 18.8 n.a. n.a. n.a. n.a. 17.6 26.0 26.1 26.0 n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. 22.3 17.3 28.8 24.0 28.7 27.7 n.a. 15.7 18.5 18.5 14.7 12.7 11.8 22.3 n.a. n.a. n.a. 14.1 n.a. n.a. n.a. n.a. n.a. 28.7 27.7 22.1 n.a. n.a. n.a. n.a. n.a.
Note: * Initiating coverage; Pricing as of 21 September 2010; Ratings and Price Targets are as of the date of the most recently published report (http://www.Nomura.com) rather than the date of this document Source: Bloomberg for non rated stocks, Nomura estimates
Nomura
23
29 September 2010
Strategy | China
Henry Wu, CFA
M&A and operation inland relocation

We expect more M&A activity to take place in different industries during the 12th FYP period, leading to improved efficiency and higher economies of scale. The government recently introduced measures to promote M&A with a focus on the auto, steel, cement, manufacturing, aluminium and rare earth elements sectors. We expect more supportive policies for the domestic industries. Many industries in China are highly fragmented, which during industry consolidation is likely to bring forth many M&A opportunities and benefit existing market leaders, in our view. According to our China Steel sector analyst, Josephine Ho, the top-ten market players in China accounted for a combined market share of only 44% in 1H10, which the government intends to raise to about 60-70% at the end of the 12th FYP period, or 2015. We believe the traditional industry will be upgraded during the 12th FYP period (20112015). Many manufacturers in the traditional industry are at the low end of the industry value chain and will need to move up the value chain by providing more value-added products. Chinas steel manufacturers reported far less gross margins compared to those in Taiwan and Korea, which we attribute to a lack value-added high-end products (since they have the same material cost iron ore). We believe the upgrading will help rationalize the irrational industry structure and improve efficiencies and investment returns. The elimination of overcapacity especially in the steel, cement, aluminium, paper, glass, coke and other construction materials sectors while challenging in terms of execution in the near term, should also help enhance efficiencies and returns, in our view.
Industry consolidation would improve efficiency
Nomura
24
29 September 2010
Strategy | China
Henry Wu, CFA
Exhibit 34. Major leading players in selected industries

Industry competitive landscape Construction machinery -- Excavator -- Wheel loader Auto -- PV -- Heavy-duty truck -- Railway rolling stock Consumer Retailer -- Super market -- Electronic retailer -- Sportswear -- Footwear -- Department Store Non-discretionary (F&B) -- Beer -- Dairy (UHT milk) -- RTD tea -- Bottler water -- Juice drinks -- 100% Juice -- Instant noodle -- Snacks Top 5 combined market shares: 60% Top 5 combined market shares: 80% Top 5 combined market shares: 90% Top 5 combined market shares: 70% Top 5 combined market shares: 80% Top 5 combined market shares: 80% Top 5 combined market shares: 80% Fragmented. #1 player has approx. 5% market share, on our estimate. China Mobile owns 70% market share of total mobile subscriber base CRE, Tsingtao, Anheuser-Busch Inbev Mengniu, Yili, Bright Dairy Tingyi, UPC, Wahaha Tingyi, Wahaha, Farmers Spring Coca-cola, UPC, Tingyi Huiyuan Tingyi, Hualong and UPC Want Want NA Top 2 combined market shares: 25% Top 5 combined market shares: 25% in department stores NA CRE, Lianhua, Carrefour China, Wal-mart China, RT Mart Suning, Gome Belle, Foshan Saturday Shoes, Daphne Parkson, Beijing Wangfujing Dept Store, Shanghai Bailian group, Wuhan Dept Store, Chongqing Dept Store Top 5 combined market shares: 48% Top 5 combined market shares: 83% Top 5 combined market shares: 100% DF, SAIC, GAC Weichai, Sinotruk CSR, CNR Top 5 combined market shares: 61% Top 5 combined market shares: 72% SANY Lonking Leading player
Top 5 combined market shares: 40% in scaled cities Nike, Adidas, Li Ning, Anta
Mobile
China Mobile
Telecom Equipment -- Handset -- Network equipment Internet -- Online gaming -- Online brand ads -- Search business Cement Steel Oil and Gas Power China Wind Turbine China Wind Gearbox Top 5 combined market shares: more than 80% Top 5 combined market shares: 30% Top 5 combined market shares: 100% Top 5 combined market shares: 12% Top 5 combined market shares: 29% Top 3 combined market shares: 100% Top 5 combined market shares: 55% Top 3 combined market shares: 60% China High Speed Transmission owns 50% market share, domestic players aggregately own 90%+ of China market Not applicable as 90%+ of sales are overseas Tencent, Netease and Shanda Sina, Tencent, Sohu Baidu, Google Anhui Conch Angang Petrochina, Sinopec and CNOOC Huaneng Sinovel, Goldwind, Dongfang Electric China High Speed Transmission, Second Heavy Industrial, Dalian Heavy Industrial Top 5 combined market shares: around 40%(all handset), 75% (3G only) Top 5 combined market shares: 90% Nokia, Samsung Electronics ZTE
China Solar
Overseas player dominant
Nomura
25
29 September 2010
Strategy | China
Henry Wu, CFA
Exhibit 35. Gross margin for steel manufacturers in different markets

Gross margin (%)
Angang Maanshan Baosteel China Steel POSCO
Ticker 347 HK 323 HK 600019 CH 2002 TT 005490 KS
2001
2002
2003
2004
2005
2006
2007
2008
2009
1H10
11.0 13.8 20.0 14.0 18.9
11.8 14.7 27.2 24.8 22.1
15.7 25.5 30.1 35.5 27.5
14.5 22.3 28.8 38.0 30.7
14.1 14.7 20.6 35.9 32.2
23.1 12.9 17.0 24.5 25.0
22.5 11.4 14.0 26.2 25.2
10.4 6.0 8.8 15.2 25.9
5.9 5.4 9.7 8.8 16.2
16.3 7.6 14.8 23.0 26.8
Exhibit 36. Steel production and ROE

(mn tonnes) 600 Steel production (LHS) Production growth (RHS) Sector ROE (RHS) Highest ROE and growth of steel production in 10th FYP (% y-y) 30
450
20
300
10
150
0 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
(10)
Exhibit 37. Steel sector market cap as % of total and debt to asset ratio
(%) 10 8 6 4 2 0 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
26
A share steel sector market cap as % of total (LHS) A share steel sector debt to asset ratio (RHS)
(%) 70 56 42 28 14 0
Nomura
29 September 2010
Strategy | China
Henry Wu, CFA
Exhibit 38. Declining industry ROEs

Sector ROE summary (%) Primary industry 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 Trend
Agriculture
Secondary industry
(1.8) 6.0 0.8 3.5 (2.1) 10.2 6.4 (0.8) 2.9 6.0 2.1 1.5 2.3 12.3 2.0 n.a. n.a. n.a.
0.4 6.5 1.0 2.0 (0.1) 10.0 6.6 0.5 3.9 0.2 2.5 3.5 2.7 6.2 3.7 8.7 6.1 5.9
0.9 7.5 1.7 1.1 0.6 4.3 6.4 (0.6) 2.8 2.2 2.5 4.0 1.7 2.9 6.5 3.8 3.4 5.2 4.2
1.6 7.4 2.1 1.9 0.7 4.5 7.4 (0.1) 2.9 3.3 2.8 4.7 3.3 4.7 5.2 4.3 3.7 4.7 5.3
2 10.0 4.8 6.3 1.4 0.4 7.0 (0.4) 7.2 3.4 2.8 7.9 4.5 4.5 7.8 5.5 5.8 6.2 7.2
2.3 5.8 4.2 2.2 1.2 2.2 6.8 (0.4) 9.6 3.9 3.7 10.9 5.6 7.3 11.7 5.9 4.4 9.3 9.5
1.8 7.8 2.0 5.9 1.8 0.8 5.3 1.0 8.3 2.5 (1.3) 9.1 5.8 4.6 12.5 3.3 3.2 7.5 4.5
2.2 8.6 3.2 6.5 1.8 0.8 5.8 1.1 10.9 2.8 (1.3) 10.0 6.4 5.3 12.8 3.7 3.5 8.3 6.1
2.3 8.2 4.0 4.3 2.9 0.8 6.3 1.2 11.2 2.2 (1.1) 6.6 6.0 5.5 9.5 3.3 3.7 6.0 6.3
2.0 10.8 4.5 3.2 2.8 2.7 8.6 1.4 7.7 1.9 (1.0) 3.9 2.4 5.5 9.4 3.7 3.9 5.8 6.1
Down Up Down Down Up Down Up Up Down Down Down Down Down Down Down Down Down Down Down
Auto Manufacturing Building Material Industry Chemical Fundamental Material Gas Production & Supply IT Equipment Manufacturing Pharmaceutical Industry Water Production & Supply Coal Industry Electric Utility Industry Electronic Component Manufacturing Ferrous Metal Industry Food & Beverage Manufacturing Machinery Mining-Crude Oil & Natural Gas Stationary and Sporting Goods Tertiary industry Computer and Software Service IT Service Telecom Service
Source: WIND, Nomura research
Nomura
27
29 September 2010
Strategy | China
Henry Wu, CFA
Development of central and western China
Central and western China: still plenty of opportunities

Over the past three decades, economic growth in eastern China has surpassed that of central and western China. However, many economic indicators of central and western China are now seeing accelerating growth. We expect central China to lead growth in the secondary industry, on factory migration as the eastern region evolves into a service sector and higher value-added manufacturing economy. We believe western China (i.e. Xinjiang and Inner Mongolia) should benefit, due to rising demand for natural resources and urbanisation. Recently issued measures by the government underscore our view that the government is encouraging industries such as textile and garments, toys, electrical appliances, agricultural product processing and equipment manufacturing to relocate their plants inland, from Guangdong, Zhejiang and other coastal provinces that are facing rising land and labour costs. We expect more supportive policies for central and western China in terms of financial support, tax treatment, industry allocation and government subsidiaries. Favourable government polices and economic rebalancing after the global crisis have caused growth to accelerate in central and western China. The central and western regions have a different competitive edge and growth path. Central China benefits from industrial migration as eastern China is evolving into a service and advanced manufacturing-based economy. Meanwhile, western China is seeing accelerating growth on rising demand for resources. We also compare the productivity relationship between the agriculture contribution to the total economy and agriculture contribution to total employment for eastern, central and western China. We find that the agriculture contribution to total employment declines at a faster pace than that to the total economy, especially for central and western China. This suggests that productivity in China is mainly driven by increased productivity in central and western China. We expect the relationship between the agriculture contribution to the total economy and that to total employment for both central and western China to follow the growth pattern of eastern China. Hence, we expect both provincial data within central and western China to move inbound along the equation line (see the chart overleaf). As we arrive at our labour productivity ratio by using agriculture contribution to total economy divided by agriculture contribution to total employment, this movement should lead to enhanced productivity in future.
Central and western China to lead economic growth, in our view
Central and western regions have a different competitive edge and growth path
Agricultures contribution to total employment declines at a faster pace than its contribution to the total economy, especially for central and western China
Exhibit 39. Central and western China exposure related stocks

Company Ticker central and western China exposure
Maanshan Iron & Steel Sichuan Expressway Anhui Expressway China Blue Chemical Anhui Conch Cement Yurun Food China Railway Construction Zhuzhou CSR Times Electric Dongfeng Motor Great Wall Motor Tencent PetroChina China Mobile Shenhua Energy
323 HK 107 HK 995 HK 3983 HK 914 HK 1068 HK 1186 HK 3898 HK 489 HK 2333 HK 700 HK 857 HK 941 HK 1088 HK
60%+ sales to central and western China 100% sales to central and western China 100% sales to central and western China 50%+ sales to central and western China 30% sales to central and western China 40%+ slaughtering, 34%+ processing 40%+ Chinas railway constructions in central and western China 40%+ Chinas railway constructions in central and western China 40%+ sales to central and western china 40%+ sales to central and western china Relatively large exposure to lower tier cities and rural areas 70% production in central and western China 50%+ subscriber base in central and western China Productions primarily in central and western China
Nomura
28
29 September 2010
Strategy | China
Henry Wu, CFA
Exhibit 40. Productivity comparison between eastern, central and western China (2008)
70%
1. Central and western China data is expected to move inbound along the equation line. 2. Agriculture contribution to total employment is decreasing at higher pace than that of agriculture contribution to total economy, which leads to Gansu productivity enhancement in future. Inner Mongolia
Shaanxi Henan Jilin
60%
Tibet
Yunnan
Agriculture employment as % of total
50%
40%
Guangdong
Ningxia Heilongjiang Anhui Qinghai China Central China Jiangxi Hebei Shandong Chongqing Liaoning Fujian Eastern China Hubei
Guizhou Xinjiang Guangxi Hunan Western China Sichuan
30%
20%
Jiangsu Zhejiang
y = 2.2964x + 0.1272 R = 0.7975 Eastern China areas
10%
Tianjin Beijing Shanghai
0%
-10% -2%
0%
2%
4%
6%
8%
10%
12%
14%
16%
18%
20%
22%
Agriculture GDP as % of total

Source: CEIC, Bloomberg, WIND, Nomura research
Exhibit 41. GDP growth by region

(RMBbn) 25,000 20,000 15,000 10,000 5,000 0 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
29
Eastern (LHS) Western (LHS) Central growth (RHS)
Central (LHS) Eastern growth (RHS) Western growth (RHS)
(Growth) 25 20 15 10 5 0
Nomura
29 September 2010
Strategy | China
Henry Wu, CFA
Exhibit 42. Where central and western China are leading in growth
Central and western China's leading economic measures Economic measures General Economy GDP GDP per capita Rural net income per capita Urban disposable income per capita Investment 2009 fixed asset investment growth by region Fixed asset investment: Rural Fixed asset investment: Urban Foreign direct investment Industrial production Power of agricultural machinery Generating capacity of hydropower station Gross industrial output Value added of industry No of industrial enterprise Gross output value of electronic industry Value-added of electronic industry Gross output value of construction industry Value-added of construction No of foreign funded enterprise Floor space under construction & y-y growth The secondary industry 5 11 22 12 26 1 1 20 17 42 8 5 8 14 32 16 30 31 34 25 26 116 19 8 10 2008 2 2007 32 2008 2 2008 26 2008 20 2009 23 2009 28 2009 22 2008 115 2008 17 2009 14 2009 Trade Export by location of exporter Export by location of producer Import by location of consumer Import by location of Importer Source: CEIC, Nomura research 15 (4) 17 17 34 7 30 31 39 2008 12 2008 30 2008 31 2008 Fiscal position Local government fund transfer CAGR (03-06) Tax income growth Local government revenue 7 19 19 14 25 24 12 2006 24 2008 26 2008 24 19 24 14 29 26 36 18 29 2009 27 2008 35 2008 57 2008 10 16 13 13 10 21 16 14 15 2009 21 2008 16 2008 15 2008 Most recent y-y growth (%) Ref. Eastern Central Western year Consumption Wholesale sales Retail sales Visitor arrival Hotel revenue Tourism revenue international Research and development expenditure Consumption of chemical fertilizer Auto sales Electronics industry sales Urban computer penetration Urban mobile penetration Urban auto penetration Rural computer penetration Rural mobile penetration Rural motorcycle penetration Internet users 65 18 7 11 6 23 (1) 45 1 9 4 34 0 12 1 21 71 19 6 9 6 31 4 48 31 10 4 73 40 17 7 43 37 2009 20 2009 8 2009 15 2007 15 2009 23 2008 5 2008 63 2009 20 2009 12 2008 4 2008 65 2008 35 2008 22 2008 7 2008 37 2009 central/western's leading economic measures Economic measures Most recent y-y growth (%) Ref. Eastern Central Western year
Exhibit 43. FAI growth in China rural areas since central and western development strategy (10th FYP)
(%) 80 Eastern Central Western
Exhibit 44. FAI growth in China urban area since central and western development strategy (10th FYP)
(%) 40
60
30
40
20
20
10
Eastern
Central
Western
0 2001 2002 2003 2004 2005 2006 2007 2008 2009

0 2001 2002 2003 2004 2005 2006 2007 2008 2009

Nomura
30
29 September 2010
Strategy | China
Henry Wu, CFA
Exhibit 45. Y-Y employment growth vs output growth

(%) 20 10 0 (10) (20) (30) (40) 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 Secondary industry labor shortage Tertiary industry labor shortage
Note: Industry labour shortage ratio represents labour y-y growth minus output y-y growth Source: CEIC, Nomura research
Rapid growth in secondary industry

Several measures have been promulgated recently to encourage industries, such as including textile and garments, toys, electrical appliances, agricultural product processing and equipment manufacturing, to relocate their plants inland. These sectors are largely susceptible to changes in labour and land costs. The industry migration trend to central and western China is likely to continue, given rising labour and property costs, in our view. Other sectors such as electronics, telecommunications, electrical machinery and transportation equipment require good logistics and accessibility where transportation costs and accessibility to end-users are key factors. So, the completion of infrastructure, railways, roads, and waterways could trigger further migration of these industries. With regional growth accelerating, demand for property could also take off, precipitating a construction industry boom in the central and western regions. Economic indicators show that central China has led growth in the secondary industry since 2006. Annual growth was 17.7% during the 11th FYP period (2006-2009), compared to 13.4% for eastern China and 21.2% for western China. With industrial migration accelerating, more companies are moving to central China. For example, the number of corporates increased by 30% in 2008 in the central region compared to eastern Chinas 26%.
Lower labour and land costs encourage industry migration
Exhibit 46. Secondary industry value by region

(RMBbn) 12,000 10,000 8,000 6,000 2009 Y-Y growth = 14% 4,000 2,000 0 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
31
Eastern Central Western 2009 Y-Y growth = 8% 2009 Y-Y growth = 5%
Nomura
29 September 2010
Strategy | China
Henry Wu, CFA
Exhibit 47. Overview of eastern, central, western and north-eastern China (2008)
Northeastern China: Heavy industry base, Developed transportation network
Heilongjiang
Jilin Xinjiang Liaoning Inner Mongolia Gansu Ningxia Qinghai Shaanxi Tibet Sichuan Sichuan
C g qin ng ho
Beijing Tianjin Hebei Shandong Shanxi Henan Hubei Jiangxi Hunan Fujian Jiangsu Anhui Shanghai Zhejiang
Eastern China: Developed industry system, rising labor and land costs, more correlated to world economy
Guizhou
Western China: Rich resources reserve, less developed transportation network, low labor costs and urbanization rate
Yunnan Guangxi Guangdong Taiwan Macau Hainan Hongkong
Central China: Developed transportation network, relative lower labor and land costs
Nomura
32
29 September 2010
Strategy | China
Henry Wu, CFA
Energy consumption
Energy consumption cuts

China is advocating to construct a resources conservation and environmentally friendly society mainly through reducing energy consumption per unit of GDP and cutting pollutant emissions. Although over the past two decades energy consumption per unit of GDP has dropped significantly, we believe further decline could be limited given current energy consumption structure, which relies on coal as the major resource (burning coal emits high pollution vs hydro). We believe the government is likely to implement measures to prevent this, by: 1) enhancing efficiencies of high energyconsuming and high-pollution sectors, such as the heavy chemical industry, and phasing out the outdated capacity, and 2) actively promote the development of alternative energy resources including nuclear, wind, solar and hydro-power. We believe the recent cut in power supply by provincial governments is aimed at helping the government to achieve its energy-intensity target (a 20% reduction by 2010 from 2005) before the 11th FYP period ends. The sudden drop in energy consumption per unit of GDP occurred at the end of both the 9th and 10th FYP periods. We notice that in 2000 and 2005, energy consumption per unit of GDP in tonnes of coal equivalent (TCE) teams dropped substantially y-y from 1999 and 2004, respectively. While y-y decline in energy consumption per unit of GDP in TCE terms tends to narrow once a new FYP period starts, Chinas overall effort in saving more energy is still obvious energy consumption per unit of GDP declined by 22% in 1991-95, 65% in 1996-2000, 9% in 2001-2005, and 15% in 2006-09. We believe that even if energy consumption per unit of GDP were to rebound from next year, the overall declining trend would continue in the long term. The government is now implementing stricter rules to tackle environmental issues. The Ministry of Environmental Protection recently circulated a measure by forcing A-share listed companies to make public any significant environmental issues. Environmental issues related to any abrupt environmental affairs or subject to certain punishment by the environmental protection departments will also need to be disclosed within one business day. This rule is applicable to 16 different industries thermal power, steel, cement, aluminium, coal, metallurgy, chemical, petrochemical, building materials, paper, brewing, pharmaceutical, fermentation, textile, tanning and mining industries. According to WIND, there are 647 A-share listed companies that fall under the abovementioned sectors, accounting for 30% of the total. Moreover, these companies are required to disclose the related environmental information regularly and to publish annual environment report. We think this would help to reduce energy consumption considerably and protect the environment, since: 1) most of the above-mentioned industries are either directly or indirectly controlled by the government or the major market players are SOEs, which the government has direct control over either through market or administrative measures; and 2) corporates are compelled strengthen their environmental protection efforts, as regular release of environmental information and annual environment report will put their actions under scrutiny by the public.
Enterprises face stricter rules in energy consumption Greater efficiency and alternative energy resources are two measures to cut energy consumption
Nomura
33
29 September 2010
Strategy | China
Henry Wu, CFA
Exhibit 48. Energy consumption per unit of GDP

(TCE per RMBmn) 600 Energy Consumption per GDP (LHS) y-y growth (RHS) (% y-y) 20
450
300 ending year of 9th, 10th FYP 150
(20)
(40)
0 1991 1994 1997 2000 2003 2006 2009
(60)
Exhibit 49. Energy consumption growth

(%) 20 16 12 8 4 0 (4) 1978 1981 1984 1987 1990 1993 1996 1999 2002 2005 2008
Exhibit 50. Energy consumption breakdown

Coal 100 95 90 85 80 75 70 65 60 55 50 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008
34
Crude Oil
Natural Gas
Hydo Power
Nomura
29 September 2010
Strategy | China
Henry Wu, CFA
Exhibit 51. Investment of pollution treatment and growth

(RMBmn) 500,000 400,000 300,000 200,000 100,000 0 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 Investment of pollution treatment (LHS) y-y % growth (RHS) (% y-y) 35 28 21 14 7 0
Exhibit 52. Waste water discharge and growth

(Ton mn) 70,000 Waste water discharge (LHS) y-y % growth (RHS) (% y-y) 12
60,000
50,000
40,000
30,000 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008
Exhibit 53. Industrial waste air emission and growth

(Cub m bn) 60,000 Industrial waste air emission (LHS) y-y % growth (RHS) (% y-y) 24
45,000
18
30,000
12
15,000
0 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008
Nomura
35
29 September 2010
Strategy | China
Henry Wu, CFA
Exhibit 54. Industrial solid waste discharge and growth

(Ton mn) 40 Industrial solid waste discharge (LHS) y-y % growth (RHS) (% y-y) 0 %
30
(10)
20
(20)
10
(30)
0 2000 2001 2002 2003 2004 2005 2006 2007 2008
(40)
Nomura
36
29 September 2010
Strategy | China
Henry Wu, CFA
Appendix
Appendix: development of FYPs

How FYP has worked in the past
FYPs were first introduced in 1953 and since then have been recognized as the barometer of Chinas economic development process; since Chinas policy of economic openness was put into practice in 1978 (in late 6th FYP), the outlines have offered clear and detailed instructions of the direction of upcoming economic development in China. With its purposeful allocation of social resources, Chinas past performance has been strong. GDP growth and FYPs have historically shown a high correlation. FYPs have generally stimulated economic development, while lacklustre economic outcomes have helped decision makers adjust future FYPs accordingly. During the early years of Chinas economic operations (1st FYP period to 5th FYP period), its GDP growth was volatile. The country experienced a series of changes and tests such as socialist industrialisation transformation during the 1st FYP period, economic recession and three years of bad harvest during the 2nd FYP period, the cultural revolution (decade of chaos) during the 3rd and 4th FYP periods, and economic openness during the 5th FYP period. Since the 6th FYP, China has achieved stable development as it put most of its focus and social resources in developing economic growth, raising living standards and personal income. From December 1990, when the Shanghai Stock Exchange was founded, the Chinese capital market started to grow and became an important part of the national economy. Both the SHCOMP Index and HSCEI Index showed strong returns. The trend is more obvious for the HSCEI Index, as the 40 selected companies of the stock basket mainly consist of large-scale state-owned enterprises. Despite short-term exogenous factors which cause fluctuations, stock market trends have generally been in line with those of the national economy. Generally, the stock market is sensitive to economic changes and can see volatility.
With its purposeful allocation of social resources, Chinas past performance has been strong
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Henry Wu, CFA
Exhibit 55. Five Year Plan timeline v GDP growth
Source: CEIC, Bloomberg, www.people.com.cn, Nomura research
Under Chinas macro economic objectives, industrial targets are also set in the FYP to break down main tasks and strategic priorities. Taking advantage of a centralised management platform (the government monopolizes massive social resources), social resources are allocated purposefully. The force of policy under the China Model is so strong that it rarely fails to meet the governments objectives. We highlight the development trends of some sectors below to show how nationwide support has helped them.
Exhibit 56. Foreign trade take-offs after opening-up policy was put into practice (5th FYP)
(x) 6,000 base year: 1950 5,000 4,000 3,000 2,000 1,000 0
1951 1956 1961 1966 1971 1976 1981 1986 1991 1996 2001 2006
Exhibit 57. Government expenditure on education, science and civilisation increased after 6th FYP
(x) 3,000 base year: 1953 Agriculture Science Research Pension and Social Welfare
9th FYP Set 'Prosper China through science and education' as one of the fundamental
Export
Import Opening-up policy put into practice
2,500 2,000 1,500 1,000 500 0 1956 1961 1966 1971 1976 1981 1986 1991 1996 2001
6th FYP Put in 'develop education, science and civilization' for the first time
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Henry Wu, CFA
Exhibit 58. Employees by industry historical

(Person mn) 600 500 400 300 200 (30) 100 0 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 (40) (50) Primary (LHS) Tertiary (LHS) Secondary (RHS) Secondary (LHS) (% y-y) Primary (RHS) Tertiary (RHS) 20 10
Exhibit 59. Living standard improving

(RMB yuan) 35000 30000 25000 Average wage (LHS) Real wage growth (RHS) Real wage growth trend line R2 = 0.4086 20 15 10 5 20000 0 15000 (5) 10000 5000 0 1953 1958 1963 1968 1973 1978 1983 1988 1993 1998 2003 2008 (10) (15) (20)
0 (10) (20)
With GDP growing steadily, Chinas industrial structure has continued to improve. For the tertiary industry, its share of total GDP reached 43.36% by the end of 2009 and met the target before the end of the 11th FYP period (12th FYP target 43.3%). Meanwhile, contribution from the primary industry has declined from 20% to 10% since the end of 8th FYP period. Along with industry restructuring, the capital returns of corresponding industries headed in different directions. In our view, the main focus of the next FYP will be to strengthen the trend and keep the target of having more balanced economic growth in 2011-15. We believe support will continue to be given to consumption, energy saving and productivity improvements. In our view, the 12th FYP will be critical in helping to transform Chinas economic growth model from an investment-driven and energy-consumption-driven one to a more balanced and sustainable growth model. In Chinas policy-driven model, those sectors that benefit should see rapid industry growth and, hence, respective stock outperformance. Historical data backs this up. For example, the deep industrial restructuring of the past has led industrial companies to see their performance raised to the market average level as further development and overcapacity slowed. We are now more positive on the consumption sector.
Exhibit 60. Five-year closing price comparison (Coal & Oil Mining)
(%) 600 500 400 300 200 Closing price-total A share Closing price-Mining
Exhibit 61. A-Share Market Historical ROE (Coal & Oil Mining)
(%) 60 50 40 30 20
Mining
100
10
0
1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
(100) 9th FYP

Source: Wind, Nomura research
10th FYP
11th FYP (06~09)
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Henry Wu, CFA
Exhibit 62. Five-year closing price comparison (Commerce & Trading)

(%) 300 Closing price growth-total A share Closing price growth-Commerce& Trading 200
Exhibit 63. A Share Market Historical ROE (Commerce & Trading)

(%) 16 14 12 10 Commerce & Trading
100
8 6
4 2
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008 2008
9th FYP
10th FYP
11th FYP (06~09)
Exhibit 64. Five-year closing price comparison (Food & Beverage)

(%) 350 300 250 200 150 100 50 0 (50) Closing price-total A share Closing price-Food & Beverage
Exhibit 65. A Share market historical ROE (Food & Beverage)

(%) 25 20 15 10 5 0 Food & Beverage
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
9th FYP
10th FYP
11th FYP (06~09)
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2009
(100)
2009
(100)
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Chi Sun / Tomo Kinoshita
Preview of 12th Five-Year Pan
Five-Year Plans: development maps

The Five-Year Plan (FYP) is the governments comprehensive blueprint for mediumterm economic and social development. The FYPs, the first of which debuted in 1953, has traditionally provided policy guidance on Chinas economic development as well as developments in other areas, including science, society, and culture. We expect the 12th FYP, which starts from 2011F, will not only play a similarly important policy role for the next five years, but will be closely scrutinised by investors given concerns about the quality and hence sustainability of Chinas high rates of GDP growth. Apart from the national FYP, each government department releases industry-specific plans and each province (even cities and towns) also releases its own FYP. The FYP is a broad name for all such plans.
12th FYP a map to Chinas medium-term development
Timetable of 12th FYP

Given the importance of FYPs in guiding Chinas medium-term development, governmental departments, at all levels, usually spend more than two years formulating each FYP. The 12th FYP will pass through four stages, starting from the stage of the National Development and Reform Commission (NDRC), the key government agency for development plans, sending out potential topics to each department and district in late 2008, to the final stage of approval by the National Peoples Congress (NPC). See Exhibit below.
Preparation of FYP usually takes more than two years
Exhibit 66. 12th Five-Year plan process and timetable

NDRC issued '12th Five-Year Plan' topic selection guidance to all districts and departments
Nov. 2008
Jun. 2009
All districts and departments started to perform preliminary investigation, Periodical round-up submitted to the State Council
Oct. 2010
Discuss the draft 12th Five-Year Plan Outline at Fifth Plenary Session of the 17th Central Committee of the Communist Party of China
Mar. 2011
Discuss the plan and get approval by NPC
The 12th FYP has received increasing public attention since the Central Committee of the Communist Party of China (CPC) announced that the outline of the 12th FYP would be discussed at the Fifth Plenary Session of the 17th CPC Central Committee meeting in October. The October meeting will decide on the guiding principles, policy orientation and major objectives of the 12th FYP.
12th FYP will be discussed in October
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12th FYP: historical perspective

FYPs have historically set various targets that chart the basic direction of the economy (see Appendix 1 for the targets of previous FYPs and actual results). The important change implemented in the 11th FYP (2006-2010) was that it shifted away from previous plans, which had high growth as the dominant target. Under the 11th FYP, the 7.5% GDP growth target was characterised as an anticipative benchmark rather than an obligatory quantitative benchmark. In fact, the 11th FYP prioritised longer-run structural reforms: rebalancing the economic structure and highlighting environmental and social objectives. Most of the targets under the 11th FYP look as if they will be met, notably the GDP growth rate, which is set to average over 11.1%, though some targets are likely to be missed, including the target to improve energy intensity (use of energy to yield a unit of GDP). We believe that the aim of the 12th FYP will be to build on the structural reform agenda of the 11th FYP. Indeed, at the Summer Davos conference in Tianjin in September, Premier Wen Jiabao repeated an assessment that he has made before, namely that In the case of China, there is a lack of balance, co-ordination and sustainability in economic development. From an economic perspective, we expect that China is likely to focus on three priorities under its 12th FYP: boosting household income and consumption; promoting regional development and improving energy efficiency and protecting the environment. We will discuss these issues in the following chapters.
The most recent set softer targets and longer-range goals
12th FYP likely to focus on three properties, two of them more green than economics greater energy efficiency, protecting the environment
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Preview of 12th FYP policy direction 1
Boosting household consumption

We believe that the Chinese government will continue its current policy to promote household income and consumption in the 12th FYP through various measures including health-care reform, social security reform, agricultural reform, official minimum wage hikes and direct subsidies for purchasing certain products.
Not just a wealthier nation, but wealthier households
Background aiming to change the pattern of growth

In our view, there are two factors behind this policy to promote household income and consumption. One factor is the need to change the pattern of growth from investmentdriven growth to more consumption-oriented growth as the current configuration is not sustainable in the long run. Chinas investment (gross fixed capital formation) to GDP ratio took off after its accession to the World Trade Organization (WTO) in 2001 it reached 45.5% in 2009, up from 34.6% in 2001. On the other hand, the ratio of private consumption to GDP declined steadily from 45.3% in 2001 to 35.6% GDP in 2009 (see Exhibits below).
Two factors behind the government policy to promote consumption
One factor is the need to change the pattern of growth from investment-led growth
Exhibit 67. Household consumption, % GDP

(% GDP) 80 70 60 50 Rural household consumption Urban household consumption
Exhibit 68. Investment and net export, % GDP

(% GDP) 60 50 40 30 Gross capital formation Net exports
40 30 20 10 0 1952 20 10 0 (10) 1952
1960
1968
1976
1984
1992
2000
2008
1960
1968
1976
1984
1992
2000
2008
Source: CEIC; Nomura research
The fundamental reason to invest is to increase the capacity for producing goods and services, in anticipation of future demand for such goods and services. The rapid increase in investment in China implies that Chinese entities expect a substantial increase in demand for their products. This strategy to invest aggressively appears to have worked well the expanded pool of production facilities has been used to meet rises in demand for both domestic consumption and exports. The stable inflationary environment that China has experienced over the past decade is partly the result of this high investment rate, which has enabled production capacity to increase to meet rising demand, without causing bottleneck inflation. Since investment is a forward-looking activity, the high ratio of investment-to-GDP that China is experiencing can be justified and sustained only if China maintains the high level of growth in demand for both domestic consumption and exports. However, the growth in demand for exports in the medium term looks increasingly uncertain and China is already the largest exporter in the world. The continuation of government stimulus plans is not a long-run solution to this issue, given the impact on fiscal sustainability. This leads to our conclusion that private consumption needs to grow robustly if China aims to maintain a high GDP growth rate in the medium term.
The Chinese economy has been able to run at full steam without inflation, as the nation has saved the excess
Investment-led growth is arguably not sustainable: time to find growth at home
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The structure of Chinas economy is partly the result of a history of policies biased to capital accumulation. Government spending is geared more to investment in physical infrastructure than health and education. Industrial firms were promoted through favourable tax treatment as well as under-pricing of inputs, including capital, energy, and natural resources, in an effort to build an export powerhouse. The government did not encourage companies to raise the labour share of income (share that workers receive out of total surplus) under relatively loose labour market conditions. The Hukou system also discriminated against migrant workers. The second factor is income inequality. The falling share of consumption (especially for rural households) has caused social instability issues. For example, more crimes caused by social hatred have been reported (for example, the kindergarten tragedy, Caixin Weekly, 15 May, 2010). If the rural population does not sufficiently share the benefits from economic growth it is hard to expect it to support such a growth pattern for long. If the government can succeed in accelerating incomes of the poorer segments of the population, consumption can rise disproportionately owing to the greater propensity to consume in low-income households. The Exhibit below (righthand side) shows that apart from the high-income group, rural households have a higher propensity to consume than their urban counterparts, particularly in the case of low-income households.
Also interesting for a socialist communist country is that China has looked to grow industry, less to let workers share in the gains
Another factor is income equality; without this, social harmony, which the government values, is hard to maintain
Exhibit 69. Real growth of consumption and investment

Real growth rate (%) 35 30 25 20 15 10 5 0 (5) 1979 1983 1987 1991 1995 1999 2003 2007 2011F
Source: CEIC; Nomura research estimates
Exhibit 70. Propensity to consume by income level (2008)

Forecast
Gross capital formation Household consumption
1.6 1.4 1.2 1.0 0.8 0.6 0.4 0.2 0.0 Low
Urban
Rural
L middle
Middle
U middle
High
Source: CEIC; World Bank; Nomura research
Various polices expected in the 12th FYP

As part of the fiscal stimulus programme implemented at the onset of 2008 global financial crisis, China introduced policy measures to directly stimulate consumption through various subsidies, including the electric appliance to the countryside programme and automobile to the countryside programme. While some of these policies are due to expire in a few years, there is a high possibility, in our view, that the government extends existing programmes or introduces new kinds of direct subsidy programmes to stimulate consumption. Another measure to directly stimulate consumption is the policy to raise minimum wages. The majority of provincial governments already raised minimum wages substantially (typically 20% or more) this year, after a pause in 2009. We expect the central government to encourage local governments to raise minimum wages under the 12th FYP. Reflecting Chinas rapid economic development and its ageing population, we generally see a rising trend of wage growth and we think the government will introduce policies to promote this trend, in a bid to rebalance economic growth toward consumption and to make sure that the low-income population also benefits from this general trend. In fact, Mr Huang Mengfu, ViceChairman of the National Council of Chinese Peoples Political Consultative
Policy of direct consumption subsidy might be extended in the 12th FYP
Policy to hike minimum wage substantially might also be included
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Conference and Chairman of the All-China Federation of Industry and Commerce mentioned the intention to raise the minimum wage by more than 20% annually for the next five years, according to South China Morning Post, 21 September. On top of boosting rural incomes, the 12th FYP is likely to emphasise agricultural reform as another way to improve the living conditions of low-income households. We expect the government to continue to support farmers through measures such as setting relatively-high minimum prices for agricultural products and providing subsidies to agricultural production. China is also likely to introduce measures to strengthen the social welfare system such as healthcare, social security and education in the 12th FYP that indirectly stimulates consumption by reducing the high precautionary saving rate of households. Although the government started to accelerate reform in these areas at the onset of the global crisis, it is likely to take further steps to widen the social safety net. It has increased fiscal spending on social welfare by more than 20% pa since 2004, which has lifted welfare expenditure to more than 15% of total fiscal spending (next Exhibit, left).
Agricultural reform will try to raise income of rural households
Policies to improve social security, healthcare and education are likely to be included
Exhibit 71. Fiscal expenditure on social welfare (healthcare and social security)
(% y-y) 40 Share of social welfare expenditure in total fiscal expenditure (RHS) Growth of welfare expenditure (LHS) 30 15 (%) 16
Exhibit 72. Household consumption basket
(% share) 45
Rural household
Urban household
30
Goods
Services
20
14
15
10
13
0 Clothing Healthcare Food Residence Home applicances Insurance T&C REC Financial Others
0 2001 2002 2003 2004 2005 2006 2007 2008 2009

12
Note: T&C stands for transportation and communication, REC stands for recreation, education and cultural services. The distinction between goods and services should be taken as a rough guide only, because some of the categories include goods and services. Source: CEIC, World Bank, Nomura research
Other factors to support consumption growth

China is at a stage of economic development that is conducive to robust growth in household income and consumption. 1. Relatively low-income economy Chinas GDP has been growing at an average 10% annually for 30 years, and except for two years (1998-99) after the Asian financial crisis, China enjoyed more than 8% annual GDP growth for two decades (see Exhibit below).
GDP growth has been a powerhouse for a generation
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Exhibit 73. Chinas real GDP growth

(% y-y) 16
12
0 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008
Source: CEIC and Nomura Global Economics
Owing to the rapid growth of the past three decades, China surpassed Germany in 2009 to become the worlds third-largest economy in terms of nominal GDP (measured in US dollars at market exchange rates), with a nominal GDP of US$4.9tn (see Exhibit below). Recent data suggest China surpassed Japan in the first half of this year, and is now the worlds second-largest economy (see Exhibit Size of nominal GDP and GDP per capita China versus Japan).
Exhibit 74. The worlds largest economies by nominal GDP (2009)

(US$trn) 16 14 12 10 8 6 4 2 0 Japan China Brazil Italy Spain France Germany Canada India US UK
Exhibit 75. Countries by GDP (nominal) per capita (2009)

(US$) 50,000 45,000 40,000 35,000 30,000 25,000 20,000 15,000 10,000 5,000 0 Spain Brazil Italy Canada France Japan Germany China India US UK
Note: GDP is measured in US$ at market exchange rates. Source: World Bank and Nomura Global Economics
Note: GDP per capita is measured in US$ at market exchange rates. Source: World Bank and Nomura Global Economics
However, because it has the largest population in the world (1.3bn), China is still a low-income economy in per capita terms. Indeed, China is not in the top-100 countries by GDP (nominal) per capita. Chinas GDP per capita is only 8% of that of the US, and 45% of Brazils (Exhibit above). A closer comparison, with Japan, shows that Chinas current GDP per capita is similar to what Japans was in 1974, though total nominal GDP in both economies is now similar (see Exhibit below).
Income and consumption should grow fast from the current, relatively low income level
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Exhibit 76. Size of nominal GDP and GDP per capita China versus Japan
(US$trn) 6 5 4 Japan's GDP (LHS) 3 2 1 0 1970 1978 1986 1994 2002 Japan GDP per capita (RHS) China GDP per capita (RHS) China's GDP (LHS) (US$) 45,000 40,000 35,000 30,000 25,000 20,000 15,000 10,000 5,000 0 1H2010
Notes: For 1H10, GDP is annualised by taking the sum of GDP in the four quarters to 2Q10, while we estimate the population by assuming it grew by half the rate in 2009. Source: CEIC and Nomura Global Economics estimates
We believe China is still in a rapid developmental growth stage, with multiple factors favourable for growth including urbanisation, a rising middle-class population and developing infrastructure, especially in the inland regions, which should help raise productivity in various industries. 2. Urbanisation China embarked on its urbanisation process in 1949, when only 10.6% of its population lived in urban areas. By 2009, its urbanisation ratio had risen to 46.6%, which implies that 391mn people have moved from the countryside to cities during this period (see Exhibit below). Yet based on the experience of other countries, we believe Chinas urbanisation still has a long way to go indeed, it is a natural process of economic development as the rural labour reallocates to higher-paying jobs in the cities.1 We expect Chinas urbanisation ratio to rise to 53.2% by 2015F and 68.9% by 2030F. In other words, we expect another 150mn people to leave rural areas for cities over the next 10 years and for that number to reach 300mn over the next 20 years. (See China: Urbanisation as a growth driver, Global Weekly Economic Monitor, 20 August, 2010, for more details).
Urbanisation should support growth in income and consumption
Exhibit 77. Number of people being urbanised, per annum

(Million) 20 Forecast
15
10
0 1981 1986 1991 1996 2001 2006 2011 2016 2021 2026
Source: CEIC and Nomura Global Economics estimates
Chinas urbanisation ratio, at 46.6% in 2009, was achieved by Japan in 1964 and South Korea in 1974; it is roughly half of the current ratio of the UK and the US, and is shy of the global average of 49.9%.
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Household consumption should grow strongly alongside urbanisation. Household consumption data show that, consistent with much higher income levels, urban households (per capita) spent 3x as much as their rural counterparts in 2009 (next Exhibit).2
Chinas urbanisation ratio is still relatively low
Exhibit 78. Consumption and savings breakdown of household incomes

(RMB, per capita) 18,000 15,000 12,000 9,000 6,000 3,000 0 Urban Urban Urban Urban Urban Urban Urban Urban Urban Urban Rural Rural Rural Rural Rural Rural Rural Rural Rural Rural Consumption Savings
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
Notes: Savings is defined as disposable/net incomes minus consumption expenditure. Source: CEIC, Nomura Research estimates
The composition of total consumption should also change, as urban households tend to spend more on transportation and telecommunication, recreation, education and cultural services, as well as clothing (next Exhibits). Rural migrants to the cities are likely to spend a larger share of their expenditure on such items.
Exhibit 79. Urban household consumption breakdown

Recreation, edu & cultural service 11% Others 4%
Exhibit 80. Rural household consumption breakdown

Cultural, Commodity & service edu & 3% recreation 8% Food 38%
Medicine & medical service 6%
Food 37%
Traffice & communication 11% Medical care 7% Household facility & service 6%
Transport & telecom 15% Household facility & service 6%

Residence 8%
Clothing 13%
Residence 17%
Clothing 10%
Urbanisation could also be a boon for a more sustainable expansion of the manufacturing sector. Ownership penetration of many consumer durable goods is far higher in urban than rural households. In 2008, on average, every 100 urban households owned 133 colour TV sets, 95 washing machines and 39 cameras. The corresponding figures for rural households were 99, 49 and four (next Exhibit). Higher urbanisation should therefore help reduce manufacturing overcapacity. It could also
Urbanisation creates positive feedback loop through a rise in demand for manufacturing goods
2 In 2009, average annual disposable income per capita of urban households in China was RMB17, 175 more than triple that of rural households (RMB5, 153)
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create a positive feedback cycle as stronger demand for manufactured consumer goods creates more urban jobs.3
Exhibit 81. Ownership of durable consumer goods (2008)

(Units per 100 households) 150 120 90 60 30 0
Motorcycle Washing Refrigerator Color TV Machine set Camera Air Computer Mobile Telephone conditioner Telephone
Urban
Rural
Source: Statistical Yearbook 2009, Nomura research
Urbanisation should also help underpin investment, as demand for housing increases. While most may not be able to afford property immediately after their migration to the city, we would expect to see significant demand for low-rent housing and affordable houses. Sustainable construction investment on both commercial projects and public housing should bring benefits for many years while also supporting a positive mediumto long-term outlook for the property market (see Chinas property bubble, Global Weekly Economic Monitor, 1 November, 2008).
Massive demand for urban housing could be created
3 When household income reaches a certain level in cities, demand for services increases, and thus service jobs should increase in number. As such, the eastern region could absorb new migrants by boosting the service sector (which is labour-intensive), while we think manufacturing will move inland.
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Promoting regional development

We expect the 12th FYP to prioritise regional development and to promote individual regional development plans, given the wide economic disparity among regions. There is no doubt that the local governments play an important role in Chinas economic development, especially through the investment channel. The role has become even more important since the financial crisis as the central government disbursed only RMB1.18tn out of the RMB4trn stimulus plan announced in late 2008. Although the local governments themselves spent less than RMB2trn, de facto spending should have amounted to much more than that, if we include the project spending financed by local government financing platforms (LGFPs). The amount of borrowing by LGFPs from banks amounted to RMB7.4tn at end-2009.
Local governments play important roles in regional development
17 Regional plans already under way

Since late 2008, the State Council has approved 10 regional development plans, the NDRC approved seven such plans, and four more are in pipeline. (See Appendix 2 for a detailed list.) If we mark those regional plans on a geographic map, it is clear that China is promoting economic development in most of the country. The development period for most of these plans is very long, spanning to 2020F, which suggests that the 12th FYP, which focuses on long-term development, is likely to promote these existing plans. The involvement of the central government is key, since provinces tend to compete with each other for economic growth, which tends to result in redundancy issues. When the development is coordinated well across multiple provinces, the projects should be more effective and efficient from a national perspective.
Central government already approved various regional plans that last until 2020
Strong focus on developing Central and Western China (CWC)

As far as the regional focus is concerned, we expect the 12th FYP to continue to focus on the central and western regions (Central and Western China (CWC)), with an emphasis on improving the infrastructure and investment environment (see Exhibit below). Eastern China is more developed commercially and economically, while CWC has low per capita GDP but is rich in natural resources and labour.
Central and western regions should continue to be promoted
Exhibit 82. The geographical location of the three regions
West Central East

Jilin Xinjiang Gansu Ning xia Liaoning Beijing Tianjin Hebei Shandong Heilongjiang
Qinghai Tibet
Jiangsu Shaanxi Henan Shanghai Anhui Hubei Sichuan Sichuan Zhejiang Chongqing Guizhou Yunnan
xi
Hunan
Jiangxi Fujian
Guang Guangxi Guangdong
Hongkong Taiwan Macau
Hainan
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Development history of CWC. Beginning with the market-based economic reforms of the 1980s and 1990s, the central government started favouring the Eastern region, owing to its potential to better adapt to market mechanisms due to its easier access to international trade and foreign investment. As a result, disparities among the three regions broadened as Eastern China spearheaded the nations economic growth while the other regions lagged (see Exhibits below).
Exhibit 83. Per capita GDP (level vs growth)
Exhibit 84. Share of nationwide GDP by region contribution

(RMBbn) 20,000 18,000 16,000 14,000 12,000 10,000 8,000 6,000 4,000 2,000 0 Primary
(RMB) 45,000 40,000 35,000 30,000 25,000 20,000 15,000 10,000 5,000 0 2000 2001 2002 2003 2004 2005 2006 2007 2008 Eastern Central Western
(Growth %) 350 300 250 200 150 100 50 0 2009
Eastern
Central
Western
Secondary
Tertiary
After 20 years of rapid economic growth in the East, the government in the late 1990s started turning its attention to promoting growth in CWC via increased fiscal transfers, infrastructure investment and other preferential policies all aimed at reducing regional disparity, facilitating industrial migration and rebalancing the economy away from the risk of over-dependence on exports. The government officially launched its western development plan in 2000, followed by boosting central region plan in 2006. The success of those special economic zones and sustained high economic growth strengthened Chinas fiscal conditions over time, which enabled the government to embark on its strategic development in CWC. CWC set to grow robustly. CWC has much lower labour and land costs than the Eastern region. For example, in 2008, average urban disposable income in central provinces was 30% lower than in the East; in 2009, land for commercial use in Wuhan (a major central city) was 65% cheaper than in Nanjing (a major eastern city). In addition to a large labour force with relatively low labour and land costs, CWC has more natural resource reserves. For example, 20% of Chinas natural gas reserves are in the Central region and 69% in the Western region. Nearly all of Chinas coal reserves are in the Western (84%) and Central regions (13%) (next two Exhibits).
Western development plan started in 2000, followed by boosting central region plan in 2006
CWC has lower cost advantages
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Exhibit 85. Natural gas reserves, % share of total

Eastern, 11%
Exhibit 86. Coal reserves, % share of total

Eastern, 3%
Central, 13%
Central, 20%
Western, 69%
Western, 84%
Source: CEIC, Nomura research estimates
Source: CEIC, World Bank, Nomura research
Expect relocation of manufacturers from Eastern China to CWC. The Eastern region has higher costs than CWC, particularly for land and labour, as the Exhibit below shows. Industrial-use land prices in Nanjing (Eastern) are about 1.5x as much as in Wuhan (Central) and Chengdu (Western) (see Exhibit below on the right). Rising costs and a subdued export outlook are important push factors for low-end manufacturers to relocate inland, and leave the Eastern region for high value-added, more service-oriented industries.
Exhibit 87. Average wages by regions (2009)

(RMB) 70,000 60,000 50,000 40,000 30,000 20,000 10,000 0
Inner Mongolia Guangxi Hainan Chongqing Sichuang Guizhou Yunnan Tibet Shaanxi Gansu Qinghai Ningxia Xinjiang Shanxi Jilin Heilongjiang Anhui Jiangxi Henan Hubei Hunan Beijing Tianjin Hebei Liaoning Shanghai Jiangsu Zhejiang Fujian shangdong Guangdong
Exhibit 88. Industrial-use land price (2009)

(RMB/sqm) 1,200 1,031 1,000 800 600 400 200 0 Nanjing Wuhan Chengdu 694
653
Source: CEIC, Nomura research estimates
Source: CEIC, World Bank, Nomura research
Also, the improvement in the investment environment in CWC through development projects should be an important pull factor for low-end manufactures in the Eastern region to move to CWC, in our view. Eastern China is now the most developed and the most densely populated region. It covers only about 11% of Chinas total land mass but holds 47% of the total urban population (56% urbanisation ratio) and contributed 58% to Chinas total GDP in 2009 (next Exhibit). Secondary industries (eg, metals, mining, power, gas and water supply, and construction) are predominantly located in Eastern China (58%), as are tertiary (service) industries (62%).
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Exhibit 89. Vital statistics on the Eastern, Central and Western regions (2009)
GDP (RMBbn) Eastern Central Western Total 20,974 8,563 6,687 36,223 (%) GDP per capita (RMB) Population (mn) 58 24 18 100 40,118 20,375 17,058 22,698 523 420 392 (%) 39 32 29 Urbanisation % 56 43 38 47 Size (000 sq km) 1,060 1,630 6,910 9,600 (%) 11 17 72 100
1,335 100
Note: National GDP per capita figure is for 2008. Source: National Statistics Bureau, Nomura International (Hong Kong) Limited
With cheaper labour and land costs, rapidly rising household incomes, ongoing improvements in infrastructure and favourable government policies, CWC looks set to become the growth engine of the Chinese economy over the next decade or two. Of the 65 economic indicators available with a regional breakdown, 43 show that CWC is already starting to outpace Eastern China in terms of growth over the past two to three years. In particular, real GDP growth in CWC has, for the first time in decades, exceeded that of the East in two consecutive years (2008 and 2009) (for details, see our Anchor Report: New dawn for Central and Western China,16 April, 2010). In addition to the development plans, the central government implemented the following three policies to support the regional developments.
We expect some manufacturers in the East to move to CWC
Supporting policy 1: policies to promote industry transfer

The government issued an important guideline on industry transformation to central and western China on 31 August. This followed a demonstration project to transfer industries to Wanjiang City Belt announced in January. In this new guideline, the State Council aims to encourage industry transfer on a broader base in terms of both geographic and fields of industries. The central government will provide six supportive policies: Fiscal subsidies on interest rates of loans to public infrastructure investment in national technical and high-tech development areas; Revising investment guide lists, adding more labour-intensive industries; Providing financing support to parties that undertake industry transfer; Favoured land policy and flexible rental system; Building a special custom zone, which is convenient for exporters; Promoting cross-region R&D cooperation. The guideline also highlights seven industries that the government encourages to transfer inland: Labour-intensive industries, such as textile, clothing, toys, and home appliances; Mineral and energy exploitation and processing industries (at the same time eliminating old production capacity during the transfer); Agricultural goods processing, promoting modern agriculture; Equipment manufacturing, encouraging M&A to improve the whole production chain of equipment manufacturing; Modern service industry, including trade, logistics, culture, and tourism, as well as international service outsourcing; Hi-tech industry, especially strategic industries like neo-energy, neo-material, and IT tech; Processing industry, upgrading processing and assembling trading during the transfer.
Recent policy initiatives should support industry transfer to CWC
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With this detailed policy guideline we expect a substantial number of manufacturing enterprises to move inland. In addition, China is trying to realise industrial upgrading in the process, as the policy calls for the environment to be considered and to upgrade processing and assembling trading during industry transfer.
Supporting policy 2: policies to promote the logistics industry

The role of the logistics industry should naturally become more important when companies move their facilities to CWC, since it should increase transportation demand, which creates demand for further infrastructure investment in transportation and storage. Given the importance of logistics in industrial transfer, we expect the 12th FYP to promote this industry. In fact, the State Council already released a notice on the logistics development plan (2009-2011) in March. In this three-year plan, the government highlighted nine logistics regions, 10 logistics channels and 21 national key cities, as well as 17 regional key cities. To build a seamless logistics network, the notice called for infrastructure projects to link between different modes of transportation. As part of the stimulus package, this logistics plan is only designed for three years. Rising demand for logistics, in our view, should lead to a revised and expanded new medium-term plan for this industry.
Promoting logistics industry in CWC should support development
Supporting policy 3: policies to encourage private investment

Given the substantial borrowing activity by local governments through local government financing platforms (LGFPs), the central government has become increasingly concerned about the financial health of LGFPs. The China Banking Regulatory Commission (CBRC), for example, ordered banks to adopt more prudent lending policies toward LGFPs. The government on 19 August also requested local governments to report the financing conditions of LGFVs by the end of October 2010 to the central government. Given the more stringent prudential measures on LGFPs borrowing, local government might face financing constraints in implementing the approved projects. However, we expect the liberalisation of capital markets and financial reform to be key elements of the 12th FYP, opening up new sources of capital market financing for local governments to implement their investment plans. On 13 May, the Chinese government announced Notes on encouraging and guiding the healthy development of private investment (the so-called New 36 Bullet Points). The industries newly opened to private investment, by way of the New 36 Bullet Points policy, include: transportation, irrigation works, electric power, oil and gas, telecommunication, land conservation and mineral exploration, municipal administration, construction of policy-related residential property, medical service, education and public training, social welfare, finance, commercial transport.4 This new policy opens up the traditional monopoly industries, standardises the investment access threshold, specifies the scope of government investment, and adjusts the structure of state-owned investment and private capital. In addition, the State Council in July announced a notice to encourage the implementation of the New 36 Bullet Points. We believe the new rules allowing private capital into most industries are a significant development, allowing local government development projects to depend less on bank loans and more on direct financing. Deeper capital markets can also play an important role in helping to allocate financial resources more efficiently. We believe that the medium-term impact of the New 36 Bullet Points on the economy will be substantial in paving the way for the next wave of investment, enhancing competitiveness and efficiency, and encouraging further reforms in tax and pricing regimes (see China: Engaging private investment, Global Weekly Economic Monitor, 24 September, 2010, for more details).
The rules would break monopolies in some areas. For instance, private capital is now allowed to solely control or take a controlling stake in construction projects of highway, water transportation, port, civil airport, general aviation facility, hydroelectric power station, and thermal power stations. The only industries where the New 36 Bullet Points do not allow private capital to take a controlling stake are in projects of telecommunication, nuclear power, and oil and gas industries.
4
New 36 Bullet Points should help finance regional development
Now 36 Bullet Points will be one milestone
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Improving energy efficiency and protecting the environment

Efficient use of natural resources and protecting the environment has become one of the top policy priorities in recent years. We believe that the 12th FYP will focus on these issues as they are now recognised as very important elements in sustaining relatively-high economic growth.
Energy and environmental issues have become one of the top priorities
Background growth sustainability is at risk

Historically, Chinas economic growth has relied heavily on industry and construction. Such a growth pattern consumes a lot of energy and can be harmful to the environment especially in the absence of strict environmental regulations. According to estimates by BP, in the past three decades, Chinas primary energy consumption has increased by 4.8x, to 2,003mn tonnes oil equivalent in 2008, from 416mn tonnes oil equivalent in 1980. The share of Chinas primary energy consumption in world energy consumption jumped to 17.7% from 6.3% in the same period (next Exhibit). Chinas energy consumption has sped up in the past 10 years, growing by 8.9% per annum. If this pace continues, Chinas primary energy consumption in 2020 will reach 5,572mn tonnes of oil equivalent 2.8x as much as China consumed in 2008. It is not clear whether the world can support such an increase in energy consumption without major technology breakthroughs. Under these supply constraints, market forces are likely to increase energy prices. The Exhibit below right shows that the crude oil price since 1990 has had a strong relationship with increasing primary energy consumption in China. We think likely higher energy prices will act as an important force, pressuring China to change its development pattern.
Energy might become a constraint to sustained growth
Exhibit 90. Primary energy consumption

(Million tonnes oil equivalent) 2,500 2,000 1,500 US China Russian Federation Japan India
Exhibit 91. Energy consumption versus oil price

(million tonnes oil equivalent) 2,500 US, lhs China, lhs crude oil price, rhs (USD/bbl) 120 100 2,000 80 1,500 60 40
1,000 500 0 1965 1968 1971 1974 1977 1980 1983 1986 1989 1992 1995 1998 2001 2004 2007
1,000 20 500 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008
Source: BP; Bloomberg; Nomura Research estimates
Source: BP; Nomura Research estimates
Supply constraints on other natural resources, like water, are currently not as visible as for energy, but the impact is likely to be usually long-lasting. For example, water consumption per capita is a key indicator of living standards, and thus water consumption is expected to rise in step with rising GDP per capita (next Exhibit). Chinas per capita quantity of water flow is 2,200 cubic metres, only 24.7% of the worlds average water flow level. In addition, water reserves in China are concentrated in south China, while arable lands are concentrated in the north. The north China plain, the main area of wheat and cotton production, has cultivated about 40% of total arable land but has only 6% of total water reserves in the country.
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Water pollution from a factory can kill a whole river ecosystem and clean-up costs can be high. We note an increase in media reports (for example, Ting River contaminated with acidic copper waste, Caixin Weekly, 15 July, 2010) on pollution spills with large negative social and economic consequences. For example, Zijin Mining (a listed mining company) did not disclose the above pollution incident in timely fashion, prompting the Shanghai Stock Exchange to release a new rule requiring listed companies to disclose information on any serious environment accident within two days a step that is likely to increase investor scrutiny of environmentally unsafe companies. In our view, China needs to deal with energy and environmental issues before the costs become too high to sustain its high economic development path, and we believe that Chinese policymakers understand this.
Exhibit 92. Chinas national water demand

(bn m3)
1,400 1,200 1,000 800 600 400 200 0 2000 2008 2010F 2030F 2050F 550 58 114 378 591 73 140 366 642 78 155 605 397 750 979 120 236 Environmental Industrial Agriculture Residential 1212 148 292
Source: State Bureau; National Water Resources Development Statistical Communique;; Nomura Research estimates
Decisive policy actions are expected

The 12th FYP is likely to include strict policies to promote the efficient use of energy and to protect the environment. China had already set a strict target for energy consumption in the 11th FYP; in particular, it tried to lower energy consumption of per unit GDP by 20% over the five years. Partly because of the massive investment drive to cushion the economy from the global financial crisis, the government was falling behind the 11th FYPs energy consumption target.5 So, this year, in a demonstration of the governments resolve, it has stepped up its efforts to come as close as possible to the target. In August 2010, it ordered 2,087 companies to close energy-inefficient factories by the end of September 2010, while it removed the redemption of value added tax for energy- and natural resource-intensive export items in July 2010, despite the consequent negative impact on exports and GDP in the short run. The NDRC announced on 21 September that all fixed-asset investment projects launched after 1 November, 2010, would be subject to energysaving assessment, without which projects will not receive approvals. China stated last December at the Copenhagen Climate Conference that it will reduce carbon intensity (carbon released per unit of GDP) by 40-50% in 2020. We think this target will form the basis of policies under the 12th FYP to further restrict energyinefficient and environmentally unfriendly projects.6
We expect the government to pursue carbon intensity targets We expect the 12th FYP to continue to promote the efficient use of energy
In several regional development plans, the environmental targets are not only set by the central government, but are a fundamental factor for sustainable development, and in certain regions for example, the Yellow River Delta economic zone with its efficient eco-development plan environmental improvement has been treated as being as important as economic development 6 Reforms are needed to make it profitable to be energy efficient and to spur recycling. For example, household rubbish recycling projects are running in Taiyuan (a city in Shanxi province) since the local government charged fees for waste disposal. This new business model is likely to be replicated by many other cities in the years ahead.
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Exhibit 93. A brief of historical plans

Period Five-year plan target highlights Achievements and lessons Initially completed the socialist industrialisation transformation, by the end of 1957. The proportion of heavy industry output to total value of gross output rose from 26.4% to 48.4%. The proportion of capital loans to total fiscal expenditure rose from 30.2% to 48%. Excessive development of industry led to agriculture being neglected. The speed of agriculture development did not match that of industry.
1st FYP (1953-1957)
Perform socialist transformation of individual handicraft, individual farming and other private industries. Set up basis of socialist industrialisation. Speed up industrial development, especially for heavy industry.
2nd FYP (1958-1962)
Insist on heavy-industry-focus development pattern. Further consolidate and expand the system of ownership of the whole people and collective. Give priority to develop industry (double the value of industrial gross output), agriculture (increase 35% of agriculture gross output) and handicraft industry; develop transportation and commerce. Develop education to meet the needs of development. Strengthen national defence capability. Double the investment in capital construction.
Too aggressive development target resulted in imbalance within national economic system. Financial deficits occurred in successive years. Economic problems were exacerbated by three years of bad harvests in China from 1960 to 1962.
Phase of adjustment (1963-1965) 3rd FYP (1966-1970)
N.A.
Give priority to agriculture development. Strengthen national defence capability. Corresponding develop industry, transportation, commerce, civilization, education, science. Achieve 12.5% five-year average y-y growth in gross output of industry and agriculture. Make RMB130bn investment in capital construction over five years. By 1975, achieve annual production of grain (300-325bn kg), cotton (65-70mn tonnes), steel (30mn tonnes), raw coal (400-430mn tonnes). Shift in focus to socialist modernisation and economy development. Improve government finances. Achieve 4% average y-y growth in industry and agriculture output. Increase consumer goods supply and improve product quality to meet consumption demand. Cut down depletion of resources. Develop education, science and civilisation. Strictly control population growth. Develop business and economics, make good use of foreign capital and technology. Protect environment, reduce pollution. Achieve 6.65% average y-y growth in industry and agriculture output (4% for agriculture and 7.5% for industry respectively). By 1990, achieve annual production of grain (425-450bn kg), cotton (4.25m tonnes), steel (55-58mn tonnes), raw coal (10bn tonnes). Gradually put into practice the nine-year compulsory education policy. Develop education, science and civilisation. Keep the balance of social consumption demand and supply. Develop import and export business, expand the use of foreign capital and technology. Raise living standards, achieve 5% average y-y growth in household consumption capability during the period. Keep the balance in government finances.
N.A.
Removed the development key focus from industry to agriculture and national defence. Emphasised balanced development of national economy.
4th FYP (1971-1975)
Adjusted down the economic development target to make it reasonable and feasible. Completed most of the target, except for the production of cotton and steel. Great increase achieved in GDP, industry and agriculture output, national income. Opening-up Policy put into practice Fiscal surplus. Achieved 11% average growth in industry and agriculture output Great increase achieved in the production of steel, coal, raw oil, grain, cotton. Great increase achieved in investment in capital construction. Government financial situation continued to improve; balanced income and expenditure. The value of exports ranked 10 worldwide by the end of 1984. Great increase achieved in household income.
5th FYP (1976-1980)
6th FYP (1980-1985)
7th FYP (1986-1990)
Achieved 19.7% five-year CAGR of industrial output and 14% average growth of primary industry. Achieved over 7% average GDP growth. Achieved 4.3% average FAI growth. Improved the national economic structure; the GDP contribution of primary, secondary and tertiary industry was 27.1%, 41.6% and 31.3%, respectively, at period end. The total value of foreign trading achieved 10.6% average y-y growth. The total retail sales achieved 3.3% average y-y growth. Household income per capita increased above 5% average y-y growth.
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Period
Five-year plan target highlights
Achievements and lessons Achieved 11% average y-y growth in the period; GNP of 1995 is 4.3x that of 1980. Production of coal, cement, cotton, grain, meat ranked top in the world, while steel and chemical fibre ranked 2nd. Achieved 17.9% average y-y growth in FAI, 13.6 pct higher than in the preceding period. Secondary industry and territory industry GDP average growth reached 17.3% and 9.5%, respectively. The proportion of these two industries to total GDP rose accordingly. Total export and value doubled in the period, with 19.5% average y-y growth. Household income increased with 7.7% average y-y growth, 3pct higher than in the preceding period. Retail sales achieved 10.6% average y-y growth. Average per capita floor area for urban and rural households reached 7.7 sqrm and 20.5 sqrm. Achieved 8.3% GDP average y-y growth. Urban household income per capita and rural net household income increased at CAGR of 8% and 7%, more than planned. 13.7% y-y CAGR of government expenditure in science and research. The population in 2000 was 1.27bn, within the target. GDP per capita of 2000 was RMB7,857 16.96x of that of 1980. Achieved 9.8% GDP average y-y growth Agriculture employees decreased by 20.73mn during the period, while secondary and tertiary industry employees increased by 58.13mn. The urban unemployment ratio ranged from 3.2% to 4.3% (below 5% target) over the five years. GDP contribution of primary, secondary and tertiary industry in 2005 reached 12%, 47% and 41%, respectively. Urbanisation rate stood at 43% in 2005. RR&D expenditure to GDP ratio reached 1.3% in 2005 short of the 1.5%. Total population at the end-2005 was 1.211bn, within the 1.33bn target. Industrial solid waste discharge was reduced at a -12% CAGR from 2000 to 2005, while industrial air emissions and water discharge still increased in volume. Average per capita floor area for urban and rural household stood at 26.11 sqrm and 29.68 sqrm in 2005, respectively. Initiated strategies of 'Western Development', 'Revitalising Northeast China' and 'Rising Central China'. GDP growth in 2006-09 was 12.7%, 14.2%, 9.6% and 9.1%, respectively. The GDP contribution of tertiary industry to total GDP increased from 40.9% to 43.4% from 2006 to 2009. The R&D expenditure to GDP ratio rose from 1.39% in 2006 to 1.60% in 2009 not reaching 2% target. Policies were issued to encourage energy-saving industry and stimulate rural consumption. Comparing 2009 energy consumption of per unit GDP with that of 2005, the ratio is down by 16%, for a -4% CAGR. Per capita disposable income of urban residents and per capita net income of rural residents reached RMB13,175 and RMB5,153, respectively, by end of 2009. By the end of 2009, urbanisation rate stood at 46.59%. Industrial solid waste discharge was reduced at a -22% CAGR from 2005 to 2008, while industrial air emission and water discharge still increased in volume but with lower growth rate. Since from 2006 to 2008, 1.196mn km of country roads had been built or upgraded. Nomura recent research report showed that 43 measures out of 65 economic indicator of Central and Western China have already outpaced growth in Eastern China (New dawn for Central and Western China, Anchor report, 16 April 2010). New policies has been issued to allow PE to participate in middle and small size financial institution set up and reform The export and import growth from 2005~2009 achieved 6.97% and 6.04% CAGR, respectively, despite of the economic crisis
8th FYP (1991-1995)
Maintain rapid growth in national economy. Maintain growth in key products, eg, coal, cotton, grain, meat. Speed up fixed asset investment. Balance development of social economy. Continue to practice opening-up policy. Increase household income, improve living environment. Control the growth of population.
9th FYP (1996-2000)
Achieve 8% GDP average y-y growth. Achieve 30% fixed assets to investment rate. Increase urban household income per capita and rural net household income per capita by 5% and 4% average y-y growth. Keep the total population under 1.3bn; quadruple per capita GDP of 1980 before 2000. Set 'Prosper China through science and education' as one of the fundamental strategies. Achieve 7% GDP average y-y growth. Divert 40mn agriculture labour and keep urban unemployment rate below 5% during the period. Improve socio-economic development structure (primary, secondary and tertiary Industry GDP contribution portion should be adjusted to around 13%, 51% and 36% before 2005, respectively); increase urbanisation. R&D expenditure to GDP ratio should be raised to above 1.5% by the end of 2005. Total population to be within 1.33bn by the end of 2005. Reduce energy consumption and pollutant emissions. Continue improving living standards; household net income should be increased by 5% y-y on average, while per capita urban household living space should increase to 22 sqrm by the end of 2005. Balance regional development.
10th FYP (2001-2005)
11th FYP (2006-2010)
Achieve 7.5% GDP average y-y growth. Improve socio-economic development structure; optimise and upgrade industrial structure and significantly raise the proportion attributable to the service industry. The R&D expenditure to GDP ratio should be raised to above 2%. Encourage energy-saving industry; energy consumption of per unit GDP to be lowered by 20%. Improve living standards; raise per capita disposable income of urban residents and per capita net income of rural residents to RMB13,390 and RMB4,150 respectively. Improve public services, such as public health, social security, education, in quality and quantity. Develop rural area from all sides; balance urban and rural development, lift urbanisation rate to 47%. Better inhabitation environment, reduce major pollutants emission volume by 10%; newly build and upgrade 1.2mn km of rural roads. Develop central and western China, invigorate northeast China while keeping the development of the east as a priority. Speed up financial institution reform, encourage social capital to participate in small and medium-sized financial institution set-up and reform. Carry out export and import structure plans; raise quality of trading products, rather than merely quantity.
Source: Respective Five Year Plan outline report, Nomura International (Hong Kong) Limited
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Exhibit 94. Announced regional economic development plan (December 2008 2010)
Regional economic development plan Planning period Region Development goals
The Outline of the Plan for the Reform and Development of the Pearl River Delta(2008-2020)
2009-2020
Guangzhou, Shenzhen, Zhuhai, Foshan,
(Approved by NDRC)
Jiangmen, Zhongshan, Huizhou Zhaoqing Pan-Pearl River Delta Region.
By 2012, per capita GDP will reach RMB80,000, with service industries accounting for 53% of the growth; per capita incomes for urban and rural residents will increase sharply compared with those of 2007; urbanisation rate will exceed 80%; the amount of land for construction use needed for every 100 million yuan of newly added regional GDP will decrease. By 2020, per capita GDP of the region will reach RMB135,000, with service industries accounting for 60%; income levels for urban and rural residents will be double those of 2012; the urbanisation rate will reach 85%, and the energy consumption per capita GDP and the quality of the environment will be in line with or approaching quality in advanced economies elsewhere.
Boost the Rise of Central Region Plan*
2009-2020
(Approved by NDRC)
Central regions which include the six provinces including Shanxi, Anhui, Jiangxi, Henan, Hubei and Hunan are major grain production bases, energy and raw material bases, equipment manufacturing bases and an integrated transport hub and play an important role in the economic and social development.
By 2015, the central region should achieve the following objectives: per capita GDP will reach the national average level (RMB36,000); Urbanisation rate of 48%; Grain production capacity of 16,800mn tonnes; Amount of energy consumption needed for every 1 million yuan of newly added regional GDP will decrease by 25%; The amount of water consumption needed for every 1 million yuan of newly added industrial production will decrease 30% to 105 tonnes; The amount of land for construction use needed for every 1 million yuan of newly added regional GDP and fixed asset investment will decrease; Average annual income growth rate of urban and rural residents will exceed 9%; Disposable income of urban residents will reach RMB24,000; Per capita net income of rural residents will reach RMB8,200; Cultivated land will remain 29mn hectares; Comprehensive utilisation rate of industrial solid waste will reach 80%; Forest coverage rate will be 38.0%; Registered unemployment rate in urban area will remain 4.0%; New rural cooperative medical insurance rates; By 2015, the region will have initially built a comprehensively well-off society; GDP per capita will reach RMB82,000 (core area: RMB100,000), with service industries accounting for 53% of the growth; urbanisation will reach 67% (core area: 70%); R&D expenditure accounting for GDP growth will reach 2.5% (core area: 3%). By 2020, the region will have basically realised modernisation ahead of other regions, forming an industrial structure featuring modern service industries. The per capita GDP of the region will reach RMB110,000 (core are: RMB130,000), with the service industries accounting for 53% (core area: 55%); urbanisation will have reached 72% (core area: about 75%).
Yangtse River Delta regional Plan (Approved by State Council)
20092015,longterm outlook to 2020
Shanghai, Jiangsu, Zhejiang
Guangxi Beibu Gulf Economic Zone Development Plan
2006-2020
(Approved by State Council)
Gulf Economic Zone is located in the southwestern tip of China's coastal areas, comprising Nanning, Beihai, Qinzhou, Fangchenggang of four municipalities under the jurisdiction of administrative areas.
General goal: BGEZ is to be built into a key region of economic growth along the coast of China in 10 to 15 years, and to take the lead in building a moderately prosperous society in West China. Specific targets: By 2020, Economic strength has markedly increased. Per capita GDP exceeded the national average, The proportion of economic output accounted for Guangxi province raised to about 45%. Total population will increase to 19mn The urbanization rate will increase 4%; The amount of energy consumption needed for every 10,000 yuan of newly added regional GDP will decrease to 0.66 tons of standard coal Total SO2 emission will remain 205,000ton as 2010 unchanged Total COD emission will decrease to 250,000ton Forest coverage rate will be 60%;
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Regional economic development plan Opinions on Implementation of Boost the Rise of Central Region Plan* (Approved by NDRC)
Planning period 2010-2020
Region Central regions, which include the six provinces of Shanxi, Anhui, Jiangxi, Henan, Hubei and Hunan, are major grain production bases, energy and raw material bases, equipment manufacturing bases and an integrated transport hub, and play an important role in economic and social development.
Development goals 2015, "plan" to implement to achieve main goals GDP per capita will reach RMB36,000, Urbanisation rate will increase to 48%, Disposable income of urban residents and per capita net income of rural residents will reach RMB24,000 and RMB8,200, respectively. The amount of energy consumption needed for every 10,000 yuan of newly added regional GDP will decrease by 25%; The amount of water consumption needed for every 10,000 yuan of newly added industrial production will decrease 30%; Forest coverage rate will rise 2.3%; New rural cooperative medical insurance rates will close to 100%; Comprehensive utilisation rate of industrial solid waste will rise to 80%; By 2020, the central region should target the full realisation of being a well-off society.
Guidance on Boost the city cluster development of Central Region Plan* (Approved by NDRC)
2010-2020
Central regions, which include the six provinces of Shanxi, Anhui, Jiangxi, Henan, Hubei and Hunan, are major grain production bases, energy and raw material bases, equipment manufacturing bases and an integrated transport hub, and play an important role in economic and social development.
Further optimise the spatial layout of city clusters. Promote the optimisation and upgrading of industrial structure city clusters. Speed up the integrative development of urban agglomeration. Promote intensive development and environmental protection of city clusters. Strengthen policy support for city cluster development.
Several Opinions Concerning Support for the More Rapid Establishment of Economic Zone on the West Coast of Taiwan Strait by Fujian Province (Approved by State Council)
2009-2020
Economic Zone on the West Coast of Taiwan Strait
By 2012, to be based on an optimised structure, improved efficiency, reduced consumption and protecting the environment; GDP per capita close to or in line with average level of the eastern region, efforts to advance scientific development; urban and rural areas residents income increased significantly; basic public services level improved; big increase in local revenue; energy consumption of unit GDP to continue to decline; ecological environment to continue to improve; main channel of "three links" to continue to improve, cross-Strait cooperation more prominent. By 2020, build institutional mechanisms that are dynamic, efficient and more open and conducive to scientific development. Significantly improve overall coordination; social employment is full; the social security system is sound; more harmonious society. Resource utilisation to significantly improve; ecologically sound environment and sustainable development capacity enhanced, ecological civilisation construction to lead the nation; scientific development reach a new level; achieve the goal of building a well-off society. Economic integration between Fujian and Taiwan to continue to strengthen; promote formation of a new pattern of cross-Strait common development.
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Regional economic development plan
Planning period
Region
Development goals
Jiangsu Coastal Region Development Plan
2009-2020
(Approved by NDRC)
Coastal areas, including Lianyungang, Yancheng and Nantong
By 2012, GDP per capita will above RMB40,000; a more solid basis for industrial development; advanced manufacturing has continued to rise, urbanisation rate will reach 55%; people's living standard and quality of life generally improve; enhanced capabilities of basic public services; full urban and rural employment; a social security system covering urban and rural areas; improving environmental quality; important ecological function areas to account for 15% of total land area, the unit GDP energy consumption fell and emissions of major pollutants cut to meet national control requirements. Region to be a fully well-off society. By 2020, GDP per capita to be at or above average level of East; further optimise the industrial structure; service industry surged, people's lives more prosperous; equal basic public services; urban and rural social security system basically completed; urbanisation rate to reach 65%, good ecological environment, realise preliminary modernisation by the end of planning period or the near future.
Hengqin Overall Development Plan
2009-2020
Hengqin island, Zhuhai
According to the Overall Development Plan of Hengqin, the island will have a population of 120,000 with per capita GDP hitting RMB120,000 by 2015 and 280,000 with per capita GDP of RMB200,000 by 2020. After 10 to 15 years efforts, build a connected Hengqin-Hong Kong-Macau, economic prosperity, liveable and enterprise "energy island"; knowledge-intensive, information developed "intelligent island", resource-saving, environmentally friendly "eco-island." Key development indicators are as follows: 2015 2020 Total population (million) 12 28 Per capita GDP (RMB) 12 20 R & D accounts for GDP (%) 3.5 5 Thousand yuan GDP water consumption (m3) 37 33 Sewage treatment rate (%)> 90 100 Urban living garbage disposal rate (%) 100 100 Green coverage rate (%) 47 50 Comprehensive economic strength to achieve a new leap forward. Innovation and new upgrade. Infrastructure construction of new breakthroughs.A new level of urbanisation increase.Public Service reach a new level.The ecological environment will make new progress Key Indicators of economic and social development indicators: 2012; 2020 Population (million): 2,940; 3,100 GDP (billion yuan) : 6,600; 16,400 Per capita GDP (yuan) : 22,500; 53,000 R & D expenditure to GDP ratio (%): 4.5; 6.0 Urban registered unemployment rate (%): 4.5; 4.5 Urbanisation rate (%): 50; 60 Forest cover (%): 42.0; 47.0 Unit GDP energy consumption decrease (%)(Compared with 2005) 21.0; 25.0 Unit of industrial value added water (M3 / million) 120; 100 Urban sewage treatment rate (%) 80; 90 Garbage treatment rate (%) 75; 100 Comprehensive utilisation of industrial solid waste (%) 75; 90 Urban green coverage rate (%) 42.0; 45.0
Guanzhong-Tianshui Economic Zone Development Plan
2009-2020
(Approved by NDRC)
With a combined area of 69,600 sq km and a total population of 28.42 million, the planned GuanzhongTianshui Economic Zone covers Xian, Xianyang, Tongchuan, Weinan, Baoji, certain counties in Shangluo, the Yangling Agricultural High-tech Industry Demonstration Zone, and the administrative district under Tianshui city in Gansu province.
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Regional economic development plan
Planning period
Region
Development goals
Liaoning's coastal economic belt strategy
2009-2020
Liaoning coastal economic belt consists of Dalian, Dandong, Jinzhou, Yingkou, Panjin, Huludao six coastal cities under the jurisdiction of 21 city and 12 coastal counties (Zhuanghe, Pulandian, Wafangdian, Changhai County, Donggang City, Linghai, Gaizhou, Dashiqiao City, Dawa, Panshan County, Xing City, Suizhong County). The main scope of this plan is the core areas of Tumen River Area, namely within the scope of Changchun City, Jilin Province, Jilin City, some regional and Yanbian, including Liaoning Province, Heilongjiang Province and Inner Mongolia Autonomous Region, and other regions involved in China Tumen River Area International cooperation.
By 2020, build Dalian international shipping centre in Northeast Asia and international logistics centre; build internationally competitive industrial belt near the coastal port, build a modern area with economic development, social progress and sound environment.
"Cooperation and Development Planning Outline of the Tumen River Area of China Setting Changjitu as the Development and Opening-up Pilot Area"
2009-2020
The "Planning Outline" proposed development goals in 2012 and 2020 focusing on development of Changjitu pilot area and Tumen River area. It sets a framework to set up five bases, namely a new industrial base, a modern agricultural demonstration base, a science and technology innovation base, a modern logistics base and Northeast Asia international business service base. It is expected that by 2012 the international cooperation in China Tumen River Area will make substantive progress, and Changjitu pilot area will become the new engine of economic development in Northeast China. By 2020, China Tumen River area will reach a new level of opening-up, with the gross economic product of the Changjitu area expanding by a factor of four to arrive at national advanced level. These goals are derived through repeated calculation and rigorous demonstration. They are challenging, but also can be achieved through hard effort. Plan to define the development of the Yellow River Delta through short-term and long-term goals. By 2015, economic and social development and resources and environment suited to effective carrying capacity of eco-economic development of a new model; by 2020, the first to build economic prosperity, sound environment, state-level high-efficiency ecological economic zone. Targets: 2015; 2020 GDP (billion yuan) 9,300; 15,000 Per capita GDP (yuan) 9,000; 14,000 Core protected area (mu) 550; 550 Unit GDP energy consumption decrease (%) 22; 15 Reduce water consumption of added-value industry (%) 20; 15 Comprehensive utilisation of industrial solid waste (%) 95, 97 Reduced emissions of major pollutants (%) 20; 15 Urban sewage treatment rate (%) 80; 85 Forest coverage (%), 25; 28 The total water supply capacity (mcm) 40; 45 Effective utilisation coefficient of irrigation water 0.57; 0.59 Urbanisation level (%) 54; 60 Disposable income of urban residents (yuan) 6,000; 4,400 Rural per capita net income (yuan) 1,250; 20,000 2009-2015: innovative institutional mechanisms to reinforce foundation for development, strengthen ecological and economic strength, preliminary formation of ecological and economic coordination of development of new models; 2016-2020: build strong protection of ecological security system, formation of an advanced and efficient eco-industry cluster to build a new eco-liveable urban agglomeration, in order to achieve modernisation by mid-century and lay out sound foundation.
Yellow River Delta Economic Zone and efficient ecodevelopment plan
2009-2020
(Approved by NDRC)
The Yellow River Delta is located in the southern Bohai Sea coastal areas of the Yellow River estuary, including the Shandong Province, Dongying, Binzhou, and Weifang, Dezhou, Zibo, Yantai City, involving a total of 19 counties (cities, districts).
Poyang Lake ecological economic plan
2009-2015, long-term outlook to 2020
Planning clear lake ecological and economic areas, including Nanchang, Jingdezhen, Yingtan three cities, as well as the Jiujiang, Xinyu, Fuzhou, Yichun, Shangrao, Ji'an City, some counties (cities, districts) a total of 38 counties (cities, districts).
Nomura
62
29 September 2010
Strategy | China
Regional economic development Plan
Planning period
Region
Development goals
Several Proposals of the State Council on Advancing the Development of Constructing Hainan International Tourism Island
2009-2020
Hainan island
By 2015 Tourism industry accounts for more than 8% of GDP. Tertiary industry accounts for 47% or more of economic structure. Proportion of employees in tertiary industry exceeds 45%. Province's per capita GDP and urban and rural residents income reach national medium level.
By 2020, Tourism industry accounts for 12% of GDP. Tertiary industry accounts for 60% or more of economic structure. The proportion of employees in tertiary industry exceeds 60%. Whole province's per capita GDP and urban and rural residents income reach national advanced level.
General Plan for Integrated Complementary Reform in Shenzhen
Shenzhen
Next step of Shenzhen reform will focus on breakthrough in six respects: deepening administrative reform, deepening economic reform, actively promote reform of the social sphere, improve mechanism for independent innovation system, focus on close cooperation between Shenzhen and Hong Kong establishment of resource-saving and environment-friendly institutional mechanisms. It is estimated that after the implementation plan, by 2020, the pilot areas GDP energy consumption, water consumption, chemical oxygen demand (COD) emissions, sulphur dioxide (SO2) will be down 24%, 68%, 58% and 63% from 2008 levels.
Circular Economy Pilot Area in Qinghai Province Qaidam Master Plan
Qaidam
(Approved by State Council) Wanjiang City Belt to undertake transfer of industries with a demonstration area plan* 20092015,longterm outlook to 2020 Wanjiang city with the rise of the central region to implement strategy for the promotion of key development areas, including Hefei, Wuhu, Maanshan, Tongling, Anqing, Chizhou, Chaohu, Chuzhou, Xuancheng, as well as the Tongcheng and Liuan the Jinan area and Shucheng a total of 59 counties (cities, districts). Indicator (unit) 2015 GDP (billion yuan) 13,500 fiscal revenue (RMBbn) 1,700 Urbanisation rate (%) 55% Non-agricultural industry accounts for % of GDP: 93% Above-scale industrial added value in the zone (the proportion) reaches 65% R & D proportion of GDP accounted for 2.2% Science and technology to% 60 Disposable income of urban residents per capita (RMB) 28,500 Rural per capita net income (RMB) 9,900 Urban residents in employment per year (persons) 400,000 Of the basic old-age insurance programme (number of people) 2,850,000 The scale of vocational education students: 800,000 Unit GDP energy consumption fell % over total: 20% Tons of industrial value-added water: 175t Urban sewage treatment rate: 75% Comprehensive utilisation of industrial solid waste: 90%
To be announced: Chongqing Liangjiang New Area overall regional plan Chengdu economic area regional plan Tibet regional economic development plan Xinjiang regional economic development plan
* Central region related plans Source: Nomura International (Hong Kong) Limited
Nomura
63
29 September 2010
Strategy | China
Henry Wu, CFA
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Nomura
64
29 September 2010
Strategy | China
Henry Wu, CFA
Sector views
Nomura
65
29 September 2010
Strategy | China
Ivan Lee, CFA
Alternative Energy
Action
We believe that alternative energy will be a focus of the 12th Five-Year period, as the nation strives to enhance long-term energy security and meet 2020 climate change targets. We expect policy announcements on nuclear and large-hydro to present upside, and on wind and solar to be inline with market expectations. BUY China High Speed, JA Solar, and Yingli Green; China Longyuan: REDUCE.
NEUTRAL
Stocks for action
We like CHST for its leading position in the favourable wind gearbox segment, and like JA Solar and Yingli for LT cost leadership. REDUCE on Longyuan, given grid bottleneck, unattractive return profile and demanding valuations.
Price target 22.00 7.60 8.00 23.00
Catalysts
Favourable policy announcements, such as rising feed-in tariff, resolution of grid connection bottleneck, tax incentives and financial support for R&D. Anchor themes China has been more supportive of low-cost and large-scale alternative energy sources like nuclear, wind and large-hydro, as these are effective tools for it to meet its 2020 non-fossil fuel energy consumption targets. The country, however, has not been keen on triggering local demand for solar, in our view.
Stock China High Speed Transmission (CHST) China Longyuan JA Solar Yingli Green Energy
Rating
Price
BUY 17.40 REDUCE BUY 7.96 7.97
BUY 11.67
Green and clean

12th FYP to pave the way for achieving 2020 targets
In our view, Chinas 12th Five-Year alternative energy development plan will be a tool to ensure it is on track to achieve its 2020 targets, including measures to accelerate development of industries which have fallen short of the 11th FYP targets and measures to address issues emerging during the 11th FYP to enable healthy growth of alternative energy industries in the long-term. China has committed to several long-term targets for alternative energy development to combat climate change issues. By 2020, the nation targets to have large-scale power producers (above 50MW) to have 8% of capacity from non-hydro renewable energy sources and have 15% of energy consumption from non-fossil-fuel sources. Chinas Premier Mr Wen Jiabao also committed during Copenhagen Summit in December 2009 that the country would reduce carbon emissions by 40-45% (per unit of GDP) from the level in 2005 by 2020. Further, we believe that the Chinese government could announce a new set of 2020 alternative energy targets in Alternative Energy Development Plan around the time of or slightly before the announcement of the 12th FYP. Chinas progress has fallen behind its existing 2020 targets from several aspects, in our view. Based on statistics from China Electricity Council, we estimate that by end 2009, China got slightly less than 2% of power capacity from non-hydro renewable energy sources (mainly wind power), implying that the country still has some way to go before achieving its 2020 renewable capacity target. On the other hand, we expect that by the end of 2010, only cumulative capacity of wind, solar and large hydro could reach Chinas 11th FYP targets, while cumulative capacity of small-hydro and biomass (including biogas and biofuel) would fall short of the countrys 11th FYP targets. After developing alternative energy industries over the past five years in China, there have been issues emerging, such as grid connection bottleneck, wind power curtailment, over-capacity issue of wind turbine and polysilicon manufacturing, as well as quality concerns over wind turbines. These issues would need to be addressed to enable healthy long-term growth of the industries, in our view.
Analyst
Ivan Lee, CFA Head of Asia Power, Utilities & Renewable Energy +852 2252 6213 ivan.lee@nomura.com
Nomura
66
29 September 2010
Strategy | China
Ivan Lee, CFA
Exhibit 95. NDRCs potential plan for alternative energies cumulative capacity
Existing 2020 targets (GW) Hydro Small hydro Nuclear Wind Solar Biomass 2009 172 55 9 25 0.3 1 2020F 300 75 40 30 1.8 30 09-20 CAGR (%) 5 3 15 2 18 36 Low version 300 75 70 100 10 30 Potential New 2020 targets 09-20 CAGR (%) 5 3 20 13 38 36 High version 300 75 70 150 20 30 09-20 CAGR (%) 5 3 20 18 46 36 Latest news 2020F 330 50 75 na na na v/s expectation Higher Lower Higher na na na
Note: 2020 potential targets for wind, solar and nuclear power are based on news flows in May 2009; latest news is based on news flows in July 2010. Source: CBN, China Energy News, Shanghai Securities News 21CBH, Nomura International (Hong Kong)
China wind: little upside surprises despite continuous supports

Since the middle of 2009, there have been market expectations that the Chinese government would announce a new set of 2020 alternative energy capacity targets, and thus we believe that there has been a clear base-case scenario of the 2020 targets to be announced. Industry players have disclosed that the Chinese government would set 2020 wind capacity targets at 150GW. In our view, this target is conservative as it implies wind capacity installation would be 11-12GW per annum over the next 10 years, slowing from the 15GW expected in 2010. We expect that the government could add another 30-50GW capacity target for offshore wind applications, making the overall 2020 target reach 180-200GW. That said, we believe that the 180-200GW figure should have been factored in current market expectations and thus the possibility of potential upside from the announcement is slim, in our view. Besides, a target of 180-200GW implies annual wind capacity installation to be around 14-16GW over the next 10 years, with little growth from the 15GW expected in 2010. This would confirm our view that growth in China will slow. On the other hand, we do not expect the government to revise its current wind power tariff scheme in its 12th FYP announcement, as the current scheme was announced only in 3Q09. This is negative for wind farm operators in China, in our view. We believe that unattractive wind tariff is a structural problem for the industry, making wind farm operators in China generate unattractive project returns (8-10% without carbon credit income). However, if the government provides more precise guidelines to address grid connection bottlenecks and power curtailment issues, then there could be positive surprises from the upcoming announcement, in our view. Nonetheless, we believe this would only create short-term positive sentiment with limited near-term profit impact on wind operators, as we expect grid issues to only be gradually resolved over the next two-three years. For wind equipment manufacturers, we believe that the Chinese government would encourage the development of 3MW and above wind turbines and components so as to fulfil equipment demand when the nation pursues offshore wind opportunities. We believe Chinese wind equipment manufacturers lack mature technology for offshore wind applications.
2020 wind capacity targets at 180200GW; limited upside potential
Potential positive if government refine guidelines for grid connection and operations
Offshore wind component/equipment R&D and manufacturing would also be a focus
China solar: not positive about feed-in tariff scheme to be announced

Industry players have disclosed that the Chinese government will set 2020 solar capacity targets at 20GW. In our view, this target is aggressive as it implies that annual solar capacity installation would be ~1-2GW per annum over the next ten years. We believe that this has largely been factored into market expectation and consequently do not expect much upside surprise. While a target of 20GW cumulative solar capacity by 2020 could make China one of the top solar end markets (in terms of quantity), we remain conservative about the profitability of solar projects in China. China does not have a standardised feed-in tariff scheme for solar and we do not think it is likely that the government will finalise one over the next one year.
2020 solar capacity targets at 20GW; also limited upside potential
China would remain an unprofitable end market for listed solar companies unless new incentives are announced
Nomura
67
29 September 2010
Strategy | China
Ivan Lee, CFA
In our view, the Chinese government would gradually learn the levels of solar feed-in tariffs project investors would be willing to accept through multiple rounds of central level concession project biddings, a similar path taken by the nation for the wind industry back in 2007-2008. China recently concluded the second round of central level concession project bidding for 280MW of solar projects in multiple provinces. According to Reuters (China firms offer US$0.108/kWh feed-in rate in solar tender, 16 August 2010), the lowest bid submitted was around RMB0.70-0.72/kwh, a level only enabling solar projects to break keven. We continue to believe that China would not be a profitable end market for listed Chinese solar companies over the next one to two years, unless other forms of financial incentives are announced.
Potential positive surprises for large-hydro and nuclear

In our view, large-hydro power and nuclear power are the two areas where there could be positive surprises from the upcoming 12th FYP announcements. In our view, largehydro power and nuclear power are the cheapest and most scalable alternative energy sources and thus the best tools to help the nation achieve its 2020 alternative energy targets more efficiently. We expect the Chinese government to raise its 2020 capacity targets for large-hydro and nuclear to 330GW and 75-80GW, respectively, from the markets previous expectation of 300GW and 70GW respectively.
Stocks for action: BUY CHST, JA Solar, Yingli; Longyuan: REDUCE

We maintain our sector views and recommendations before the upcoming policy announcements. For wind sector, we continue to like China High Speed Transmission (CHST), given its leading position in China wind industry, particularly given its strength in more advanced 2-3MW gearboxes segment, which would benefit from the governments move to encourage offshore wind development. CHST is also the most immune to the slowdown of annual wind capacity installation growth in China, given its potential to generate more meaningful international revenues compared with other Chinese wind equipment manufacturers. CHSTs current valuation at 10x FY11F P/E is also appealing, given its earnings CAGR at 16% over FY10-12F. We reiterate REDUCE on Longyuan given our view that grid connection and power curtailment issues would only be resolved over the next 2-3 years and current (FY10-12F) ROE at 8-10% does not support valuation at 20x FY11F P/E, in our view. For the solar sector, we maintain our view that China would not be a profitable end market for Chinese solar equipment manufacturers and intentional market development and policy changes would be more critical for listed Chinese solar companies. We continue to like Yingli Green Energy (Yingli) given its cost competitiveness as a result of fully vertical integration, as well as better brand equity among Chinese solar module manufacturers. We also have a BUY on JA Solar on our belief that the company deserves a valuation rerating given its distinctive value proposition as an OEM service provider for high-cost European and Japanese solar module brands and continuously improving customer portfolio.
Nomura
68
29 September 2010
Strategy | China
Ivan Lee, CFA
Exhibit 96. Wind peer group valuation comparison

Price Company Gearbox CHST Hansen Transmission Wind Turbine Clipper Gamesa Nordex Repower Vestas Wind Project Operator China Long Yuan Power Acciona Theolia Iberdrola Renovables EDF Energies Nouvelles EDP Renovaveis Greentech Energy Systems China Power New Energy China Windpower Group 916 HK REDUCE ANA SM BUY TEO FP Not rated IBR SM REDUCE EEN FP NEUTRAL EDPR PL NEUTRAL GES DC Not rated 735 HK Not rated 182 HK Not rated 7.96 64.83 1.33 2.47 30.49 4.16 22.00 0.75 0.86 7,655 5,465 178 13,845 3,137 4,810 189 688 808 46.5 3.2 n.a. 28.1 24.1 32.0 n.a. 34.6 42.4 27.3 19.4 n.a. 23.3 24.4 32.0 71.7 18.3 19.5 19.8 15.6 21.1 20.6 18.8 22.8 22.7 11.0 14.1 1.9 0.7 0.4 0.9 1.5 0.7 0.6 1.1 1.8 2.2 0.7 0.4 0.9 1.5 0.7 0.6 1.0 1.7 1.9 0.7 0.4 0.9 1.4 0.7 0.6 0.9 1.5 10.0 2.5 (21.2) 3.2 7.3 1.8 (3.7) 5.3 7.1 6.9 3.7 (5.1) 3.8 8.0 2.2 2.3 5.4 9.4 8.2 4.4 3.4 4.2 9.4 3.0 4.7 7.3 11.7 CWP LN Not rated GAM SM BUY NDX1 GR Not rated RPW GR Not rated VWS DC BUY 31.25 5.31 7.34 108.76 208.60 105 1,729 651 1,327 7,566 n.a. 11.3 20.4 17.2 28.4 3.6 22.1 17.3 16.3 12.1 3.6 15.6 12.0 14.8 9.5 n.a. 0.8 1.4 2.1 1.6 n.a. 0.8 1.3 1.9 1.4 n.a. 0.8 1.2 1.7 1.2 n.a. 7.3 7.4 13.2 9.2 (0.4) 7.3 7.9 11.7 5.7 (10.1) 3.6 11.0 11.2 12.6 658 HK BUY 17.40 55.80 2,791 584 19.4 n.a. 13.4 65.7 10.2 13.4 4.2 0.7 3.4 0.7 2.3 0.6 23.7 (1.4) 28.3 0.1 26.6 4.4 HSN LN Not rated Ticker Rec Market cap 09 P/E 10F 11F 09 P/BV 10F 11F 09 ROE 10 11F
(local) (US$mn)
Gamesa, Vestas and EDF Energies Nouvelles covered by Catharina Saponar. Acciona, Iberdrola Renovables and EDP Renovaveis covered by Raimundo FernandezCuesta. Note: Pricing as of 21 September 2010 Source: Bloomberg consensus estimates for not rated companies, Nomura estimates for others
Nomura
69
29 September 2010
Strategy | China
Ivan Lee, CFA
Exhibit 97. Solar peer group valuation comparison

Price Market cap Company Cell Motech E-Ton Solar JA Solar Q-Cells Wafer, Cell and Module Trina Solar Yingli Green Energy Cell and Module Suntech Power Canadian Solar Sunpower Solarfun Evergreen Solar Wafer LDK Solargiga Renesola MEMC Sino American Green Energy Polysilicon GCL Poly OCI Tokuyama Module and System Solon Conergy Aleo Solar Fully Integrated SolarWorld REC Equipment Manufacturer SMA Solar Technology Centrotherm Meyer Burger Roth and Rau Manz Automation SWV GR REC NO S92 GR CTN GR REDUCE NR BUY BUY 9.02 19.10 77.20 31.49 31.15 19.45 50.11 1,337 3,195 3,553 884 1,419 418 298 17.1 18.7 15.6 13.9 11.3 13.5 22.3 12.4 16.4 1.2 0.8 6.6 1.9 5.9 1.2 1.3 1.1 0.8 4.0 1.7 5.0 1.2 1.2 1.0 6.8 5.8 0.1 46.2 9.9 15.9 7.0 2.1 6.6 6.2 27.9 11.3 18.4 8.5 7.0 n.a. 701.3 16.6 23.3 43.9 20.8 n.a. 8.7 17.5 31.3 16.5 57.5 0.9 (13.9) 3.2 1.5 4.1 1.1 1.1 39.5 8.3 13.4 5.9 (5.4) SOO1 GR CGY GR AS1 GR REDUCE REDUCE NR 3.16 0.61 15.34 72 322 265 n.a. n.a. 19.7 n.a. n.a. 10.4 n.a. 34.8 11.5 0.4 2.1 1.8 0.4 2.9 2.2 0.5 (246.1) (20.3) 2.6 (69.3) (25.5) 1.9 37.8 n.a. (8.9) 9.3 n.a. 3800 HK NEUTRAL 010060 KS NR 4043 JT NEUTRAL 2.26 0 461.0 4,505 0 1,894 n.a. 0.0 19.6 16.1 0.0 21.3 16.1 0.0 16.1 2.5 0.0 0.7 2.8 0.0 0.7 2.4 0.0 0.6 (3.8) 28.4 3.5 19.0 n.a. 3.1 15.7 n.a. 4.1 LDK US NEUTRAL 757 HK SOL US WFR US 5483 TT 3519 TT REDUCE NR NR NA NR 8.25 1.73 11.02 11.06 99.1 94.6 1,084 403 952 2,515 1,005 n.a. n.a. n.a. n.a. 63.5 13.1 18.9 7.4 27.0 15.7 n.a. 12.0 11.0 6.7 11.3 14.0 n.a. 1.2 1.9 3.9 1.2 3.2 3.3 1.1 1.7 1.7 1.1 2.5 n.a. 1.0 (26.6) 1.5 1.0 2.3 n.a. 4.9 (3.2) 5.5 1.8 1.4 (20.9) 8.9 9.4 29.6 4.8 20.3 n.a. 9.0 14.0 21.4 9.4 16.3 n.a. STP US CSIQ US SPWR US SOLF US ESLR US BUY BUY NR NR NR 9.02 13.14 12.60 12.18 0.62 1,625 561 1,215 708 130 19.2 10.3 35.0 n.a. n.a. 16.7 22.3 8.6 7.2 n.a. 9.7 11.9 7.1 8.7 n.a. 1.0 1.2 0.8 1.5 0.3 0.9 1.0 0.8 1.3 0.4 0.9 0.9 0.8 1.1 6.1 3.5 2.0 19.5 6.0 8.1 11.3 24.5 9.5 11.3 8.9 20.8 TSL US YGE US BUY BUY 25.86 11.67 2,042 1,732 14.4 n.a. 15.1 1.7 11.9 1.5 2.1 0.2 1.9 0.2 1.6 0.2 14.4 (4.9) 12.2 15.4 13.5 14.7 6244 TT 3452 TT JASO US QCE GR REDUCE REDUCE BUY REDUCE 125.0 43.3 7.97 5.09 1,502 1,136.4 341 1,339 794 n.a. n.a. n.a. 39.6 n.a. 9.3 n.a. 23.9 84.8 7.7 32.4 2.9 1.0 1.3 0.8 2.4 0.8 1.6 0.8 2.2 1.3 0.8 0.3 (1.9) (1.8) 6.0 (1.2) 18.6 (3.0) 9.1 1.0 18.5 2.5 0.8 (26.3) Ticker Rec (local) (US$mn) P/E FY09 FY10F FY11F P/BV FY09 FY10F FY11F ROE FY09 FY10F FY11F
0.4 (43.8) (24.6) (20.4)
559 267.2
MBTN SW NEUTRAL R8R GR NEUTRAL M5Z GR REDUCE
Note: Pricing as of 21 September 2010; NR = Not rated Source: Bloomberg consensus estimates for not rated companies, Nomura estimates for others
Nomura
70
29 September 2010
Strategy | China
Yankun Hou
Autos and Auto Parts

Action
We expect further consolidation in the China auto sector during the 12th Five Year Plan (2011-2015), which will improve industry profitability. We believe the large SOE auto groups and strong private players will benefit from the governments consolidation policies. On the demand side, we continue to see steady growth over the next few years, driven mainly by rising affordability. We like Dongfeng for its market leading position, comprehensive product line-up and strong profitability.
NEUTRAL
Stocks for action
We like Dongfeng for its market leading position, comprehensive product line-up and robust profitability. We also expect its HDT products will become a new earnings driver, going forward.
Catalysts
Further policy announcements for industry consolidation and deal flows. Anchor themes We see a divergence in operating dynamics for JVs and domestic brands: JVs have limited capacity, healthy inventory and moderate price competition; domestic brands face overcapacity, high inventory and severe price competition.
Stock Dongfeng Motor Rating BUY Price (HK$) 14.44 Price target 17
A better supply-demand balance

Consolidation policy will benefit large SOE and strong private
automakers
The State Council of the Chinese government recently highlighted the auto industry in its latest push for industry consolidation, following the governments industry-specific guidance released in March 2009. More than five major deals have been completed since the original policy announcement, and we expect further consolidation in the sector, which should improve industry profitability, in our view. We believe that large state-owned enterprise (SOE) auto groups, such as Dongfeng, GAC, and strong private players, such as Geely, will benefit from the policy, while small and regional players, whether state-owned or private, will be the most vulnerable.
Analysts
Yankun Hou +852 2252 6234 yankun.hou@nomura.com Ming Xu +852 2252 1569 ming.xu@nomura.com
Demand up on increasing affordability

We expect Chinas auto market will continue to see steady growth over the next few years, driven by low penetration, rising affordability and the herd effect. Assuming GDP records a 9.5% CAGR over the next five years (2011-2015), we expect total automobile ownership will reach 130mn in 2014F implying annual sales of 25mn units by that year and a five-year CAGR of 13% in sales. We believe 1.3- to 1.6-litre models will gradually take market share from larger engine models, as demand moves inland and to lower income cohorts
Prefer Dongfeng for market leading position and strong earnings

power
We like Dongfeng for its market leading position, comprehensive product line-up and strong profitability. We believe the company will further enhance its industry standing through the consolidation process, and will benefit from the growth potential in inland demand and the small car segment, thanks to its well balanced product line-up. Apart from the PV business, the company has also significantly improved its commercial vehicle (CV) operations, and we expect its heavy duty truck (HDT) products will become a new earnings driver going forward. We expect FY10F and FY11F EPS to reach RMB1.35 and RMB1.45, respectively, up 86% y-y and 7% y-y. Reiterate BUY and TP of HK$17.
Nomura
71
29 September 2010
Strategy | China
Yankun Hou
Consolidation policy will benefit large SOE and strong private automakers
According to the China Association of Auto Manufacturers (CAAM), there are more than 120 automakers in China, thus making China the most competitive auto market in the world. The intensified competition has resulted in low operating efficiency (low economic scales) and significant downward pressure on pricing, which in turn hurts industry profitability. In its Auto Industry Restructuring and Revitalisation Plan announced in March 2009, the government encouraged consolidation in Chinas auto industry and said that it aims to reduce the number of auto groups which account for 90% of the market share, to less than 10 by 2011 from 14 in 2008. The goals also include building two to three auto groups with above 2mn units of annual sales volume, and four to five groups with more than 1mn units of annual sales volume. Since the announcement of the policy, five of the eight auto groups named in the policy have made remarkable consolidation and acquisition moves. The market share of the top 10 auto groups rose to 86.1% in 1H10 from 83.4% in 2008. The market share leader, Shanghai Auto, reached 2mn unit sales in the first seven months of 2010, according to data from CAAM. We expect further consolidation during the 12-5 (2011-2015) period. The State Council of the Chinese government released a high-level guidance policy on industry consolidation and restructuring on 18 August, 2010. The new policy lists the auto industry as a first priority to push for consolidation. We believe a detailed industryspecific policy will be released soon. In this new wave of consolidation, three types of automakers will benefit, in our view: Established SOE auto groups, such as FAW, Dongfeng and Shanghai Auto. Aggressive SOE automakers who are slightly smaller in size but receive strong government support, such as Changan, BAIC and Guangzhou Auto. Strong private automakers such as Geely. On the other hand, we believe small and regional players, whether state-owned or private, will be most vulnerable.
Strong demand ahead, on the back of rising affordability

Considering GDP and population growth, inflation and renminbi appreciation, we estimate GDP per capita could reach US$9,000 in 2014F, which is comparable with Brazils GDP per capita in 2005, and Turkey and Mexicos GDP per capita in 2008. As shown in the large Exhibit below, most countries at this GDP level have a penetration rate of 100-200 units per 1,000 people, while the global average penetration rate in 2008 was around 120 units per 1,000 people. We believe China will follow the same pattern, and its penetration will increase to 100-200 units per 1,000 people, which implies total automobile ownership of between 140mn units and 280mn units in 2015F, from 52mn units in 2009. Assuming a scrapping ratio of 6-7% over the next few years, this implies a CAGR of 13-30% for 2009-14F. Considering the potential bottleneck of urban infrastructure and gasoline prices, we expect total ownership will reach 130mn in 2014F implying annual sales of 25mn units by that year and a five-year CAGR of 13% in sales. We believe the strong sales will be fundamentally supported by rising affordability. The development of the auto industry in western countries demonstrates that when the R value (vehicle price/GDP per capita) approaches 2-3, automobile penetration rates could improve significantly and sales volume would experience high growth for more than a decade (a CAGR of 20%-plus in Japan in the 1960s and Korea in the 1980s). As shown in the final two exhibits below, the R value has declined significantly from 24.0 in 2001 to 4.5 in 2009, and will approach 3.3 in 2014F, based on our estimates.
Nomura
72
29 September 2010
Strategy | China
Yankun Hou
Exhibit 98. M&A moves by named auto groups since the policy announcement
Group FAW Dongfeng Encouraged for nationwide consolidation Shanghai Auto Chang'an BAIC Guangzhou Auto Encouraged for regional consolidation 2009 total sales M&A moves after ticker volume (k units) Revitalisation policy unlisted 1,944.6 no 489 HK 600104 CH 000625 CH unlisted 2238 HK 1,897.7 no Possible future moves Group listing Separate CV business out of DF Nissan
2,705.5 Further consolidation of Nanjing Auto Earmarked up to RMB 5bn for M&A operations 1,869.8 Acquired Changhe and Hafei 1,243.0 Acquired Baolong Light Vehicle 606.6 Privatize Denway and group listing; Acquired 29% of Changfeng Motor; Acquired Geo Motor 500.3 no 125.0 Acquired Chengdu Wangpai Expand into HDT segment Group listing Further expansion in Northern China
Chery Sinotruk
unlisted 3808 HK
Group listing Further consolidation in HDT segment
Source: Company data, Nomura estimates
Exhibit 99. Potential M&A targets

Ticker Parent type unlisted Liaoning provincial government 600418 Anhui provincial CH government unlisted Fujian provincial government 1122 HK Chongqing municipal government unlisted Private unlisted Private unlisted Private unlisted Private unlisted Private Major products Sedan, minibus Sedan, light truck Sedan Light and medium truck sedan SUV SUV, pickup Large bus, HDT, sedan sedan 1H10 sales volume 124,219 252,727 58,446 38,193 60,047 38,827 32,668 17,694 55,943 1H10 market share (%) Highlights 1.4 Independent brand sedan, minibus 2.8 Independent brand sedan, light truck 0.6 JV with Mitsubishi 0.4 Isuzu truck 0.7 Independent brand sedan 0.4 SUV 0.4 SUV 0.2 Lotus sedan 0.6 Small sedan
Brilliance Zhonghua Jianghuai Auto Dongnan Motor Qingling Auto Lifan Motor Huatai Auto Zhongxing Youngman Auto Zotye Auto
Exhibit 100. PV pricing index

100 95 90 85 80 75 70 65 60 55 50 Jul-04 Jul-05 Jul-06 Jul-07 Jul-08 Jul-09 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jul-10
Exhibit 101. HH index

0.25 China Japan US
0.20
0.15
0.10
0.05
0.00 2001 2002 2003 2004 2005 2006
Source: CEIC
Nomura
73
29 September 2010
Strategy | China
Yankun Hou
Exhibit 102. China auto market share (2009)

GMW Sinotruk 0.9% Jianghuai 1.7% 2.4% Geely 2.4% Brilliance 2.6% BYD 3.3% Chery 3.7% GAIG 4.4% BAIC 9.1% FAW 14.3% Others 7.9%
Exhibit 103. China PV market share (2009)

Jianghuai 1.5% Roewe 1.1% FAW Car 1.0% Others 7.5% SVW Chana 8.7% 1.2%
SAIC 19.8%
Zhonghua 1.6% Great Wall Xiali 1.8% 2.5% Kia 2.9% Changhe Suzuki 1.0% Chang'an Suzuki 1.8% Ford 2.9% Chang'an Mazda 0.8% FAW Mazda 1.1% PSA 3.2% Geely 3.8%
FAW VW 8.0% GM 8.7% FAW Toyota 5.0% GZ Toyota 2.5% GZ Honda 4.4% DF Honda 2.5%
Chang'an 13.7%
Dongfeng 13.9%
BYD 5.3%
Chery 5.8%
Nissan 6.6%
Hyundai 6.8%
Source: CAM, Nomura estimates
Source: CAM, Nomura estimates
Exhibit 104. GDP per capita vs. auto penetration, global comparison (2008 )
Penetration rate (units /1000 ppl) 900
800 US 700 Australia 600 Italy Japan 500 Poland 400 Taiwan Hungary Slovakia South Korea Portugal Czech Republic Greece Spain UK Canada Germany France Denmark Austria Sweden Netherlands Ireland
300 Malaysia 200 Romania Argentina 100 Thailand China 0 0 India 10,000 Russia Mexico Brazil Turkey
20,000
30,000 40,000 GDP per capita (US$)
50,000
60,000
70,000
Nomura
74
29 September 2010
Strategy | China
Yankun Hou
Exhibit 105. China auto sales vs R-value

30 25 20 15
10.4 24.0
Exhibit 106. R value of major cities (2008)

(Units mn) 30 25
8 6.1 6 4 3.5 1.7 1.7 1.8 2.1 2.5 2.6 2.7 5.0
R-value (LHS) Sales (RHS)
17.7 15.3
20 15
8.7 7.2 5.8 5.1 4.7 4.5 4.3 4.0 3.6 3.3 3.1
10 5 0 2001 2002 2003 2004
10 5 0
2 0
1.2
1.5
Liaoning: Dalian Zhejiang: Hangzhou Shandong: Qingdao Hubei: Wuhan Shanxi: Taiyuan Henan: Zhengzhou Sichuan: Chengdu Shaanxi: Xi'an
29 September 2010
Beijing
Nomura
Guangdong:
2010E
2011E
2012E
2013E
2014E
2015E
75
Chongqing
Shanghai
2005
2006
2007
2008
2009
Strategy | China
Lucy Feng
Banks
Action
We are optimistic on the banking outlook for 2011F and selectively recommend Chinese bank stocks with an undemanding valuation. We reiterate the strong profitability of Chinese banks and their potential growth, driven by urbanisation. Our top pick is ABC, given that it may substantially benefit from Chinas urbanisation.
BULLISH
Stocks for action
We are positive on the sector, with ABC being our top H-share pick, given our belief that it will substantially benefit from Chinas urbanisation.
Catalysts
We believe near-term catalysts include: 1) a potential interest rate hike in 4Q10F; 2) better-than-expected asset quality disclosure for 3Q10 in October. Anchor themes The operating environment remains favourable for Chinese banks in 2011F, but negative sentiment from uncertainties over policies and asset quality continue to weigh on valuation. Directional change in macro policies (less tightening) could trigger a near-term re-rating.
Stock ABC-H (1288 HK)
Rating BUY
Price 3.84
Price target 4.30
Note: Closing price as of September 21, 2010; local currency
Urbanisation Chinas next growth engine

Development of rural financial institutions under 12th FYP
12th Five-Year Plan (FYP) will be discussed during the Fifth Plenary Session of the 17th CPC Central Committee meeting in October. We believe this meeting is critical for investors to understand Chinas medium-term economic outlook and policy orientations. In our view, policies are likely to increase disposable incomes of rural and urban low-income households. Such policies include raising government agricultural goods prices, rising minimum wages, improving social welfare coverage, and increasing government expenditure on social welfare. We see ample opportunities for rural-based financial institutions in credit expansion, cross-selling insurance & wealth management products, as well as distribution of other intermediary services/products.
Analysts
Lucy Feng +852 2252 2165 lucy.feng@nomura.com David Chung +852 2252 6210 david.m.chung@nomura.com
Opportunities and challenges for banking sector

Chinas rural area is an under-penetrated market of financial services as the PBoC reported that county area loans and deposits represent 19.2% and 22.7% of national total balances. Following the urbanisation pace, we believe there will be a great shift in population, accompanied by demand for financial products and services, which in turn drive up banks deposit/loan growth, sales of intermediary fee products. In the long term, the competition landscape will evolve, where rural area post saving banks, rural cooperatives and rural commercial banks will become key players and beneficiaries from such trend.
Identify the winner ABC is more than county area banking

County area banking business accounted for 28.8% and 40.5% of ABCs loans and deposits as at end-FY09. In our view, ABC is in a sweet spot for a growth takeoff alongside the accelerating pace of Chinas urbanisation trend. ABCs target county customers are mainly residents of the county and county-level cities, private business (and their owners) and affluent rural households. We believe these segments will benefit most from the 12th Five-Year Plan and west/central development.
Nomura
76
29 September 2010
Strategy | China
Lucy Feng
Urban income three times that of rural

One of the most important reasons for such a massive amount of rural people migrating to urban areas is the higher income levels in cities. Statistics show that annual income per capita of urban household reached RMB18,858 in 2009, three times as much as that of rural households (RMB6,270). We believe that income level of those migrants should improve after they find jobs in cities, and the migration of such large amounts of rural people to cities in the next one-two decades, as we expect, should help to raise the income level of Chinese households as a whole. As income rises, we assume that total consumption expenditure of Chinese households should increase as well. Historical data indicate that urban households tend to expend a lot more than their rural counterparts. Assuming that consumption expenditure per capita of urban households in the next decade continues to grow at its average annual rate of 11.0% y-y in 2004-09 and rural household at 9.9%, the urbanisation of 150mn rural people could add an average RMB315.3bn per year to household consumption in the next 11 years, which is equivalent to 2.5% of total household consumption and 0.9% of nominal GDP in 2009.
One of the most important reasons for such a massive amount of rural people migrating to urban areas is the higher income levels in cities
Exhibit 107. Income per capita

RMB 20,000 Urban household Rural household
Exhibit 108. Consumption per capita

RMB 15,000 Urban household Rural household
16,000
12,000
12,000
9,000
8,000
6,000
4,000
3,000
0 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
0 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
Urbanisation will be a key growth engine for Chinas financial services industry
We believe that the above mentioned urbanisation trend will drive significant needs for financial services in particular at the consumer level. This great shift in population will be accompanied by significant demand for houses, household goods and services, which will drive up the growth for consumer lending, card business, insurance, investments services and so on. Labour in rural areas will undergo a gradual shift to work in the non-agriculture economy. In county-level areas there will emerge a large number of small cities; industry structure upgrading and urbanisation will accelerate the development of the county-level economy. We see enormous opportunities for financial companies that are well positioned to service this population and developments trend.
Urbanisation will drive demand for financial services
Nomura
77
29 September 2010
Strategy | China
Lucy Feng
ABC: valuation and investment risks

Our TP of HK$4.30 is based on 2.06x P/BV applied to the average FY10F and FY11F BVPS. Our sustainable ROE is 16.2 %. We use a Gordon Growth model (target P/BV = (sustainable ROE long-term growth)/(cost of equity long-term growth)) to derive our fair P/BV range, assuming a cost of equity of 12% and a terminal growth rate of 8.1%. We derive our terminal growth rate by applying a 50% payout ratio to our longterm sustainable ROE assumption. Being one of the largest banks in China, ABC remains closely tied to the Chinese economy. We believe that more-severe-than-expected macro tightening could result in a sharp rise in bad debt costs. Specifically for ABC, the government may implement certain policies in county areas which might or might not be of benefit to ABC. A slowing economy would likely have negative implications for loan growth and asset quality. The concepts of market and operations-related risks have only been introduced into Chinas banking system in recent years, and the system itself has yet to go through a full credit cycle. Therefore, there is no historical data showing how Chinese banks may perform under a more testing credit environment.
Nomura
78
29 September 2010
Strategy | China
Chitra Gopal, CFA
Battery
Action
BYDs competitors are Korean and Japanese companies who are vying for technology leadership in the car battery space. For BYD, we are sceptical about car batteries and more positive on grid batteries as governments start to mandate grid storage, owing to the accelerated renewables ramp. We await details on Chinas policy with respect to electric cars and storage in the 12th Five year plan.
BULLISH
Stocks for action
Potential catalysts for BYD: 1) new energy contracts and 2) inventory correction in auto ending 3Q10F marks the worst point, in our view.
Catalysts
Potential catalysts: 1) new energy contracts; and 2) inventory correction in auto ending 3Q10F marks the worst point. Anchor themes We expect 2010 to see the birth of an electric car battery market. Several issues need to be addressed: 1) technology is still nascent; 2) development of enabling factors such as battery leasing, charging infrastructure and government support.
Stock
BYD (1211 HK)
Rating
BUY
Price
HK$54.2
Price target
HK$62.0
Based on closing price on 21 September
Grid storage contracts offer best prospects

Grid storage battery contracts start opening up
While most of the energy storage in the US and China is pumped hydro, this method cannot be used across multiple locations. Therefore, there is a need for new energy storage methods to be developed. We see increased government storage mandates as generation from renewables rises. California passed a bill in August 2010, allowing regulators to mandate storage targets for 2014 and 2020, for public-owned utilities. BYD is developing a 5-10MW storage project with the LA Grid for a wind project. We are now starting to see grid storage battery contracts coming up.
Analysts
Chitra Gopal, CFA +65 6433 6980 chitra.gopal@nomura.com Raghvendra Divekar +91 22 6723 4335 raghvendra.diveka@nomura.com
Electric cars to take time to proceed

The biggest drawback for electric cars has been the battery costs which at US$8,000/car are very high. We believe government subsidies are needed to grow the market. Here we see China having fallen behind the US and Europe. We expect this to change with the government needing subsidies/budget to promote this industry (the market is expecting RMB100bn overall during FY1020F). In preparation, BYD is planning to get fleet contracts with taxis in Shenzhen and buses in China. We expect these to kick in by FY11F but remain sceptical about consumer adoption, with subsidies yet to be implemented.
MOUs galore but they do not guarantee success

Unlike peers SDI and LG Chem, which are focused on merchant markets (foreign auto makers), we see BYD focussing on the local China auto market. BYDs chemistry of lithium ferrous phosphate has low energy density versus peers resulting in a heavier battery which lends it to intra city driving in China versus highway driving. In 2009-10, BYD signed MOUs with Volkswagen, SAIC and Daimler. We believe MOUs alone do not guarantee contracts; in the past six months, car makers have signed 30 MOUs with battery makers for models, as they seek to diversify risk. The outcome of the MOUs with VW and SAIC remains to be seen. However, the JV with Daimler looks secure, in our view, with BYD now co-designing the car and shipment targeted for 2013.
Nomura
79
29 September 2010
Strategy | China
Chitra Gopal, CFA
Exhibit 109. 18 players doing R&D in Li-ion auto battery

Incumbents Leaders
GS Yuasa (Li) NEC-Nissan (Li) BYD (Li) LG Chem (Li)
SK Energy (Li ) Altair Nano (Li) Enerdel (Li) Electrovaya (Li) Kokam (Li) Gaiaa/LTC (Li) Valence (Li) American Lithium Energy (Li)
Start-Ups
A123 Systems (Li) Johnson Controls - Saft (NiMh, Li) Toshiba (Li) Hitachi Vehicle Energy (Li)
Wild Cards
Exhibit 110. 10 MOUs in six months will contracts eventually pan out?
Automaker JV Toyota Nissan Mitsubishi Motors Daimler Honda SAIC Supply Agreement General Motors Ford Hyundai Suzuki Hyundai Ford MOU Volkswagen Volkswagen Volkswagen BMW BMW BMW Coda Automotive Volvo Volvo Tesla THINK Changan Automobile Wanxiang Group Eaton Corp
Battery suppliers Panasonic (20% stake) NEC (49% stake) GS Yuasa (51%) BYD (50%) Evonik (50%) GS Yuasa (51%) A123 Systems (49%)
Vehicle name Prius Leaf EM iMiev EV Co branded EV
Date signed
Car timeline
May-08 Dec-07 May-10 Dec-08 Feb-09 Dec-09
2Q10 3Q10 2013 2012 2012
LG Chemical Johnson Controls - Saft LG Chemical Sanyo Electric SK Energy LG Chemical
"Volt" PHEV "Transit Connect" Van "Sonata" HEV. PHEV in 2012 "Swift" PHEV i10 EV Ford Focus EV
Jan-09 Feb-09 Jan-08 May-10 Jul-10 Jul-10
4Q10 4Q10 2Q10 3Q10 2011
Sanyo Electric Toshiba BYD Johnson Controls - Saft SB LiMotive A123 Systems Lishen Enerdel LG Chemical Panasonic Enerdel LG Chemical Enerdel LG Chemical
MOU for PHEV MOU for HEV MOU MOU MOU MOU MOU for EV MOU for EV "C30" Plug in diesel hybrid MOU MOU MOU Letter of intent MOU for commercial vehicles
May-08 May-09 Oct-08 Aug-09 May-09 Jun-09 Sep-09 Apr-10 Jan-10 Jan-10 Feb-10 May-10 Jul-10
? ? ? ? ? ? 2011 2012 2012 ? ? ? ? ?
Nomura
80
29 September 2010
Strategy | China
Chitra Gopal, CFA
Valuation methodology and investment risks

We set our priced target for BYD based on a sum of the parts, valuing the core business separately and for the new energy segment, estimating future earnings and discounting back to FY10F (at a discount rate of 15% per annum). Risks to our price target include those facing the broader sector: 1) enabling infrastructure needs to fall in place; utilities and automakers need to work on smart charging infrastructure; 2) warranty issues need to be resolved; and 3) protecting IP.
Nomura
81
29 September 2010
Strategy | China
Josephine Ho
Cement
Action
We remain Bullish on Chinas cement sector. Backed by government efforts to increase industry concentration, we expect cement industry consolidation to speed up over Chinas 12th FYP period, thus lending support to cement prices. Our top two picks in the China cement space are Anhui Conch and Sinoma.
BULLISH
Stocks for action
Anhui Conch and Sinoma are our top picks in the China cement space. We like Anhui Conch for its leading market share while Sinoma stands out for its big exposure to lucrative West China market.
Price Stock Rating Price ($) Target Anhui Conch (914 HK) BUY HK$33.6 HK$36.3 CNBM (3323 HK) BUY HK$17.34 HK$22.0 Asia Cement (1102 TT) BUY NT$31.65 NT$40.89 Taiwan Cement BUY NT$33.3 NT$40.8 (1101 TT) China Shanshui BUY HK$4.99 HK$5.80 (691 HK) Sinoma (1893 HK) BUY NT$6.29 HK$8.70 Prices as of 21 September market close
Catalysts
Catalysts are seen in stronger-than-expected demand growth, faster cement price hikes, industry consolidation and favourable government policies. Anchor themes We consider cement the best proxy for Chinas investment-driven economic growth, since it is used 100% in the construction sector. Nomuras China economics team calls for 30% y-y FAI growth in 2010F, providing solid support to the cement demand outlook.
Power rationing powers prices

Cement prices powered by power rationing
Going into 2H10, cement prices have remained largely stable across the North, Northwest and Northeast China markets, while prices in East, Central and South China saw both m-m and y-y increases in August. Prices in East China averaged RMB318/t in August, up 11% y-y and 5% m-m. Price in Zhejiang province, where power rationing was applied earliest and most extensively, grew 32% y-y and 18% m-m to RMB368/t in August, showing no signs of decelerating. Cement prices in Central China are also benefiting from power rationing, albeit applied on a smaller scale, up 3% m-m and flat y-y to RMB293/t in August. Prices in South China went up 22% y-y and 2% m-m to RMB384/t in August, with the gradual return of demand post the rainy season. However, prices in Southwest China remained on a downward trend, down 7% y-y and 1% m-m to RMB337/t. Prices in Sichuan came in flat m-m at RMB314/t in August after declining since the beginning of the year, suggesting local prices might finally stabilize in 3Q10 with potential demand from post-flood reconstruction. Generally, we remain upbeat about 2H10 price trends across China regional markets given stronger seasonality in 2H10 than 1H10. In addition, according to news reports, a total of 14 provinces across China will likely apply power rationing to energy-intensive industries including steel and cement by end-Sept and moreover, it will likely last until the end of the year (Source: Huaxia Times, Power Rationing Will Expand to 14 provinces, Sept 10). If this is the case, we expect more upside to cement prices during 2H10 across a wider region in addition to East/Central China, backed by supply cuts.
Analyst
Josephine Ho +852 2252 2177 josephine.ho@nomura.com
Northwest China: promised land during 12th FYP period

We remain confident that West China will be among the most profitable cement markets in China, owing to solid demand from government-funded infrastructure projects. China government announced in July 2010 it would start 23 key infrastructure projects in West China this year with a total investment at RMB682bn, compared to the RMB469bn in 2009. As shown below, West China provinces have enjoyed higher FAI (fixed asset investment) growth than the overall country, except for Xinjiang and Qinghai, both of which have lagged their West China peers but are rapidly catching up
Nomura
82
29 September 2010
Strategy | China
Josephine Ho
since 2010. In Qinghai province, we expect the post-quake reconstruction to stimulate demand greatly for building materials, such as cement and steel. As for Xinjiang, in May 2010, the China government stated it would raise the per capita gross domestic product there to the national average by 2015F from the present figure (79% of the national average), which means heavy government investment on its dilapidated infrastructure over Chinas 12th FYP period.
Exhibit 111. y-y change of monthly FAI in West China provinces

(%)
60 50 40 30 20 10 % 0 May-09 May-10
Jul-10
83
China FAI Ningxia
Gansu Xinjiang
Qinghai
Mar-09
Nov-09
Aug-09
Sep-09
Dec-09
Feb-09
Feb-10
Mar-10
Mar-10
Jul-09
Jun-09
Oct-09
Apr-09
Jan-10
Backed by significant FAI and rich natural resources, Northwest China has long enjoyed higher-than-national average cement prices but relatively lower coal prices. Thus, Northwest China has the highest gross margin usually above 25% versus 1018% for the rest of China and around 15% for the national average, according to data from China Cement Net. Our recent conversation with Xinjiang-based Tianshan Cement echoed the data: Tianshans cement gross margin in Xinjiang is generally >30% (gross profit/t of RMB70-80/t), while the gross margin in its eastern market usually hovers around 10%. We believe Northwest China will remain a promised land for cement business over the next five years as the West China Development Plan will continue into 12th FYP period, meaning continued massive government investment.
Exhibit 112. Cement price movements in West China versus national average
(Rmb/t) 700 Gansu Ningxia National average Qinghai Xinjiang
500
300
100 May-08 May-09 May-10 Nov-08 Mar-08 Sep-08 Sep-09 Nov-09 Mar-09 Jan-08 Jul-08 Jan-09 Jul-09 Jan-10
Source: China Cement Net, Nomura research
Nomura
Apr-10
29 September 2010
Strategy | China
Josephine Ho
Industry consolidation, same old tune with stronger beat

According to report (Source: Shanghai Securities, Energy-saving and environmental protection will be a focus in Chinas 12th FYP, July 22, 2010), energy and environmental issues are one of the key areas China government will look at closely and try to address over 12th FYP period. The recent power rationing on cement industry, among some other industries, is just one latest move by government to cut energy consumption in order to meet the energy-saving target set for 11th FYP (20062010F). To meet a possibly higher energy-saving target during 12th FYP period, China has given high priority to push industry consolidation to curb capacities and energy consumption. According to news report (Source: China Cement Net, Cement Industry Restructuring Set to Start, Sept 13), China aims to increase the Top 10 cement producers market share from 25% (as of 2009) to above 35% as of 2015F, end of 12th FYP period in terms of cement capacities, for which the government actually has two strings: phasing out outdated capacities and pushing industry M&A. On August 9, 2010 China announced to close down 19mt of outdated cement capacity and 88.3mt of outdated clinker capacity by 3Q10, implicating a total of 762 cement producers across the country. In addition, it was reported that China will eliminate all of its outdated capacities by end of 12th FYP period. (Source: China Cement Net, Cement Industry Restructuring Set to Start, Sept 13). On the other hand, China has issued various policies to push industry consolidation since 2005, and the latest one, Advice to promote company M&A and industry restructuring by Chinas State Council on Sept 6, 2010, stipulates that the government will remove rules that limit cross-regional M&As and that local governments may sign agreements on splitting revenue from companies formed through cross-regional M&A, which removes the biggest obstacle for cross-region M&As. We expect industry M&A to speed up in the next few years driven by both governments efforts and cement producers growth needs. With increasing industry consolidation, we believe cement prices will be better supported due to more rational supplies and also due to better price collaboration among leading producers. We have learned from some cement producers that in some select markets with high concentration, the local leading producers have tried to collaborate on prices from this year, especially during low season, rather than going to price wars. This is good to ensure a more sustainable and healthy growth for the industry, in our view.
Maintain Bullish on China cement sector

Share prices of China cement stocks under our coverage have outperformed the respective index by >22% in the past three months as the market was welcoming the strong seasonality in 2H, which was fuelled by recent power rationing across the country. As we are only halfway through 2H and in addition, China government is on the threshold of unveiling its 12th FYP around March-April 2011F, we believe a lot more industry and policy positives have yet to be fully priced in. Thus, we stay bullish on the China cement sector with Anhui Conch and Sinoma being our two top picks.
Nomura
84
29 September 2010
Strategy | China
Josephine Ho
Valuation methodologies and investment risks

Anhui Conch (914 HK): We maintain our BUY call on Anhui Conch with a price target of HK$36.3, based on 12.2x 2011F EV/EBITDA, to reflect the latest market valuation. Growing demand, solid price profit in South China, rising profit in east China, and growing market share in west China should buoy the shares. Investment risks: potentially slower-than-expected execution of government spending; lower-thanexpected demand and slower-than-expected supply increases. CNBM (3323 HK): We maintain our BUY call on CNBM and our price target of HK$22.00 based on SOTP valuation. We use the same target multiples for its cement (11x EV/EBITDA) and non-cement business (14.8x of FY10F P/E). Investment risks include 1) exposure to risk of slowing economic growth; 2) high financial leverage; 3) seasonality impact. Sinoma (1893 HK): We maintain our BUY rating on Sinoma and our price target of HK$8.70. We derived our price target from SOTP valuation. We use EV/EBITDA to value each business segment (cement engineering, cement manufacturing, and hightech materials), but apply different multiples. We value the cement engineering business at 5.0x FY10F EV/EBITDA, a 30% discount to the engineering and construction industry average, given Sinomas lower margins. For its cement business, we apply 4.5x EV/EBITDA, largely in line with the regional average. For the high-tech materials business, we use 6.5x FY10F EV/EBITDA, in line with the average trading multiples for high-tech material peers. Our PT of HK$8.70, based on a 10% discount to fair value of RMB8.72 per share (HK$9.70), implies an FY10F P/E of 21x and a P/BV of 3.0x, the mid-cycle valuation. Investment risks include: 1) foreign exchange risk; 2) political risk; 3) raw material cost increase. Shanshui Cement (691 HK): We have a BUY rating on Shanshui Cement with a price target of HK$5.80, based on 6.7x FY11F EV/EBITDA, in line with the regional average. Investment risks include: 1) higher-than-expected coal prices; 2) slower-than-expected execution of government spending and 3) lower-than-expected cement demand. Taiwan Cement (1101 TT): We maintain our BUY call on Taiwan Cement and our price target at NT$40.80 unchanged given its strong position in southern China. We are using the same valuation methodology, a sum-of-the-parts net asset value (NAV), and the same multiple of 7.7x EV/EBITDA for FY10F. Risks to our rating and price target include: 1) deviation in Chinas GDP and FAI growth assumptions; 2) any change in raw material prices, and; 3) execution risks. Asia Cement (1102 TT): We maintain BUY and price target of NT$40.89 on Asia Cement, based on SOTP NAV. Our price target is derived by applying 7.0x FY10F EV/EBITDA (methodology unchanged) to its cement business and a 15% conglomerate discount to its long-term investment portfolio (no change from before). Risks to our rating and price target include: 1) complicated cross-holding structure; 2) delay in government spending kick-offs; 3) exposure to bulk shipping cyclicality, and; 4) changes in coal price assumptions.
Nomura
85
29 September 2010
Strategy | China
Emma Liu
Food and Beverages

Action
We are upbeat on China F&B players, as we expect their top-line to record a 22% two-year CAGR over FY11F-12F, driven by personal income growth and urbanisation. Moreover, we expect market leaders with nationwide exposure to benefit from faster development in Central and Western China. Input costs, the major swing factor to earnings, are likely to see less upside risk in FY11F due to y-y base effect and market leaders pricing power. Yurun is our Top Buy.
BULLISH
Stocks for action
Using a bottom-up approach, looking for earnings resilience and growth, as input costs are about 80% of COGS for most stocks, we believe our top picks are likely to perform the best in a cost-push scenario.
Price Price target Rating (HK$) (HK$) BUY REDUCE 29.05 34.00 45.55 33.00
Catalysts
Product price hikes (in reaction to cost push) and wage increases. Anchor themes We are positive on consumption growth for F&B in China in the long run, given increased personal income and urbanisation. However, due to short-term risks such as inflation, we prefer market leaders with strong pricing power.
Stock China Yurun (1068 HK) Tsingtao Brewery (168 HK)
Note: closing as of 21 Sep, 2010; Ratings and Price Targets are as of the date of the most recently published report (http://www.Nomura.com) rather than the date of this document
Still a growth story

Benefiting from personal income growth and urbanisation
We expect sales of listed China F&B players under our coverage to witness a 22% two-year CAGR over FY11-12F, with Yurun topping at 38% and Tsingtao with the lowest scoring at 13%. Strong execution capability which enables these players to gain market share is likely to be a growth driver to their top line, but we expect personal income growth and urbanisation in China to be the major revenue drivers in the mid to long term. Moreover, since F&B is not labour intensive, labour only accounts for about 5% of the China F&B companies COGS. Personal income growth should not exert cost pressure on the Chinese F&B players, in our view. Nomuras China economists expect one of the key focuses under the 12th FiveYear Plan to be boosting domestic consumption by increasing the disposable incomes of rural and urban low-income households and urbanisation. With expected sustainable personal income growth and urbanisation, we foresee two rising industry trends: 1) consumers lifestyle will change and consumption demand for packaged and processed F&B products will increase continuously and 2) demand for packaged and processed F&B products will upgrade, and as such, product mix upgrade by suppliers will also be ongoing, in which market leaders with strong capability in new product launches are likely to benefit. Rising personal income has changed Chinese consumers lifestyle. Coupled with increased food variety, Chinese consumers are shifting their diet into convenience foods, which are packaged and processed F&B products such as instant noodles, soft drinks, packaged processed meat, snacks, etc. Based on comparisons between China and overseas, Chinas per capita consumption for most of the packaged and processed F&B categories is still much lower than overseas.
Analysts
Emma Liu +852 2252 6172 emma.liu@nomura.com Anita Chu +852 2252 1425 anita.chu@nomura.com
Nomura
86
29 September 2010
Strategy | China
Emma Liu
Exhibit 113. Per capita consumption of instant noodles (2009)

(Packet) 80 70 60 50 40 30 20 10 0 S. Korea
Exhibit 114. Per capita consumption of soft drinks (2009)

('000 ml) 200 180 160 140 120 100 80 60 40 20 0
Japan
Hong Kong
Taiwan
China
US
Mexico
Brazil
Russia
China
Source: Reuters, Beverage Digest, Nomura research
Exhibit 115. Per capita consumption of beer (2009)
Exhibit 116. Packaged/processed F&B as percentage to total food consumption per capita (2009)
(%) 100 90 80 70 60 50 40 30 20 10 % 0
US
(Litres) 120 100 80 60 40 20 0 Germany Switzerland Luxemburg Norway Belgium Austria Italy Poland Portugal Finland Lithuania France Turkey Ireland Spain China UK
Packaged/processed F&B
Others
Brazil
France
Russia
Source: The Brewers of Europe, CEIC, Nomura research
Source: Euromonitor International; USDA Economic Research Service, Nomura research
Due to sustainable personal income growth and a higher number of safety scandals, Chinese consumers are becoming more demanding when they purchase F&B products. On one hand, consumption demand is upgrading to mid- to high-end products from low-end products and on the other hand, consumers are focusing more on premium brands, the products of which are perceived as safer. We expect market leaders with strong capability in product launches to benefit and win market share amid this industry trend. In our view, Yurun, Want Want, Tingyi, UPC and Mengniu will likely see an ongoing product mix upgrade with their strong execution in product launches going forward.
Japan
Due to sustainable personal income growth and a higher number of safety scandals, Chinese consumers are becoming more demanding when they purchase F&B products
Exposure to Central and Western China

Based on our analysis, 43 out of 65 key regional economic indicators suggest Central and Western Chinas growth rate exceeds that of the Eastern region. Our observation from both qualitative and quantitative measures is that Central and Western China are entering a high-growth era.
Most of the nationwide F&B plays have yet to build a significant presence in Western China
Nomura
87
29 September 2010
China
India
Strategy | China
Emma Liu
In our view, the expected faster economic growth in Central and Western China will benefit the nationwide F&B players across the board. However, it is worth mentioning that although they have established position in Central China, most of the nationwide F&B plays have yet to build a significant presence in Western China. Based on our estimate, Western China accounts for less than 10% of the sales for most of the nationwide F&B companies (Tingyi, Mengniu, Want Want, etc). Among the nationwide plays, Yurun and CRE are relatively more exposed to the Central and Western regions and we believe they should benefit most from faster development in these regions.
Exhibit 117. Yurun and CRE's exposure to Central and Western China
(%) Region Eastern Central Western
Note: data as of 1H10 Source: Company data, Nomura research
Yurun (slaughtering capacity) 31 61 8 100 (downstream processing) 57 39 5 100 (no. of brewery plants) 48 28 24 100
CRE (no. of supermarkets) 87 12 2 100
Cost inflation unlikely to be ongoing concern in 2011F

Cost inflation has been a concern for China F&B companies since early-2010, alongside a price rebound in soft commodities and package materials. However, we dont think cost inflation will remain a concern in 2011F, because of: 1) y-y base effect and 2) increasing likelihood of product price hikes. Significant gross margin squeeze as a result of cost pressure, which was what we had seen in 1H10, could be mainly attributable to the low base of input costs in 1H09. Prices of most inputs, including package material and agriculture products, slumped post the financial crisis and reached the trough in 1H09. Note that the price of package material, the major raw material input (accounting for 30-40% of COGS basically), is softening recently. Prices of PET (the major package material) recently dropped to around RMB10,000/tonne from RMB11,000/tonne at end-2Q10. We expect limited upside for PET costs in the short term, given over-capacity in this industry in China. Based on a general high cost base in 2010F and limited upside risk in the package material cost, we believe y-y increase in COGS for 2011F, if any, is likely to be mild.
Based on a general high cost base in 2010F and limited upside risk in the package material cost, we believe y-y increase in COGS for 2011F, if any, is likely to be mild
Exhibit 118. Domestic PET price

(RMB/ton) 13,000 12,000 11,000 10,000 9,000 8,000 7,000 1Q03 2Q03 3Q03 4Q03 1Q04 2Q04 3Q04 4Q04 1Q05 2Q05 3Q05 4Q05 1Q06 2Q06 3Q06 4Q06 1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 3Q08 4Q08 1Q09 2Q09 3Q09 4Q09 1Q10 2Q10 3Q10
Source: Thomson Reuters Datastream, Nomura research
Nomura
88
29 September 2010
Strategy | China
Emma Liu
Exhibit 119. Economist food index

(US$) 300 275 250 225 200 175 150 125 100 75 50 25 0 Jan-00 May-00 Sep-00 Jan-01 May-01 Sep-01 Jan-02 May-02 Sep-02 Jan-03 May-03 Sep-03 Jan-04 May-04 Sep-04 Jan-05 May-05 Sep-05 Jan-06 May-06 Sep-06 Jan-07 May-07 Sep-07 Jan-08 May-08 Sep-08 Jan-09 May-09 Sep-09 Jan-10 May-10 Sep-10
Note: The index takes 2000 as the base year and the weights for each commodity are based on the value of world imports in 1999-2001 (treating European Union as a single market). The index, make up of 25 commodities, excludes oil and precious metals. Source: Thomson Reuters Datastream
We think any cost pressure as a result of price rises in soft commodities poses just a short-term threat to market leaders in Chinas F&B industry since they can pass on cost pressure via a more value-added product mix or by hiking product prices. Should cost pressure from food-related raw materials surprise on the upside, we see an increasing likelihood for the market leaders to raise their product prices in 2011F. In our view, companies such as Want Want, Yurun, Tingyi and UPC have relatively strong pricing power: given 1) high concentration of their respective markets; 2) consumers low price sensitivity to their respective products; and/or 3) strong track record of raising product prices. We have more detailed analysis with regard to this issue in our report Two Sides to the Cost Story dated 14 July 2010.
Should cost pressure from foodrelated raw materials surprise on the upside, we see increasing likelihood for market leaders to raise their product prices in 2011F
Exhibit 120. Pricing power analysis

Industry Instant noodles Beverage Ready-to-drink tea Bottle Water Juice drinks (5-39%) 100% juice Juice nectar Beer Dairy Children's flavour milk UHT milk Wine Consumer-pack edible oil Snacks Tobacco flavour Processed meat products 4 3 1 3 1 3 3 4 2 4 1 5 4 3 4.0 2.5 2.5 2.0 3.0 3.5 3.0 Want Want, Mengniu Mengniu China Foods China Foods Want Want Huabao Yurun 4 3 3 4 4 2 2 1 2 3 2 2 3.0 2.0 2.5 3.5 3.0 2.0 Tingyi, UPC, China Foods Tingyi, UPC, China Foods China Foods, Tingyi, UPC, Huiyuan Huiyuan Huiyuan Tsingtao, CRE Market Consumers' concentration price sensitivity 4 2 Pricing power 3.0 Companies Tingyi, UPC
Note: we assigned 50/50 weightings on market structure and consumers' price sensitivity Higher figures represent higher pricing power Market structure 5-point scale: ranked from 1 (very diversified) to 5 (very concentrated) Consumers' price sensitivity 5-point scale: ranked from 1 (very sensitive) to 5 (insensitive) Source: Company data, AC Nielsen, Nomura research
Nomura
89
29 September 2010
Strategy | China
Emma Liu
Exhibit 121. F&B market leaders track record of product price hikes
Historical product price hikes to pass on cost pressure
Tingyi instant noodle
(Gross margin) 35% 30% 25% 20% 15% 10% 5% 0% 1H06 2H06 1H07 2H07 1H08 2H08 1H09 2H09 Jul 07: high-end pack noodle +16% low-end pack noodle +11% Jul 09: high-end pack noodle +10% with product upgrade meanwhile
Tingyi beverage
(Gross margin) 45% 40% 35% 30% 25% 20% 15% 10% 5% 0% 1H06 2H06 1H07 2H07 1H08 2H08 1H09 2H09 Jan 08: +2.5% ASP in tea & other beverages; +4.5% ASP in bottled water.
Yurun LTMP
(Gross margin) 35% 30% 25% 20% 15% 10% 5% 0% 1H07 2H07 1H08 2H08 1H09 2H09 FY07: +8% ASP Jan 08: +5% ASP Oct 09 & Jan 10: +3-5%
Want Want rice cracker

(Gross margin) 50% 45% 40% 35% 30% 25% 20% 15% 10% 5% 0% 1H08 2H08 FY08: gradually +5-50% ASP across the board 4Q08: +11% for core brand, +2.5% for gift pack, +45% for sub-brand.
1H09
2H09
Want Want dairy

(Gross margin) 45% 40% 35% 30% 25% 20% 15% 10% 5% 0% 1H07 2H07 1H08 2H08 1H09 2H09 3Q08: +5%
Want Want snack

(Gross margin) 50% 45% 40% 35% 30% 25% 20% 15% 10% 5% 0% 1H07 2H07 1H08 2H08 1H09 2H09 FY08: gradually +5-50% ASP across the board
Source: Company data, Nomura research
Valuation methodology and risks

China Yurun: We stick to our valuation at 23x 12-month forward EPS (HK$1.48/share) and maintain our price target of HK$34. The 23x P/E is on par with the mid-end of the four-year P/E band for the China F&B sector. Downside risks include an unexpected outbreak of pig disease across the country and food safety scandals within the food processing sector or at Yurun. Tsingtao: Our PT of HK$33 is based on 25x 12-month forward EPS (RMB1.16), a 10% premium to sector average. Although we think Tsingtao deserves a 20% premium given its premium brand, we only award a 10% premium for Tsingtao owing to its likely slow-down in EPS growth. Upside risk: stronger-than-expected volume growth and significant M&A.
Nomura
90
29 September 2010
Strategy | China
Gordon Wai
Fertiliser
Action
Despite our view that demand could recover, particularly for potash, after two years of under-application, we think oversupply in urea and phosphate could limit price and margin upside. We prefer China BlueChem (upstream producer) to Sinofert (distributor) as we believe the former should benefit from the consolidation theme in the 12th Five Year Plan. We rate China BlueChem a Buy as it is a cost leader with a strong balance sheet (net cash) which it can leverage for potential acquisitions.
NEUTRAL
Stock for action
We have a BUY rating on China BlueChem as it is a cost leader in the industry with a net cash position.
Catalysts
Expected demand increase in FY11F could be a catalyst while industry consolidation should improve the demand/supply imbalance and boost prices over the medium term. Anchor themes Over the long term, economic and population growth, coupled with limited planting acreage, should drive fertiliser demand.
Price (HK$) 5.72 4.47 Price target (HK$) 6.0 3.75
Stock China BlueChem Sinofert
Rating BUY NEUTRAL
Based on the closing price of 21 September
Consolidation is key
Consolidation and energy conservation will be fertiliser sector
themes in the 12th Five Year Plan
We believe industry consolidation, outdated capacity elimination, and energy conservation will be the main themes for the fertiliser sector in the 12th Five Year (2011-15) Plan. Urea fertiliser producers are scattered all over China, while the majority of phosphate producers are located in Yunnan, Guizhou, Sichuan and Hubei. However, both urea and phosphate products are in overcapacity domestically. We think the government could control urea and phosphate capacity expansion and accelerate industry consolidation to eliminate inefficient producers. For potash, the government is likely to encourage domestic potash producers to expand capacity to increase self-sufficiency in China. On the energy conservation front, the government could further suppress natural gas usage as a feedstock for chemical fertiliser production and favour fertiliser producers to use coal as a feedstock for production. Hence, securing coal reserves will be important for fertiliser producers to further expand production capacity. We think China BlueChem could leverage its strong balance sheet (net cash) to acquire fertiliser producers to increase its market share or diversify its product mix and also acquire coal mines to secure feedstock for further urea capacity expansion over the next five years (2011-2015). This is in line with the themes of the governments 12th Five Year Plan.
Analysts
Gordon Wai +852 2252 6176 gordon.wai@nomura.com Cheng Khoo +852 2252 6180 cheng.khoo@nomura.com
Strong exports during the off-peak season

Approaching year-end, we expect fertiliser demand to improve due to: increased exports during the off-peak season (July to mid-September and NovemberDecember); the autumn plantation season (mid-September to October); and restocking in 4Q10 for spring plantation in 2011. In July, we saw a strong rebound in urea exports, up nearly three-fold to 309k tonnes compared with 84k tonnes in June. Diammonium phosphate (DAP) exports doubled from 414k tonnes in June to 844k tonnes in July. Given strong demand for urea and DAP in India and Iran, we believe the export trend will stay firm during the off-peak season.
Nomura
91
29 September 2010
Strategy | China
Gordon Wai
Prefer upstream producer

In the China fertiliser coverage universe, we prefer upstream producer (China BlueChem) to distributor (Sinofert), owing to its compelling valuations, high profit margins, strong cashflow and since it is a beneficiary of the consolidation theme addressed by the 12th Five Year Plan. Based on the closing price of HK$5.72 on 21 September, China BlueChem is trading at 14x FY11F PE and 1.9x FY11F PB, which are at a discount compared with international peers trading at 15.3x FY11F PE and 3.6x FY11F PB.

China Bluechem: Our price target of HK$6.0 is based on FY11F ROACE/WACC (15.9%/7.7%). Risks to our call include higher-than-expected natural gas price hikes, (ii) weak fertiliser prices and (iii) natural disaster. Sinofert: Our price target of HK$3.75 is based on average FY11F ROACE/WACC (7.3%/5.2%). Upside risks to our call include: (i) higher-than-expected gross profit margins, (ii) pickup in sales volume growth. Downside risk includes (i) potential share issuance to acquire its parent's stake in Qinghai Salt Lake Potash merger and (ii) natural disaster.
Exhibit 122. Selected company valuations

Ticker China BlueChem Sinofert 3983 HK 297 HK Rating Buy Neutral Sh price (local curr) HK$5.72 HK$4.47 Mark. cap (US$mn) 1.3 3.9 P/E (x) 2010F 17.6 29.1 2011F 14.0 18.6 P/BV (x) 2010F 2.1 2.1 2011F 1.9 1.9 ROE (%) 2010F 13 7 2011F 14 11 Yield (%) 2010F 2 1 2011F 2 1
Exhibit 123. Urea apparent consumption

('000 tonnes) 2006 2007 2008 2009 Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Jan-Jul 2010 Y-Y% 2006 2007 2008 2009 Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Jan-Jul 2010 9.1 14.3 3.9 13.2 13.4 3.7 (3.4) 1.2 (12.2) (5.1) (15.5) (3.4) (47.1) (98.6) (87.6) NM NM NM NM NM NM NM NM NM (12.9) 284.3 (17.0) (22.5) 162.7 46.6 221.2 274.4 220.4 521.0 66.7 110.1 (11.3) 295.1 (17.0) (23.4) 160.8 45.5 214.3 621.0 380.4 1431.4 66.7 118.3 9.8 6.2 6.1 16.3 8.1 0.0 (6.4) (1.6) (13.3) (6.5) (18.3) (6.2) Production 47,581 54,387 56,497 63,981 5,059 4,924 5,211 5,315 5,222 5,363 4,841 35,935 Import 37.55 0.54 0.07 38.80 2.92 3.93 5.19 1.05 0.00 0.12 0.02 13.23 Export 1,367 5,254 4,360 3,379 402 558 240 170 84 84 309 1,848 Net imp./(exp.) (1,330) (5,253) (4,360) (3,340) (399) (554) (235) (169) (84) (84) (309) (1,835) App. cons. 46,251 49,134 52,137 60,641 4,659 4,369 4,976 5,146 5,138 5,279 4,532 34,100
Exhibit 124. Urea prices up to August 2010

(RMB) 2,600 2,400 2,200 2,000 1,800 1,600 1,400 1,200 1,000 02 03 04 05 06 07 08 09 10
Source: CEIC, Nomura Research.
Nomura
92
29 September 2010
Strategy | China
Gordon Wai
Exhibit 125. Phosphate apparent consumption

('000 tonnes) 2006 2007 2008 2009 Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Jan-Jul 2010 Y-Y % 2006 2007 2008 2009 Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Jan-Jul 2010 12.3 6.0 (5.5) 18.2 50.7 6.1 2.6 6.0 27.8 21.4 21.8 17.0 (22.1) (61.8) (81.9) 340.0 NM NM 178.2 (100.0) (100.0) 788.2 (100.0) 85.7 34.9 209.7 (55.1) 46.5 (14.1) (78.8) (39.9) (8.3) 396.7 97.9 179.8 23.3 (78.8) (1784.6) (50.6) 28.5 (102.5) (101.3) (134.3) 581.4 (167.6) 97.9 245.0 11.2 7.7 (12.0) 3.2 17.3 84.8 43.9 9.8 3.3 21.4 11.4 (15.4) 17.7 Production 19,616 20,795 19,659 23,245 1,780 1,814 2,259 2,159 2,055 2,208 2,086 14,361 Import 1,460 557 101 444 190 100 132 0 0 0 0 422 Export 1,261 3,906 1,754 2,569 185 94 95 64 37 414 844 1,733 Net imp/(exp.) 199 (3,349) (1,653) (2,125) 5 6 38 (64) (37) (414) (844) (1,310) App. cons. 19,815 17,446 18,006 21,120 1,785 1,820 2,297 2,095 2,018 1,794 1,242 13,051
Exhibit 126. Phosphate (DAP) prices up to August 2010

(RMB) 5,000
4,000
3,000
2,000
1,000 02 03 04 05 06 07 08 09 10
Note: CEIC, Nomura Research.
Exhibit 127. Potash apparent consumption

('000 tonnes) 2006 2007 2008 2009 Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Jan-Jul 2010 Y-Y% 2006 2007 2008 2009 Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Jan-Jul 2010 11.7 (4.8) 11.3 31.9 157.5 79.0 4.6 10.4 12.7 2.7 0.8 11.1 (19.1) 31.4 (45.3) (60.5) (54.3) (12.9) 235.8 389.5 174.5 34.2 1234.8 59.6 157.4 (66.7) 27.7 163.9 NM NM NM NM NM NM NM NM (21.8) 36.4 (46.2) (67.1) (56.9) (14.6) 235.5 389.5 168.9 36.9 NM 69.8 (11.9) 20.9 (29.2) (21.1) (40.3) 2.2 61.4 98.3 37.6 10.0 72.7 31.6 Production 4,176 3,976 4,424 5,836 161 152 502 591 664 722 633 3,423 Import Export 7,300 9,593 5,248 2,074 341 338 526 790 306 261 277 2,839 353 117 150 396 19 7 1 0 6 2 2 37 Net imp./(exp.) 6,947 9,476 5,098 1,678 322 331 525 790 300 258 275 2,802 App. cons. 11,123 13,452 9,522 7,514 483 483 1,027 1,381 964 980 908 6,225
Exhibit 128. Potash prices up to August 2010

(RMB) 5,000 4,000 3,000 2,000 1,000 0 02 03 04 05 06 07 08 09 10 Potash (Domestic) Potash (Imported)
Note: CEIC, Nomura research
Nomura
93
29 September 2010
Strategy | China
Gideon Lo
Healthcare
Action
The 12th Five-Year Plan will continue the development of a medical insurance system for full-coverage of the entire population with affordable healthcare costs and accessible healthcare infrastructure. Policy spotlight will be on the upgrade of the biotech industry and consolidation of the pharmaceutical distribution market.
N/A
Catalysts
Solid sector growth visibility and sustainability as well as enhancement of stocks trading liquidity and market capitalization will likely remain re-rating catalysts. However, investors should be aware of mispricing risks and opportunities on stocks amid the inflection point in the era of major policy change. Anchor themes While the seed of healthcare reform has been sowed, we expect the domestic healthcare sector will continue to blossom due to unleashed demand from the rural market, continuous urbanization and the growth of Chinas aging population.
Reinforcing the healthcare reform

An integral part of healthcare system reform
The 12th Five-Year Plan (FYP) for the healthcare sector will likely continue the major policy blueprint laid out by the healthcare system reform announced in April 2009. We believe it will reinforce the long-term policy target of developing an entire population coverage medical insurance system under an affordable and accessible healthcare infrastructure. This is consistent with the countrys emphasis on the quality, instead of quantity, of economic growth in the next five years.
Analyst
Gideon Lo +852 2252 6190 gideon.lo@nomura.com
Five key programmes to re-shape the domestic landscape

To achieve the long-term healthcare policy aims, the regulators have focused their resources on five reform programmes in 2009-11, including: 1) the construction of the basic social security system for healthcare, 2) the set-up of an essential drugs list and system, 3) the development of an accessible healthcare system for low-income groups, 4) the provision of basic and preventive healthcare service on a fair basis, and 5) the reform of the public hospital system. The execution of these programmes in the 12th FYP will continue to be the central policy focus to re-shape the domestic healthcare market landscape in the next five years. We expect government resources to be skewed towards the expansion of medical insurance coverage, the development of basic healthcare systems, the provision of preventive medical treatment methods and the building of healthcare infrastructure in rural areas.
Continuity of long-term development targets

In the previous FYP, the National Development and Reform Commission (NDRC) carried out various financial and administrative measures to encourage innovation, product upgrade and consolidation in industry. This included policy support for the development of innovative biotech products, high-end medical devices and patented medicines, as well as the continuity of the Chinese medicine modernization. Looking ahead, we believe more tax incentive measures and direct subsidies will be provided for domestic R&D projects of major innovative medicines or medical products in the sector. This will likely benefit leading bio-medicine and patented medicine makers in China. Coupled with the new Good Manufacturing Practices (GMP) standards and the stricter new drugs approval process, we expect future growth opportunities to be increasingly shifted toward market leaders with strong R&D capability.
Nomura
94
29 September 2010
Strategy | China
Gideon Lo
In addition, the Chinese government is also expected to carry out new measures to accelerate the restructuring and consolidation of the fragmented pharmaceutical manufacturing and distribution markets. Supportive financial and administrative measures will be applied to encourage the market leaders to expand and acquire the smaller and less-efficient players. Those non-efficient and outmoded facilities will be forced to close down under the increasingly stringent regulations. The biotech, pharmaceutical distribution and medical device sub-sectors will issue its 12th FYP in the next couple of weeks. According to local news sources, China will offer subsidies of over RMB10bn to support core R&D projects for innovative medicines and offer other incentives like special funding, tax benefits and financial support. The Chinese government will also seek to consolidate the fragmented pharmaceutical distribution market and support a few nationwide distributors to achieve over RMB100bn annual sales revenue and about 20 regional leading distributors to achieve over RMB10bn sales revenue. New measures will also be introduced to encourage the export of medical devices. Investors should be aware of the possible investment opportunities from those major beneficiaries in these sub-sectors.
Major implications
Given the policy targets from the healthcare reform and 12th FYP, we believe the sector will move into the direction of more innovation, product upgrades, cost controls, energy saving and environmentally friendly development. All these changes will force enterprises to invest in R&D, production facilities and logistics services to meet the higher regulatory requirements. Against the backdrop of the shift in market paradigm, we expect market leaders to be in a better financial and market position to adapt to the changes and accelerate their expansion in the market.
Looking for mispricing opportunities

Despite our positive view for the long-term growth of the sector, we are aware of the increasing risk from mispricing of some stocks. In the era of any major change in healthcare policies, the possibility of mispricing risk and opportunities will be higher, in our view, as investors, policy makers and producers also need time to understand and adapt to the actual effects of the new policies. Learning from history, we can seek to make more reliable predictions for the future. In the last policy inflection point (overlapping of healthcare reform and beginning of 11th FYP in 2005), we saw a significant slowdown in the sectors earnings growth to c. 10% in 2006, compared to an average c. 20% CAGR from 2001-05. The growth hiccup in 2006 was due to a massive anti-corruption investigation against the State Food and Drug Administration (SFDA) and hospitals, coupled with the negative effects of drug price cutting and the enforcement of GMP standards History does not always repeat itself. However, it does show us the importance of the risk of policy uncertainty to the sector, especially as the current valuations of many pharmaceutical stocks are no as longer compelling as they once were. At current valuations, we recommend investors look for mispricing opportunities over the next 12 months, while we believe any significant re-rating is unlikely in the short term from current valuation levels. However, if we were to see an unpredictable or short-term sector profit slowdown in 2011, we do not think investors should be unduly worried. Looking again at history, during the past policy inflection point, after the short-term difficulties in 2006, the sector experienced an unusually robust earnings recovery in 2007, with nearly a 46% jump in average profit. We expect the aging population, urbanization and economic growth to maintain the high growth of the healthcare market in China, especially from its current low base, in the next decade. We expect any policy distortion to market growth to be temporary, which we would view as an attractive BUYing opportunity.
Nomura
95
29 September 2010
Strategy | China
Gideon Lo
Exhibit 129. Market share of China drug market in the world (2009)
World market size = US$808b China 4% (Rank 5th by countries) Others 14% North America 40%
Exhibit 130. Market share of China drug market in the world (2015F)
World market size = US$1,162b Others 21%
China 7.7% (Rank 3rd by countries)
North America 35%
Japan 11% Europe 31%
Japan 9% Europe 27%

Source: Nomura research, IMS
Source: Nomura research, IMS
Exhibit 131. Healthcare expenditure as percentage of GDP in 2006

(%) 18 16 14 12 10 8 6 4 2 0
Exhibit 132. Out-of-pocket expenditue as % of private healthcare expenditure

(%)
15 11 9 8 8
11 8 5
10
100 90 80 70 60 50 40 30 20 10 0
83
89 81 57
92 75 49
33 24
Italy
Germany
Germany
Canada
France
France
Spain
China
China
Italy
Source: Nomura research, WHO Report 2008
Note: Nomura International Limited (Hong Kong), WHO Report 2008,
Exhibit 133. Sector profit: Medical & pharmaceutical products in China

(RMB) 100 90 80 70 60 50 40 30 20 10 0 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 5M10 Profit (LHS) Change (RHS) (%) 50 45 40 35 30 25 20 15 10 5 0
Nomura
96
29 September 2010
Canada
Japan
Japan
Spain
UK
USA
USA
UK
Strategy | China
Gideon Lo
Exhibit 134. Key companies in medical device and biotech segments

Currency Com pany Nam e Medical devices Shandong Weigao Group Medical Polymer Co Ltd Trauson Holdings Co Mingyuan Medicare Development Co Ltd Golden Meditech Holdings Ltd Mindray Medical International Ltd China Medical Technologies Inc China Kanghui Holdings Inc Lepu Medical Technology Beijing Co Ltd Jiangsu Yuyue Medical Equipment & Supply Co Ltd Segm ent average Biotech Hualan Biological Engineering Inc Beijing Tiantan Biological Products Co Beijing SL Pharmaceutical Co Ltd Shanghai RAAS Blood Products Co Ltd Shanghai Kehua Bio-Engineering Co Ltd Jiangsu Sihuan Bioengineering Co Ltd Shenzhen Neptunus Bioengineering Co Ltd United Gene High-Tech Group Ltd 3SBio Inc China Biologic Products Inc Segm ent average Code 1066 HK 325 HK 233 HK 801 HK MR US CMED US KH US 300003 CH 002223 CH HKD HKD HKD HKD USD USD USD CNY CNY Price (local $) 22.45 3.53 0.87 1.53 28.14 13.3 12.03 25.63 40.4 Mkt cap US$m 2,477 352 418 334 792 429 52 3,111 1,544 Fiscal Yr Dec-09 Dec-09 Dec-09 Mar-10 Dec-09 Mar-10 Dec-09 Dec-09 Dec-09 Price Perform ance 1-w k 1-m th 1-year % % % 0.7 2.6 1.1 10.6 0.3 0.9 8.0 (4.2) (5.2) 16.1 0.8 1.1 15.6 4.3 23.3 1.3 (5.0) (7.7) 72.2 n.a. 11.4 16.4 (14.5) (29.8) n.a. n.a. 153.0 PE 10F x 49.7 21.7 15.8 21.3 19.5 n.a. 28.0 50.9 60.5 33.4 35.6 46.4 33.2 47.0 29.9 n.a. n.a. n.a. 21.7 6.9 31.5 PE 11F x 37.4 17.9 13.2 14.3 16.5 9.2 15.7 37.4 42.4 22.7 30.5 40.6 26.0 37.1 22.9 n.a. n.a. n.a. 17.7 6.1 25.8
002007 CH 600161 CH 002038 CH 002252 CH 002022 CH 000518 CH 000078 CH 399 HK SSRX US CBPO US
CNY CNY CNY CNY CNY CNY CNY HKD USD USD
49.3 23.39 43.99 58.4 16.42 7.18 12.8 0.195 13.95 9.89
4,247 1,707 1,656 1,397 1,208 1,105 1,249 306 50 33
Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Jun-09 Dec-09 Dec-09
(6.2) (7.3) (6.9) (4.3) (9.4) (8.8) (10.5) (1.0) 2.0 5.8
0.7 2.5 9.3 18.6 2.1 16.0 (3.1) (4.3) 8.9 (13.0)
56.5 (7.5) 24.6 123.4 12.3 120.9 0.9 (5.4) 35.2 49.6
Exhibit 135. Key companies in pharmaceutical (chemical) segments

Currency Com pany Nam e Pharm aceutical (Chem ical) China Pharmaceutical Group Ltd Sino Biopharmaceutical Daw nrays Pharmaceutical Holdings Ltd Hua Han Bio-Pharmaceutical Holdings Ltd Lansen Pharmaceutical holdings Ltd Lijun International Pharmaceutical Holding Ltd Shandong Luoxin Pharmacy Stock Co Ltd Shandong Xinhua Pharmaceutical Co Ltd United Laboratories International Holdings Ltd/The Wuyi International Pharmaceutical Co Ltd Simcere Pharmaceutical Group Shenzhen Hepalink Bio-Tech Co Ltd Shanghai Pharmaceuticals Holding Co Ltd Jiangsu Hengrui Medicine Co Ltd Harbin Pharmaceutical Group Co Ltd Sichuan Kelun Pharmaceutical Co Ltd Shanghai Fosun Pharmaceutical Group Co Ltd Zhejiang Hisun Pharmaceutical Co Ltd Shenzhen Salubris Pharmaceuticals Co Ltd Beijing Double Crane Pharmaceutical Co Ltd Zhejiang Medicine Co Ltd Huadong Medicine Co Ltd North China Pharmaceutical Co Ltd Harbin Gloria Pharmaceuticals Co Ltd Livzon Pharmaceutical Inc China Animal Husbandry Industry Co Zhejiang Huahai Pharmaceutical Co Ltd Tianjin Lisheng Pharmaceutical Co Ltd Renhe Pharmacy Co Ltd Guangzhou Baiyunshan Pharmaceutical Stock Co Ltd Tonghua Dongbao Pharmaceutical Co Ltd Segm ent average Code 1093 HK 1177 HK 2348 HK 587 HK 503 HK 2005 HK 8058 HK 719 HK 3933 HK 1889 HK SCR US 002399 CH 601607 CH 600276 CH 600664 CH 002422 CH 600196 CH 600267 CH 002294 CH 600062 CH 600216 CH 000963 CH 600812 CH 002437 CH 200513 CH 600195 CH 600521 CH 002393 CH 000650 CH 000522 CH 600867 CH Price (local $) Mkt cap US$m 823 1,897 343 483 187 847 225 66 2,497 159 309 7,172 6,402 5,598 4,124 4,163 3,846 2,929 2,444 2,469 2,139 1,882 1,828 1,633 420 1,540 1,345 1,192 1,239 1,094 1,011 Fiscal Yr Dec-09 Dec-09 Dec-09 Jun-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Price Perform ance 1-w k 1-m th 1-year % % % (0.5) 8.1 (3.6) (16.7) 4.0 9.2 0.8 0.9 6.8 2.8 1.6 (7.8) (1.2) 3.1 (1.4) (0.2) (7.4) 1.0 (4.8) (3.7) (9.5) 5.1 2.2 (1.6) (2.3) (2.2) 2.5 (3.7) (0.1) (3.6) (6.5) (1.0) 13.9 61.6 (8.6) 5.8 23.8 1.7 9.8 18.6 4.3 13.3 (5.2) 11.8 21.6 17.6 5.8 1.0 26.3 0.1 10.5 (10.8) 21.6 10.8 18.8 9.2 (2.5) 26.7 2.3 19.8 15.4 6.9 (7.1) 158.1 287.8 94.4 n.a. 252.4 178.4 45.0 470.6 0.0 23.7 n.a. 76.4 39.5 32.0 n.a. 25.3 115.6 92.8 38.7 13.9 98.0 46.4 n.a. 58.9 29.8 109.0 n.a. 61.6 103.9 24.2 PE 10F x 8.5 29.4 12.6 14.6 20.4 22.7 n.a. n.a. 19.9 n.a. 32.4 36.9 31.0 46.6 24.8 45.0 23.7 56.1 48.6 28.1 10.2 36.8 29.2 59.3 n.a. 32.7 40.5 44.3 37.6 32.0 44.5 32.2 PE 11F x 11.2 24.3 10.1 9.0 14.5 18.1 n.a. n.a. 16.7 n.a. 23.5 26.2 25.3 37.7 21.4 33.2 20.5 41.7 35.9 23.4 9.1 29.5 20.3 42.8 n.a. 26.3 29.5 36.9 30.2 28.3 35.2 25.2
HKD 4.16 HKD 2.97 HKD 3.35 HKD 2.34 HKD 3.49 HKD 2.79 HKD 10.6 HKD 3.4 HKD 15.5 HKD 0.72 USD 10.24 CNY 119.91 CNY 21.49 CNY 49.96 CNY 22.21 CNY 116.03 CNY 13.51 CNY 40.5 CNY 72.02 CNY 28.89 CNY 31.79 CNY 29 CNY 11.89 CNY 78.04 HKD 25.11 CNY 26.41 CNY 20.05 CNY 43.71 CNY 19.72 CNY 15.6 CNY 11.76
Nomura
97
29 September 2010
Strategy | China
Gideon Lo
Exhibit 136. Key companies in TCM and other segments

Currency Com pany Nam e Code TCM and healthcare Guangzhou Pharmaceutical Co Ltd 874 HK Tong Ren Tang Technologies Co Ltd 1666 HK China Shinew ay Pharmaceutical Group Ltd 2877 HK Yunnan Baiyao Group Co Ltd 000538 CH Shandong Dong-E E-Jiao-A 000423 CH Kangmei Pharmaceutical Co Ltd 600518 CH China Resources Sanjiu Medical & Pharmaceutical Co Ltd 000999 CH Jilin Aodong Medicine Industry Groups Co Ltd 000623 CH Tianjin Tasly Pharmaceutical Co Ltd 600535 CH Joincare Pharmaceutical Group Industry Co Ltd 600380 CH Beijing Tongrentang Co Ltd 600085 CH Guangxi Wuzhou Zhongheng Group Co Ltd 600252 CH Inner Mongolia Yili Energy Co Ltd 600277 CH Guilin Sanjin Pharmaceutical Co Ltd 002275 CH Tibet Cheezheng Tibetan Medicine Co Ltd 002287 CH Wuhan Humanw ell Healthcare Group Co Ltd 600079 CH Tianjin Zhong Xin Pharmaceutical Group Corp Ltd 600329 CH Harbin Pharmaceutical Group Sanjing Pharmaceutical Co L600829 CH Segm ent average Distribution and others Sinopharm Group Co WuXi PharmaTech Cayman Inc China National Medicines Corp Ltd Shenzhen Accord Pharmaceutical Co Ltd Aier Eye Hospital Group Co Ltd Segm ent average 1099 HK WX US 600511 CH 200028 CH 300015 CH Price Local$ 9.07 20.3 23.15 66.99 49.72 18.66 27.14 28.53 32.9 11.23 30.29 22.97 13.14 24.64 26.1 19.99 13.76 19.61 Mkt Cap US$m 257 228 2,467 6,953 4,861 4,727 3,972 2,445 2,400 2,212 2,358 1,875 1,772 1,672 1,584 1,409 1,109 1,133 Fiscal Yr Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-09 Dec-08 Dec-09 Price Perform ance 1-w k 1-m th 1-year % % % (1.7) 14.1 3.9 3.1 7.5 9.9 0.6 (7.1) (4.2) (4.6) (2.4) (8.4) (10.5) (6.7) 3.4 (1.7) (3.1) (6.4) 32.0 34.8 14.9 16.9 22.3 18.9 12.8 (4.4) (0.5) 12.4 18.0 24.8 9.1 (0.6) 22.1 15.5 (0.2) 0.6 129.4 76.3 212.3 77.7 154.6 101.9 42.8 (31.7) 80.4 69.1 75.0 175.8 53.4 (9.1) 12.5 85.8 22.4 12.2 PE 10F x 21.7 16.9 20.3 50.5 57.0 41.1 30.8 11.6 39.2 22.0 45.3 27.0 41.1 28.2 n.a. 41.8 n.a. 21.2 32.2 48.4 19.6 n.a. 31.7 68.8 42.1 PE 11F x 17.4 15.0 16.4 38.8 45.1 30.9 24.5 11.4 31.4 19.6 38.3 17.3 34.6 22.9 n.a. 33.4 n.a. 18.7 26.0 36.2 16.1 n.a. 16.6 48.3 29.3
HKD HKD HKD CNY CNY CNY CNY CNY CNY CNY CNY CNY CNY CNY CNY CNY CNY CNY
HKD USD CNY HKD CNY
31.9 16.16 24.46 23.9 33.58
2,837 281 1,751 196 1,340
Dec-09 Dec-09 Dec-09 Dec-09 Dec-09
3.3 3.1 (2.1) (0.8) (9.4)
7.7 11.5 2.6 18.3 (14.7)
57.9 32.7 32.2 69.3 n.a.
Nomura
98
29 September 2010
Strategy | China
Yankun Hou
Industrials
Action
With the 1,776km Lanzhou-Xinjiang high-speed railway under construction, which is outside the governments eight passenger dedicated lines plan, we believe railway construction in the 12th 5-year plan has significant potential to be revised up. Due to longer-term growth potential, we prefer railway equipment makers over construction companies, with Zhuzhou CSR as our top BUY.
BULLISH
Stocks for action
We prefer railway equipment makers over construction companies for their longer-term growth potential, with Zhuzhou CSR as our top BUY, followed by China CNR Corp and China Railway Group.
Catalysts
Enlarged railway construction plans and increasing operation density will add incremental value to railway equipment makers, in our view. Anchor themes We expect the railway and metro subway rolling stock market in China to grow rapidly over the next few years. Zhuzhou CSR is likely to be a major beneficiary.
Stock Zhuzhou CSR Times (3898 HK) China CNR Corp (601299 CH) China Railway Group (390 HK)
Rating
Price
Price target
BUY HK$21.6 HK$25.4 BUY RMB5.18 RMB6.0 BUY HK$5.98 HK$6.5
Note: 21 September pricing
Railways and the Wild West

High-speed railway in Xinjiang
The central government plans eight passenger dedicated lines with a total length of 13,000km to be built by 2012F, and the target for 2020F was 16,000km. However, construction of a passenger dedicated railway connecting Lanzhou and Urumqi in Xinjiang started in November 2009, which is outside of the eight passenger-dedicated lines plan. This line, with length of 1,776km, average speed of 200km/hour, and construction cost of RMB143.5bn, will be completed by 2014F. At the same time, the government is discussing the possibility to build a 350km/hour high speed railway and intra-province railway and highway to connect all cities together. Thus, we believe the construction of a high-speed railway will stretch out from populous eastern and central China, and reach more areas in the vast west. The high-speed railway target for 2020F could potentially be revised up to 20,000km, implying a 25% increase on the current target.
Analysts
Yankun Hou +852 2252 6234 yankun.hou@nomura.com Paul Gong +852 2252 6177 paul.gong@nomura.com
Need for trains, lots of trains

With the continuous addition of railway mileage, we believe more trains will be in demand for operation. Current orders for multiple-units (MU) given by the Ministry of Railway (MoR) imply only 0.6-0.7 carriage/km will be achieved by 2012F, compared with Japans 1.9 and Germanys 1.7. The Guangzhou-Shenzhen line currently has a density of 1.1 and Wuhan-Guangzhou of 0.5 only. If this ratio is improved to 1.3-1.5 by 2020F, it immediately translates into 2x demand for MUs even disregarding the enlarge effect of railway construction plan. In addition, after migrating passenger trains to the high-speed railways, the old railway capacity will be released for freight purposes, thus demand for freight wagons especially emerging cargo freight wagons will improve the utilisation rate of wagon production line and add incremental value to railway equipment makers, in our view.
Prefer equipment over construction

We prefer railway equipment makers over railway construction companies, as they provide longer-term growth potential and will have replacement demand in the long term. Our top pick of the sector is Zhuzhou CSR, now trading at 17x FY11F P/E. Our price target is HK$25.4, based on 20x multiple of FY11F EPS of RMB1.06, implying 17.6% upside.
Nomura
99
29 September 2010
Strategy | China
Yankun Hou
Key takeaways from recent Xinjiang tour

During the recent Nomura Xinjiang tour, Mr Zhang Shujun, officer at NDRC of Xinjiang Production and Construction Corps, told us during the 12th 5-year plan Xinjiang is likely to invest RMB200bn in road construction, RMB80bn in intra-province railway construction and RMB20bn in metro and suburban railway construction. However, we believe this number is far too conservative as the MoR planned 8,700km new railway in Xinjiang to be finished by 2015F, in addition to currently 2,941km railway. By then, the total mileage of Xinjiang railway will reach 12,000 km, accounting for 10% of railways in China.
Xinjiang railway to reach 10% of China railway in length
Xinjiang. What? Where? Why?

Taking over 1/6 of China in terms of area, Xinjiang would be the 18th largest if ranked among the worlds nations. Its size is similar to that of Iran, with a population larger than that of Kazakhstan. However, in terms of railway mileage, it lags far behind the three countries we used for comparison Kazakhstan, Iran and South Africa.
1/6 of China in terms of area
Exhibit 137. Xinjiang Comparison with peers

Xinjiang Area (thousand km2) Population (mn) GDP pa. PPP (US$) Railway length (km) 1,660 21.6 2,898 2,941 Kazakhstan 2,725 15.4 11,800 15,082 I.R. Iran 1,648 66.4 12,500 8,442 South Africa 1,219 49.1 10,300 20,872
Source: Government data, CIA, Nomura research
Exhibit 138. Railway (km) per sq km

18,000 16,000 14,000 12,000 10,000 8,000 6,000 4,000 2,000 0 Xinjiang Kazakhstan I.R. Iran South Africa 1,772 5,535 5,123 Railway (km) per sq km 17,122
Exhibit 139. Railway (km) per million people

1,200 1,000 800 600 425 400 200 0 Xinjiang Kazakhstan I.R. Iran South Africa 136 127 Railway (km) per mn ppl 979
In the centre of Asia, Xinjiang connects Gansu, Qinghai and Tibet in China, with countries including Mongolia, Russia, Kazakhstan, Kirgizstan, Tajikistan, Afghanistan, India and Pakistan. While Xinjiang has 2.19 trillion tonnes coal reserve, taking over 40% of China, the production volume was 67.4mn tonnes in 2008, dwarfed by Shanxis 645.0mn tonnes and Inner Mongolias 502.2mn tonnes (source: CEIC). Also, while 56% of Shanxi and Inner Mongolias coal production was delivered out, Xinjiang had only 15%. The transportation capacity bottleneck is the major reason for the low output ratio and low production volume. Since there is no water transportation available in Xinjiang at all, railway transportation became the most needed means for coal delivery. According to government plans, coal production in Xinjiang will reach 1,000mn tonnes by 2020F. Without strong railway transport capacity, such goal will be impossible. Currently the only railway stretching out of Xinjiang is the Lanzhou Xinjiang railway, running both passenger trains and freight train. By 2014F, when the Lanzhou Xinjiang passenger dedicated railway is finished, the old railway will be used for freight only, and the capacity will more than double to 424mn tonnes per year. According to MoR data, coal was 52.7% of total freight goods taken by railway in 2009.
40% coal reserve, less than 5% coal production
Currently only one railway stretching out of Xinjiang
Nomura
100
29 September 2010
Strategy | China
Yankun Hou
Exhibit 140. Coal production & consumption

(mn ton) 700 600 500 400 Coal production & consumption - 2008 Production Consumption
Exhibit 141. Coal production & consumption

(mn ton) 80 70 60 50 40 Coal production & consumption - Xinjiang Production Consumption
300 200 100 0 Shanxi

30 20 10 0
Inner Mongolia
Xinjiang
2004
2005
2006
2007
2008
Exhibit 142. Railway plan in China

Qingdao Taiyuan Line Sub-line 1: Shijiazhuang Taiyuan Line Length: 190 km Investment: 13 Bn RMB Start: 2005.6 End: 2009.1 Sub-line 2 : Shijiazhuang - Jinan Line Length: 319 km Investment: 45 Bn RMB Start: 2 H 2009 End: end of 2012 Sub line 3: Jiaozhou Jinan Line Length: 363 km Investment: 10 Bn RMB Start: 2007.1 End: 2008.12 Beijing Harbin Line Sub-line 1: Beijing Shenyang Inter-city Line Length: 676 km Investment: 96 Bn RMB Start: 2009.6 End: 2012
Xinjiang, 1/6 of China in area

Heilongjiang Harbin Urumqi Inner Mongolia Jilin Changchun Liaoning Xinjiang Beijing
Sub-line 2 : Harbin-Dalian Line Length: 906 km Investment: 92 Bn RMB Start: 2007.8 End: 2009.11
Xuzhou Lanzhou Line Sub-line 1: Xuzhou Zhengzhou Line Length: 357 km Investment: 37 Bn RMB Start: 2005.8 End: end of 2009 Sub-line 2 : Zhengzhou Xian Line Length: 454 km Investment: 55 Bn RMB Start: 2006 End: 2009.12.28 Sub line 3: Xian Baoji Line Length: 148 km Investment: 20 Bn RMB Start: 2009.7 End: 2012 Sub-line 4: Baoji Lanzhou Line Length: 400 km Investment: 65 Bn RMB Start: end of 2009 End: 2013
Beijing Shanghai High-Speed Railway Length: 1318 km Start: 2008.4.18 Investment: 221 Bn RMB End: 2013
Beijing Hongkong Line
Gansu
Ningxia Qinghai Lanzhou Shanxi Taiyuan Tianjin Hebei Shijiazhuang Shandong Shannxi
Shenyang
Sub-line 1: Beijing Shijiazhuang Line Length: 281 km Investment: 44 Bn RMB Start: 2008.6 End: end of 2011 Sub-line 2: Shijiazhuang Wuhan Line Length: 841 km Investment: 117 Bn RMB Start: 2008.10.15 End: 2012 Sub-line 3: Wuhan Guangzhou Line Length: 995 km Investment: 93 Bn RMB Start: 2005.6 End: end of 2010 Sub-line 4: Guangzhou Shenzhen Line Length: 105 km Investment: 17 Bn RMB Start: 2008.8.20 End: end of 2012 Sub-line 5: Shenzhen Hongkong Line Length: 26 km Investment: 35 Bn RMB Start: 2009 End: 2014
Nanjing Wuhan Chengdu Line Sub-line 1: Hefei Nanjing Line Length: 166 km Investment: 15 Bn RMB Start: 2005.8 End: end of 2008 Sub-line 2: Hefei Wuhan Line Length: 351 km Investment: 17 Bn RMB Start: 2005.7 End: 2008.9 Sub line 3: Wuhan Yichang Line Length: 293 km Investment: 24 Bn RMB Start: 2008.9.17 End: 2012 Sub-line 4: Yichang Wanzhou Line Length: 377 km Investment: 17 Bn RMB Start: 2006.9.15 End: end of 2009 Sub-line 5: Chongqing Lichuan Line Length: 264 km Investment: 26 Bn RMB Start: 2008.12.29 End: 2012 Sub-line 5: Suining Chongqing Line Length: 165 km Investment: 5 Bn RMB Start: 2009.1.18 End: 2012 Sub-line 6: Dazhou Chengdu Line Length: 386 km Investment: 11 Bn RMB Start: 2005 End: 2009.6.30
Xian
Henan Hubei Wuhan Anhui
Jiangsu Nanjing Shanghai
Tibet Lhasa
Sichuan
Chongqing
Hangzhou Ningbo Changsha Guizhou Yunnan Guiyang Guangxi Nanning Guangdong Hunan Nanchang Jiangxi Zhejiang Wenzhou Fuzhou Fujian Taiwan
Shanghai Shenzhen Line Sub-line 1: Shanghai Hangzhou Line Length: 154 km Investment: 26 Bn RMB Start: 2008.11 End: 2010 Sub-line 2: Hangzhou Ningbo Line Length: 150 km Investment: 21 Bn RMB Start: 2009.4 End: 2011 Sub-line 3: Ningbo-Taizhou-Wenzhou Line Length: 268 km Investment: 17 Bn RMB Start: 2005.10.27 End: 2009.10.1 Sub-line 4: Wenzhou-Fuzhou Line Length: 298 km Investment: 17 Bn RMB Start: 2005 End: 2009.7.1 Sub-line 5: Fuzhou-Xiamen Line Length: 275 km Investment: 15 Bn RMB Start: 2005 End: 2009.11.1 Sub-line 6: Xiamen-Shenzhen Line Length: 502 km Investment: 42 Bn RMB Start: 2008.1 End: 2011
Kunming
Guangzhou Hong Kong Hainan
Hangzhou Kunming Line Sub-line 1: Hangzhou Changsha Line Length: 902 km Investment: 116 Start: 2H 2009 End: n.a Sub-line 2: Changsha Kunming Line Length: 1175 km Investment: 163 Bn RMB Start: end of 2009 End: 2014
Source: MoR, Nomura International (Hong Kong) Limited
Nomura
101
29 September 2010
Strategy | China
Yankun Hou
Exhibit 143. High-speed railway plan in China
Source: MoR, Nomura International (Hong Kong) Limited
Exhibit 144. China railway FAI and vehicle investments

(RMBbn) Railway FAI 1,000 898 Railway vehicle investment 857 900 823 800 701 700 600 500 415 400 252 300 208 180 136 140 200 100 89 78 57 57 100 32 27 18 0 2004 2005 2006 2007 2008 2009 2010F 2011F 2012F
Exhibit 145. High-speed rail density analysis
Service density (carriages / km) 1.9
Extra 8,500 carriages (or 1,063 standard version trains) required
1.7 1.3 0.6
Japan
Germany
70% of global average
China - 2012
Source: MoR, Nomura estimates
Source: Nomura estimates
Exhibit 146. Locomotives product mix

Electrical High-powered electrical Others 1% 1% 1% Conventional electrical Diesel 1% 1%
Exhibit 147. Metro cars target

(Units) 18,000 16,000 14,000 12,000 62% '11-'15 avg annual investment of RMB11bn Metro carriages in operation 16,450
68%
67%
67%
65%
10,000 8,000 6,000
'09-'10 avg annual investment of RMB8bn 3,854 4,300
7,000
3% 31% 32% 29% 2007
4% 30%
9% 28% 2009
4,000 2,000 0
3,176
2005
2006
2008
2006
2007
2008
2010F
2015F
Source: National statistics bureau, MoR, Nomura estimates
Nomura
102
29 September 2010
Strategy | China
Yankun Hou
Exhibit 148. Global valuation comparison

Ticker Nomura China Industrial Coverage China Comm Construction Corp China Railway Construction Corp China Railway Group Lonking Holdings Ltd China South Locomotive and Rolling Stock Corp Zhuzhou CSR Times Electric Co Ltd Sany Heavy Industry China CNR Chinese E&C Companies China Comm Construction Corp China Railway Construction Corp China Railway Group Guangshen Railway Co Ltd H share average China Railway Construction Corp China Railway Group Guangshen Railway Co Ltd A share average Canadian National Canadian Pacific CSX Kansas City Southern Norfolk Southern Union Pacific Chicago Bridge & Iron Jacobs Engineering Fluor Wabtec North America average Acciona ACS FCC Bouyhues EIFFAGE Vinci Hochtief Europe average JGC Kajima Shimizu Japan average Daelim Industry Daewoo E&C GS E&C Hyundai E&C Samsung Engineering Korea average Chinese Capital Goods Companies Lonking Holdings Ltd China South Locomotive and Rolling Stock Corp Zhuzhou CSR Times Electric Co Ltd China Zhongwang Holdigns ltd H share average Changsha Zoomlion Heavy Industry Sany Heavy Industry Zhenhua Heavy Industrial Co Ltd China CNR Guangxi Liugong Machinery A share average Caterpillar Deere Joy Global Parker Hannifin Cummins Inc Bombardier North America average Alstom Siemens Europe average Sumitomo Heavy Industries Hitachi Construction Machinery Komatsu Mitsubishi Heavy Industry Japan average Doosan Heavy Hyundai Development Korea average 1800 HK 1186 HK 390 HK 3339 HK 1766 HK 3898 HK 600031 CH 601299 CH 1800 HK 1186 HK 390 HK 525 HK 601186 CH 601390 CH 601333 CH CNI US CP US CSX US KSU US NSC US UNP US CBI US JEC US FLR US WAB US ANA SM ACS SM FCC SM EN FP FGR FP DG FP HOT GR 1963 JT 1812 JT 1803 JT 000210 KS 047040 KS 006360 KS 000720 KS 028050 KS Rating Neutral Neutral Buy Neutral Neutral Buy Buy Buy Neutral Neutral Buy Not rated Neutral Buy Not rated Not rated Not rated Not rated Not rated Not rated Not rated Not rated Not rated Not rated Not rated Buy Not rated Not rated Neutral Not rated Not rated Not rated Buy Neutral Neutral Buy * Buy Buy Buy Price 7.33 10.88 5.98 7.71 6.98 21.6 27.08 5.18 7.3 10.9 6.0 2.8 7.4 4.2 3.5 64.2 62.3 56.1 38.6 59.4 81.2 23.5 37.0 50.5 47.4 64.8 36.9 20.2 32.5 36.8 37.7 62.0 1,546 206 309 81,500 10,550 92,700 69,000 146,000 Historical Performance 1W chg 1M chg 1Y chg 1% 3% -18% 1% 5% -5% 1% 3% -14% 7% 23% 107% -1% 9% 61% 0% 1% 66% -3% 8% 18% -1% 2% n.a. 1W chg 1M chg 1Y chg 1% 3% -18% 1% 5% -5% 1% 3% -14% 1% 1% -15% -3% -2% -1% 0% 0% 2% 0% 1% 2% 1% 2% 3% 1% 2% 5% -1% -1% -2% 0% 9% 1% 2% -1% 4% 2% 3% 2% 7% 1W chg 7% -1% 0% -1% -2% -3% -4% -1% -3% 6% 4% 5% 4% 5% -1% 1% 4% 6% 3% 3% 2% 6% -3% -2% -6% -5% 6% 10% 13% 15% 9% 9% 9% 5% 8% 11% 6% 12% 7% 0% 2% 8% 18% 14% 1% -1% 15% 4% 17% 1% 13% 1M chg 23% 9% 1% -4% 10% 8% -8% 2% 0% 11% 12% 16% 10% 12% 7% -5% 8% 9% 9% 7% 1% 12% 26% -18% -30% -20% 29% 29% 23% 41% 29% 32% 31% -22% -8% 23% -32% 1% -31% -8% -20% -5% 15% -16% -16% -17% 7% -28% -2% 4% 40% 1Y chg 107% 61% 66% -40% 6% 18% -39% n.a. 36% 46% 63% 45% 28% 99% 4% -27% 20% 0% -10% 9% -11% 16% -26% Mkt. Cap EPS CAGR (09 (USD$mn) 09-11E 14,001 11% 14,172 24% 13,972 19% 2,126 18% 9,724 53% 3,018 47% 9,734 14% 6,411 26% (USD$mn) 09-11E 14,001 11% 14,172 24% 13,972 19% 3,505 6% 15% 14,172 24% 13,972 27% 3,505 7% 20% 29,882 9% 10,500 11% 21,279 23% 3,963 101% 21,881 28% 40,417 27% 2,323 11% 4,653 -10% 9,020 -6% 2,274 10% 20% 5,472 -55% 15,408 -31% 3,413 -4% 15,353 -3% 4,405 20% 27,531 1% 5,763 14% -8% 4,713 14% 2,563 11% 2,867 n.a. 13% 2,458 12% 2,979 73% 4,098 10% 6,660 16% 5,062 29% 28% (USD$mn) 09-11E 2,126 18% 9,724 53% 3,018 47% 3,253 7% 31% 7,855 20% 9,734 14% 3,817 30% 6,411 26% 2,244 24% 23% 48,162 88% 30,959 58% 7,123 4% 11,195 27% 17,718 74% 8,324 5% 43% 14,839 -7% 96,233 58% 25% 3,286 40% 4,691 141% 22,600 83% 12,585 77% 85% 7,484 n.a. 2,130 161% 161% 09A 12.6 17.0 15.4 17.6 41.0 36.7 20.5 22.5 09A 12.6 17.0 15.4 13.1 14.5 13.8 13.0 18.6 15.1 n.a. n.a. 19.1 63.3 21.3 21.5 12.9 11.4 13.3 19.7 22.8 3.2 5.9 8.0 8.6 16.9 11.5 21.2 11 14.4 15.8 -35.4 -2 9.2 42.2 12.0 16.8 21.4 20 09A 17.6 41.0 36.7 5.7 25 18.8 20.5 33.6 22.5 16.4 22 52.7 35.3 15.5 20.2 41.1 12.5 30 9.0 29.9 19 20.9 95.9 55.5 75.1 62 -21.8 48.8 39 P/E (x) 10E 12.1 14.8 13.7 15.1 25.6 22.2 19.0 22.8 10E 12.1 14.8 13.7 12.3 13.2 10.9 10.1 17.2 12.7 15.7 16.5 14.5 20.0 15.4 15.5 12.5 15.3 16.5 18.6 16.0 19.4 12.7 8.9 9.8 13.7 11.9 18.8 14 12.4 17.0 21.2 17 7.9 11.8 9.5 13.1 17.7 12 10E 15.1 25.6 22.2 5.4 17 15.9 19.0 27.9 22.8 11.8 19 20.6 16.3 16.6 15.4 17.9 13.5 17 10.4 13.2 12 14.4 44.7 17.5 41.7 30 31.1 15.2 22 11E 10.2 11.1 10.9 12.6 17.4 17.0 15.9 14.1 11E 10.2 11.1 10.9 11.7 11.0 8.9 8.0 16.3 11.1 13.7 13.8 12.5 15.7 13.0 13.4 10.4 14.1 15.1 16.3 13.8 15.6 12.4 8.7 9.1 11.7 11.3 16.2 12 11.0 12.8 15.1 13 7.4 14.1 9.9 12.4 12.9 11 11E 12.6 17.4 17.0 5.0 13 13.1 15.9 20.0 14.1 10.6 15 14.8 14.1 14.4 12.5 13.6 11.2 13 10.5 12.0 11 n.a. 16.5 16.6 24.1 19 15.4 7.2 15 09A 1.7 2.1 1.7 3.7 4.0 5.2 5.4 2.0 09A 1.7 2.1 1.7 0.9 1.6 1.7 1.4 1.1 1.4 2.7 1.5 2.5 1.7 2.0 2.3 2.6 1.7 2.6 2.8 2.2 0.7 3.6 1.1 1.3 1.2 1.8 1.8 1.6 1.6 0.8 0.8 1.1 0.8 1.1 1.4 2.5 7.1 2.6 09A 3.7 4.0 5.2 1.8 3.7 3.6 5.4 1.8 2.0 3.1 3.2 5.2 6.4 6.4 2.4 4.5 2.5 4.6 2.7 2.3 2.5 1.1 1.3 2.2 0.8 1.4 2.2 1.0 1.6 P/B (x) 10E 1.5 1.9 1.6 3.1 3.6 4.4 6.1 1.9 10E 1.5 1.9 1.6 0.9 1.5 1.5 1.3 1.0 1.3 2.5 2.0 2.4 1.3 2.0 2.2 2.3 1.6 2.4 n.a. 2.1 0.7 2.6 1.0 1.3 1.2 1.9 1.7 1.5 1.5 0.8 0.8 1.0 0.8 1.1 1.2 2.0 5.4 2.1 10E 3.1 3.6 4.4 1.5 3.1 3.9 6.1 1.6 1.9 2.9 3.3 4.8 5.0 6.0 2.3 3.9 2.1 4.0 2.3 2.3 2.3 1.1 1.3 2.1 0.8 1.3 2.2 1.0 1.6 11E 1.4 1.7 1.4 2.6 3.1 3.8 4.5 1.7 11E 1.4 1.7 1.4 0.8 1.3 1.3 1.1 1.0 1.2 2.2 1.8 2.2 1.2 1.8 2.1 2.1 1.4 2.1 n.a. 1.9 0.7 2.5 1.0 1.2 1.2 1.8 1.6 1.4 1.4 0.8 0.8 1.0 0.7 1.0 1.1 1.7 4.2 1.7 11E 2.6 3.1 3.8 1.3 2.7 3.0 4.5 1.6 1.7 2.3 2.6 4.0 4.0 4.6 2.1 3.1 1.8 3.3 2.0 2.0 2.0 1.0 1.2 1.9 0.8 1.2 1.9 0.9 1.4 09A 0.6 0.2 0.3 2.6 1.5 6.8 4.6 1.1 09A 0.6 0.2 0.3 2.0 0.8 0.2 0.3 2.0 0.8 4.9 3.3 3.2 4.0 3.5 3.4 0.5 0.3 0.3 1.8 2.5 1.9 1.4 0.9 0.5 1.2 1.1 0.3 1.1 0.7 0.4 0.3 0.5 0.6 0.8 0.6 0.8 1.4 0.8 09A 2.6 1.5 6.8 1.1 3.0 2.9 4.6 1.7 1.1 1.4 2.3 2.3 2.2 1.9 1.2 1.6 0.5 1.6 0.5 1.1 0.8 0.6 1.1 1.7 0.8 1.0 1.6 1.6 1.6 EV/Sales 10E 0.6 0.2 0.3 2.2 1.2 4.5 2.4 1.1 10E 0.6 0.2 0.3 1.9 0.7 0.2 0.3 1.8 0.8 4.4 2.8 2.7 3.2 2.9 2.9 0.5 0.4 0.4 1.7 2.2 1.8 1.4 0.9 0.6 1.2 1.1 0.3 1.0 0.6 0.5 0.3 0.5 0.5 0.7 0.6 0.7 1.1 0.7 10E 2.2 1.2 4.5 1.0 2.2 2.1 2.4 2.1 1.1 1.1 1.7 1.9 2.1 2.0 1.1 1.3 0.6 1.5 0.4 1.1 0.8 0.6 0.9 1.4 0.8 0.9 1.4 1.4 1.4 11E 0.5 0.1 0.3 1.8 0.8 3.4 2.0 0.8 11E 0.5 0.1 0.3 1.8 0.7 0.1 0.2 1.8 0.7 4.0 2.6 2.5 2.9 2.7 2.7 0.5 0.4 0.3 1.6 2.0 1.7 1.4 0.9 0.5 1.2 1.0 0.3 1.0 0.5 0.5 0.3 0.4 0.5 0.7 0.5 0.6 0.8 0.6 11E 1.8 0.8 3.4 0.9 1.7 1.7 2.0 1.8 0.8 0.9 1.4 1.6 2.0 1.8 1.1 1.1 0.6 1.4 0.4 1.0 0.7 0.6 0.9 1.3 0.7 0.9 1.2 1.2 1.2 09A 8.6 4.6 8.6 16.5 20.9 31.9 31.9 17.7 09A 8.6 4.6 8.6 7.4 7.3 4.8 8.9 7.4 7.0 11.1 9.9 8.9 13.0 9.8 10.0 6.1 5.4 5.7 11.7 9.2 11.8 15.8 7.9 5.2 9.0 7.1 5.8 9.0 5.6 51.8 13.5 23.6 8.2 16.5 7.7 14.7 14.6 12.3 09A 16.5 20.9 31.9 2.9 18.1 17.7 31.9 19.4 17.7 12.4 19.8 25.5 25.3 9.1 10.1 19.7 6.7 16.1 4.3 9.4 6.8 6.6 12.2 15.1 10.9 11.2 20.1 22.1 21.1 EV/EBITDA 10E 7.7 4.5 7.4 12.9 14.7 21.3 21.3 15.8 10E 7.7 4.5 7.4 7.3 6.7 n.a. 6.6 7.8 7.2 9.4 8.6 7.6 8.8 7.9 n.a. 5.9 7.0 6.9 10.5 8.1 9.8 14.3 8.1 5.0 8.8 7.1 5.0 8.3 5.1 16.9 12.6 11.5 8.0 12.2 7.2 10.8 13.2 10.3 10E 12.9 14.7 21.3 2.7 12.9 12.0 21.3 19.6 15.8 8.2 15.4 13.5 15.1 9.6 8.1 9.4 7.2 10.5 4.8 7.9 6.4 5.7 9.1 8.8 9.8 8.4 18.8 12.3 15.5 11E 6.4 3.1 5.7 10.8 10.1 16.3 16.3 10.6 11E 6.4 3.1 5.7 6.8 5.5 3.1 5.7 6.9 5.2 8.6 7.7 6.9 7.9 7.1 6.9 5.2 6.5 6.5 9.4 7.3 8.5 13.8 7.9 4.7 8.3 6.8 4.6 7.8 4.5 13.5 10.4 9.5 7.0 10.4 6.6 8.9 9.5 8.5 11E 10.8 10.1 16.3 2.6 9.9 10.1 16.3 13.4 10.6 6.9 11.5 10.6 13.5 8.2 7.0 7.5 6.1 8.8 4.8 7.4 6.1 5.0 7.6 7.6 8.7 7.2 26.6 7.8 17.2 09A 12.2 12.9 11.8 23.0 8.6 14.8 27.1 9.4 09A 12.2 12.9 11.8 6.2 10.8 13.1 11.8 6.2 10.3 14.2 7.8 13.6 2.9 10.4 11.7 24.4 16.4 22.9 16.2 14.0 24.9 50.7 12.2 16.4 7.3 17.5 9.4 19.8 11.5 5.4 -2.3 4.9 9.9 2.5 12.1 15.4 38.7 15.7 09A 23.0 8.6 14.8 40.6 21.8 38.0 27.1 5.4 9.4 25.7 21.1 12.1 15.4 67.5 12.8 12.2 24.4 24.1 35.1 8.6 21.8 5.6 1.3 4.1 1.1 3.0 -9.8 2.1 -3.8 ROE 10E 10.7 13.3 12.2 22.3 12.4 21.5 34.3 8.6 10E 10.7 13.3 12.2 6.3 10.6 14.3 12.6 6.1 11.0 16.8 13.3 16.2 7.1 13.4 14.9 19.4 10.2 15.5 15.0 14.2 3.7 24.7 12.1 13.1 8.4 16.2 10.2 12.6 11.7 4.6 3.7 6.7 9.8 8.8 13.3 15.9 33.1 16.2 10E 22.3 12.4 21.5 26.5 20.7 30.7 34.3 5.3 8.6 25.8 20.9 24.5 33.2 44.1 15.1 25.4 16.0 26.4 24.4 17.7 21.0 7.8 3.0 12.1 2.0 6.3 7.3 7.0 7.1 11E 11.4 15.8 13.9 22.5 15.8 25.2 29.8 12.7 11E 11.4 15.8 13.9 6.6 11.9 15.0 14.3 6.1 11.8 17.2 13.4 18.0 9.4 14.8 16.2 21.8 10.2 13.4 14.5 14.9 4.4 17.3 11.9 12.9 9.1 15.8 11.1 11.8 13.6 6.0 4.6 8.1 10.3 9.1 12.5 16.7 34.6 16.6 11E 22.5 15.8 25.2 23.1 21.6 26.2 29.8 6.9 12.7 23.7 19.9 29.4 31.8 36.6 17.2 27.3 16.3 26.4 19.2 17.6 18.4 9.1 6.7 13.4 2.8 8.0 13.6 11.0 12.3 09A 1.1 0.7 0.8 1.0 0.8 0.8 1.5 0.9 09A 1.1 0.7 0.8 2.2 1.2 0.6 0.5 2.7 1.3 n.a. n.a. 0.8 0.6 0.8 0.8 1.1 -1.1 -2.2 2.0 0.4 -0.1 -0.2 -2.1 -3.0 0.8 14.6 1.5 1.7 1.0 1.4 n.a. 1.2 0.8 0.6 1.2 1.0 0.7 0.9 09A 1.0 0.8 0.8 0.8 0.8 1.0 1.5 1.1 0.9 0.7 1.0 0.6 0.6 3.9 0.7 0.6 2.3 1.4 -1.2 0.5 -0.3 0.5 0.7 0.7 1.0 0.7 n.a. 0.3 0.3 PEG 10E 1.1 0.6 0.7 0.8 0.5 0.5 1.4 0.9 10E 1.1 0.6 0.7 2.1 1.1 0.4 0.4 2.5 1.1 1.7 1.5 0.6 0.2 0.5 0.6 1.1 -1.5 -2.7 1.9 0.4 -0.4 -0.4 -2.3 -3.4 0.7 15.0 1.3 1.5 0.9 1.5 n.a. 1.2 0.7 0.2 0.9 0.8 0.6 0.6 10E 0.8 0.5 0.5 0.8 0.6 0.8 1.4 0.9 0.9 0.5 0.9 0.2 0.3 4.2 0.6 0.2 2.5 1.3 -1.4 0.2 -0.6 0.4 0.3 0.2 0.5 0.4 n.a. 0.1 0.1 11E 0.9 0.5 0.6 0.7 0.3 0.4 1.2 0.5 11E 0.9 0.5 0.6 2.0 1.0 0.4 0.3 2.4 1.0 1.5 1.2 0.5 0.2 0.5 0.5 0.9 -1.4 -2.5 1.7 0.3 -0.3 -0.4 -2.2 -3.1 0.6 14.3 1.1 1.4 0.8 1.1 n.a. 1.0 0.6 0.2 1.0 0.8 0.4 0.6 11E 0.7 0.3 0.4 0.7 0.5 0.7 1.2 0.7 0.5 0.4 0.7 0.2 0.2 3.6 0.5 0.2 2.0 1.1 -1.4 0.2 -0.6 n.a. 0.1 0.2 0.3 0.2 n.a. 0.0 0.0
3339 HK 1766 HK 3898 HK 1333 HK 000157 CH 600031 CH 600320 CH 601299 CH 000528 CH CAT US DE US JOYG US PH US CMI US
Neutral Neutral Buy Not rated Not rated Buy Not rated Buy Not rated Not rated Not rated Not rated Not rated Not rated Not rated Buy Neutral Buy Neutral Buy Neutral Not rated Buy
7.7 7.0 21.6 4.7 10.7 27.1 6.4 5.2 23.2 76.4 73.0 69.0 69.5 89.1 4.9 38.0 79.3 461 1,853 1,923 317 81,600 32,600
BBD/B CN
ALO FP SIE GR 6302 JT 6305 JT 6301 JT 7011 JT 034020 KS 012630 KS
Note: pricing date 21 September, 2010. * Rating suspended Source: Bloomberg, Nomura estimates
Price target methodology and investment risks

Zhuzhou CSR Times (3898 HK) Our PT is derived by applying 20x multiple (based on sector relative positioning) to our FY11F EPS estimate of RMB1.06 (FY11F FX assumption: RMB1=HK$1.20). Risks include any adverse policy change in the railway sector and in localisation requirements for rolling stock-related products in China. China CNR Corp (601299 CH) We apply a target multiple of 20x, since we believe the stock is worth a similar multiple to CSR Corporation, after applying a slight A-share premium. Risks to our price target and earnings estimates include any shift in policy away from railways and rolling stock. China Railway Group (390 HK) We use FY10-11F average EPS at RMB0.41 (FY11F FX assumption: RMB1=HK$1.20) and apply a target multiple to 13x FY11F EPS. Our target multiple is set by applying a PEG ratio of 1 against our FY10-13F EPS CAGR. Risks: any shift in government policies in terms of infrastructure investments in China may affect the outlook for leading Chinese construction companies.
Nomura
103
29 September 2010
Strategy | China
Jin Yoon
Internet and New Media

Action
We remain Bullish on the Internet and New Media sector as we believe the secular growth story is still intact as Internet penetration and content growth picks up. However, we believe an important factor to be considered is the regulatory impact in China.
BULLISH
Stocks for action
We believe Tencent is the key consumer growth story in the China Internet segment as the company is in various verticals including gaming, SNS and advertising.
Catalysts
Growth in overall consumer spending and in Internet penetration should further expedite spending on the Internet. Anchor themes Shielded from the slowing global economy (minimal revenue from outside China) and with low Internet penetration, we believe Chinese online gaming stocks offer defensive and growth components for a China portfolio, given their countercyclical business model and high cashflow generation.
Stock Tencent (700 HK)
Rating BUY
Price 159.8
Price target 200
* Prices as of 21 September 2010 Source: Bloomberg, Nomura
Regulatory risks challenge Internet growth; consumer story intact

We remain Bullish on the Internet and New Media sector
We remain Bullish on the Internet and New Media sector as we believe the secular growth story is intact as Internet penetration and content growth picks up. With the possible emphasis on consumption growth and further development of Central and Western China in the coming 12th Five Year Plan, Internet penetration and utilisation will be key in the new digital era of consumption. The Chinese user will adapt to Internet usage beyond gaming and social networking, making the medium a powerful tool for information, commerce, transaction and trade. Internet sophistication and utilisation in China far lags that of neighbouring countries such as Korea and Japan. But, with an increasing consumer base and more innovation, the Internet will likely have a bigger impact on the overall economy. We continue to see increasing spending on the Internet, not just from the consumer end; active paying accounts for gaming companies continue to grow and gross merchandise value for Taobao, a leading E-commerce company, continues to ramp up, topping RMB400bn this year, according to company estimates. On the advertising side, display and search advertising bounced back after a weak 2009 and is expected to grow 40%+ this year, on our estimates. However, while the fundamentals of the sector remain sound, we believe it is necessary to consider the regulatory impact. As Internet penetration continues to grow, we expect spending from consumers and corporates to grow faster. We expect a CAGR of 16.5% for Internet penetration over 2009-11, and expect the online gaming sector and online advertising to be up 29.3% and 26.5%, respectively, over the same time period. However, while growth in Internet penetration is coming from Central and Western China, actual Internet spending (by both corporates and consumers) is largely concentrated in coastal China. We believe wealth distribution plays a key role in this. While Internet penetration in Central and Western China continues to ramp up, as many larger cities such as Chongqing have less than 40% penetration rates, the slow pace of Internet penetration and the lower income levels in Central and Western China have meant that most of the spending in both advertising and online gaming is concentrated in coastal China; however, we do
Analyst
Jin Yoon +852 2252 6204 jinkyu.yoon@nomura.com
Nomura
104
29 September 2010
Strategy | China
Jin Yoon
see greater emphasis by corporates in the developing Central and Western China. Companies such as Perfect World recently launched 2D and 2.5D games to target Central and Western China; Sohu focused on marketing campaigns in creating a user base in these markets and Focus Media is largely keen on expanding its LCD network in tier 2 and 3 cities as tier 1 cities are fully penetrated. We estimate that for display advertising and search alike, more than 80% of revenues come from IP addresses in tier-1 cities. Hence, we expect leading Internet companies will be more inclined to target growth in Central and Western China as these territories still remain uncharted for the most part.
Nomura
105
29 September 2010
Strategy | China
Jin Yoon
Government influence
Government policy and regulations

The Chinese government exerts far-reaching control over all areas of the media in China. Censorship and other restrictions make for a rough terrain. We believe some laws and regulations are imprecise and enforcement is not always uniform. The government monitors online game usage. Users need to sign onto their individual accounts with their Chinese identification numbers. For gamers under the age of 18, the government prohibits the playing of more than three hours per sitting, which is not good for gaming companies working their key demographic. And recall, games are moving to a free-to-play model that counts on hours building loyalty. The Chinese government is known to influence policy decisions pertaining to free speech as was evident in the Google case, prompting the company to exit the search business in China as well as managing everything from user-generated content in mini-blogs to controlling WAP billing on mobiles to prevent the download of unhealthy content, as well as heavily regulating who, when and how users can play online games. According to the General Administration of Press and Publication (GAPP) government control and regulations were the main reasons for the delay of Neteases World of Warcrafts Wrath of Lich King (WLK) China launch. WLK was launched in China in August 2010 nearly two years after its global launch, due largely to content restrictions. Even after the launch, the expansion pack is significantly different from the version launched elsewhere as certain scenes (especially scenes considered to be violent) have been deleted or hidden in the game. As recently as this summer, the government proposed several regulations, which if enforced could change the landscape of online gaming and Internet usage in China. The proposals call for limiting player-to-player combat and fighting, limiting the use of virtual currency and transactions, and registration of real names and identifications. Below we outline a few regulations that could be imposed on the segment. Source: Interim Measures for the Administration of Online Games by the Ministry of Culture of China in the form of Order of the Ministry of Culture (No. 49) (Dated 3 June 2010). These Interim measures are already effective from 1 August 2010. Game content: Setting mandatory battle among users in the game without users consent is forbidden. In-game gambling and lotteries not allowed. (original text: online game operators shall not induce online game users to use legal tender or online game virtual currencies to obtain online game products or services in the way of such random methods as drawing lots) Virtual currency: The use of virtual currency should be confined within the particular game only. Issuing virtual currency with the malicious intent to obtain funding (basically persistently borrowing money) from users is not allowed. Keep the purchasing record of virtual currency for at least 180 days after the last time when the user obtains service.
Governments proposed new regulations could alter the online gaming and Internet landscape An opaque regulatory structure
Operators are required to file a record regarding the type, price and quantity of issued virtue currencies to the provincial cultural administrative department of its place of registration.
Nomura
106
29 September 2010
Strategy | China
Jin Yoon
Virtual items transaction: Virtual items transaction services cannot be provided to minors. Cannot provide virtual items transaction service for unexamined or unregistered online games. Valid ID along with bank account that is consistent with the ID has to be provided when the transaction takes place. Operators should offer help to determine the legality of transaction upon requests from parties involved in the transaction and other authorities. Illegal transactions should be terminated and the record should be kept. Transaction and accounting records should be kept for at least 180 days. Real Identity Operators shall ask users to register their real names with valid identity cards and save the registration information.
Exhibit 149. China: Internet penetration rates

2007 Regions North China Province Beijing Tianjin Hebei Shanxi Inner Mongolia Northeast China Liaoning Jilin Heilongjiang East China Shanghai Jiangsu Zhejiang Anhui Fujian Guangdong Hainan Jiangxi Shandong Central China Henan Hubei Hunan Guangxi Southwest China Chongqing Sichuan Guizhou Yunnan Tibet Northwest China Shaanxi Gansu Qinghai Ningxia Xinjiang User (mn) 7.4 2.9 7.6 5.4 3.2 7.8 4.3 4.8 8.3 17.6 15.1 5.9 8.7 33.4 1.4 5.1 12.6 9.6 7.1 6.9 5.6 3.6 8.1 2.2 3.0 0.4 5.2 2.2 0.6 0.6 3.6 Penetration (%) 46.6 26.7 11.1 15.9 13.4 18.3 15.9 12.5 45.8 23.3 30.3 9.6 24.3 35.9 17.2 11.8 13.5 10.2 12.4 10.9 11.9 12.7 9.9 6.0 6.8 12.7 13.9 8.4 11.0 10.1 17.7 User (mn) 9.8 4.9 13.3 8.2 3.9 11.4 5.2 6.2 11.1 20.8 21.1 7.2 13.8 45.5 2.2 6.1 19.8 12.8 10.5 10.0 7.3 6.0 11.0 4.3 5.5 0.5 7.9 3.3 1.3 1.0 6.3 2008 Penetration (%) 60.0 43.5 19.2 24.1 16.0 26.5 19.0 16.2 59.7 27.3 41.7 11.8 38.5 48.2 25.6 14.0 21.2 13.7 18.4 15.7 15.4 21.2 13.6 11.5 12.1 16.4 21.1 12.5 23.6 16.6 27.1 2009 User (mn) Penetration (%) 11.0 5.6 18.4 10.6 5.8 16.0 7.3 9.1 11.7 27.7 24.5 10.7 16.3 48.6 2.4 7.9 27.7 20.1 14.7 14.1 10.3 8.0 16.4 5.7 8.4 0.5 10.0 5.4 1.5 1.4 6.3 65.1 48.0 26.4 31.2 23.8 37.0 26.6 23.9 62.0 36.0 47.9 17.4 45.2 50.9 28.6 18.0 29.4 21.3 25.7 22.0 21.4 28.3 20.1 15.1 18.6 18.6 26.5 20.4 27.7 22.8 27.5
Source: China Internet Network Information Center (CNNIC)
Nomura
107
29 September 2010
Strategy | China
Charlene Liu
Macau Gaming
Action
As a leveraged consumption play, we expect Macaus gaming sector to continue to benefit collectively from the internal consumption growth driven by both economic advancement and urbanisation supported by the 12th FYP in China. Infrastructure improvements should also increase Macaus accessibility and deepen the penetration of its customer base favourable for long-term growth.
BULLISH
Stocks for action
We like SJM for its 40%+ mass market share, 3% yield prospects for 2010 and undemanding valuation at 9x FY10 EBTIDA versus the sector at 12-14x.
Catalysts
Strong and healthy monthly gaming revenue numbers that dismiss concern over growth sustainability of the overall sector. Anchor themes We favour mass market focused plays, which we think will benefit proportionally more from enhanced internal consumption power and infrastructure upgrades. Our top pick, SJM, has an inexpensive valuation and resilient qualities in a downturn.
Stock SJM Holdings

Price as of 21 Sep 2010
Rating
Price
Price target HK$9
BUY HK$8.35
Leveraged consumption play

Quick turnaround in 2009 plus robust 2010
Hit by the financial crisis, Macaus gaming companies started weak in 2009. However, Macau was able to recover fast when the economy improved in 2H09, enabling it to close 2009 with growth of 10% y-y. Entering 2010, growth has become more robust. Despite Chinas credit-tightening measures (January 2010), the opening of a Singapore casino (February 2010) and the announcement of cooling measures on the China property market (April 2010), Macau continued to deliver robust growth this year. Gaming revenue grew by 63%y-y in the first eight months. Growth was driven not by the increase in visitation, but by spending per visitor, and VIP gaming spending is driving the strong growth we are seeing this year.
Analyst
Charlene Liu +852 2252 6134 charlene.liu@nomura.com
Outlook remain positive

For 2010, we are looking for 47% y-y growth. Our growth estimate implies MOP14.3bnn / month for SeptemberDecember. This should not be difficult to achieve because based on mid-month run rate, September is already tracking close to MOP15bn. Plus, 4Q is historically stronger than prior quarters and October could reach Mays level at MOP17bn, as it will likely be boosted by the Golden Week holiday in May. In 2011 and 2012, we expect the sector to expand by 14% y-y and 18% y-y, respectively.
Implications of 12th FYP

Urbanisation + rising consumption power Our China strategy team expects urbanisation to continue to be a major driver of growth for China over the next two decades. Household consumption is expected to grow with urbanisation. This is because household consumption shows that urban households (per capital) spent three times as much as their rural counterparts in 2009. Also, urban households tend to spend proportionally more on recreation than rural households. Since Macau gaming is closely tied to Chinas consumption story, the expected development as outlined above are all positive factors for supporting gaming sectors growth in the next five years.
Nomura
108
29 September 2010
Strategy | China
Charlene Liu
Infrastructure upgrade increase accessibility Our China team suggested that one of the four ripple effects from the 12th FYP would be that more infrastructure investments will need to be injected to cope with inter-region transportation demands. Therefore, while we note that infrastructure spending would likely target transferring manufacturing inland, developments such as the National High-Speed Passenger Rail Network will benefit Macau as it will increase accessibility. Macaus growth has mainly been banking on the southern China due to transportation bottlenecks elsewhere; so, improved infrastructure should enlarge Macaus customer base in China. This should allow Macau to benefit more from the next round of growth in other regions of China. Mass market has the limelight We think Chinas enhanced internal consumption power and infrastructure upgrades would benefit the mass market relatively more, as those factors could potentially increase both visitation and per visitor spending. Both of which are strong driving forces for the growth of Macaus mass market business. Therefore, in order to play the 12th FYP theme, we will favour stocks with comparatively higher mass market exposure than the rest.
Stock pick and valuations

Based on the 12th FYP theme with a five-year horizon, we like SJM followed by Sands China (1928 HK, HK$13.5, NEUTRAL), both of which have among the highest exposure to the mass market business in Macau. SJM, in particular, has 40%+ mass market share. SJM looks undemanding at 9x FY10F EBTIDA versus the sectors 12 14x. SJMs valuation is further supported by 3% yield prospects for 2010 and its net cash position which accounts for 14% of market value, on our estimate. These factors contribute to make SJM more resilient in a downturn. We also like Sands China, because aside from its mass market exposure, the companys diversified non-gaming amenities such as its retail malls, big hotels, theatre / shows and meeting, incentives, conventions and exhibitions (MICE) facilities allow Sands China to position itself to capture the long-term potential of the Macau market. The company has mega resort projects in the pipeline which may allow it to better enjoy Macaus growth in the long run. However, at 14x FY10F EBITDA, short-term stock performance could be held back by overhangs such as recent management changes and potential delay in projects due to labour shortages.
Exhibit 150. Macau total gaming revenue
Exhibit 151. Mainland Chinese visitors, by IVS and packaged tours

(%) 100 80 60 40 20 0 (20) (40)
600 400 200 0 May-08 May-09 May-10 Nov-08 Nov-09 Mar-08 Mar-09 Sep-08 Sep-09 Mar-10 Jan-08 Jan-09 Jan-10 Jul-08 Jul-09 Jul-10 ('000) 1,200 1,000 800 Other Mainland Visitor Arrivals (LHS) IVS Visitor Arrivals (LHS) y-y chg (RHS) (%) 50 40 30 20 10 0 (10) (20) (30) (40)
Monthly Gaming Revenue (MOP bn) 18 16 14 12 10 8 6 4 2 0 Jan 07 Mar 07 May 07 Jul 07 Sep 07 Nov 07 Jan 08 Mar 08 May 08 Jul 08 Sep 08 Nov 08 Jan 09 Mar 09 May 09 July 09 Sep 09 Nov 09 Jan 10 Mar 10 May 10 Jul 10 yoy change (R.H.S.)
Source: DICJ
Source: DICJ
Nomura
109
29 September 2010
Strategy | China
Cheng Khoo
Oil and Gas

Action
We are BULLISH on the China oil and gas sector, with BUY calls on Petrochina, Sinopec and CNOOC. Petrochina is our long-term top pick on its potential growth in natural gas. CNOOC is our near-term top pick as it is a pure E&P play and has strong production growth prospects. We also have a BUY rating on Sinopec on the back of impending revision in the domestic oil product pricing mechanism.
BULLISH
Stocks for action
Our top BUY call in the China oil & gas sector is Petrochina, based on 58% implied upside.
Catalysts
Upstream oil stocks are closely correlated to oil prices. Companies with strong production growth should see their stock prices enhanced. Anchor themes Tightening fundamentals over next two years, a weak US dollar, lax CFTC trading rules, abundant money supply and potentially higher inflation expectations could fuel higher oil prices. We think prices could cross the US$100/bbl level next year.
Stock Petrochina Sinopec CNOOC Shanghai Petro Rating BUY BUY BUY BUY Price (HK$) 8.67 6.61 14.70 3.29 Price target (HK$) 13.7 8.2 16.5 4.0
Based on closing price of 21 September
Transformational changes
12 Five Year Plan Focus
th
Analysts
Cheng Khoo +852 2252 6180 cheng.khoo@nomura.com cheng.khoo@nomura.com Gordon Wai +852 2252 6176 gordon.wai@nomura.com
We think that the 12th Five Year Plan for the oil, petroleum and petrochemical industry will focus on: Promoting clean fuels for a cleaner environment Energy efficiency gains and conservation Industry structural reform Moving up the value chain in petrochemical products
Promoting clean fuels for a cleaner environment

This is a continuation from the 11th Five Year plan where the government has been trying to reduce the market share of coal and oil by encouraging the use of natural gas, renewable energy and nuclear energy within Chinas fuel mix. In particular, the plan is to boost natural gas consumption from 4% in 2009 to 8% of Chinas primary energy demand by 2015F. This indicates that natural gas volume will increase from the current 88.7bcm to 260bcm in 2015. In order to encourage consumers to choose natural gas as fuel, it is necessary to ensure sufficient supply. As a result, several LNG receiving terminals as well as natural gas pipelines are being constructed to import gas. Further, Petrochina, Sinopec and CNOOC are developing gas fields to increase supply.
Nomura
110
29 September 2010
Strategy | China
Cheng Khoo
Exhibit 152. China Energy Consumption, 2009 (2.2bn tonnes of oil equivalent)
Renewable energy, 6.4% Nuclear, 0.7%
Exhibit 153. China Energy Consumption, 2015 (2.6bn tonnes of oil equivalent)
Hydropower, 8.6% Oil , 17.2%
Oil , 18.6%
Nuclear, 1.9%
Gas , 3.7%
Gas , 8.0%
Coal, 70.6%
Coal, 64.4%
Source: BP, Nomura Research
Source: EIA, Nomura Research
Exhibit 154. China Natural Gas Demand/Supply

(bcm) 280 260 240 220 200 180 160 140 120 100 80 60 40 20 0 1991 1992 1993 1994 1995 1996 Production Consumption
Consumption CAGR: 20%
Import: 112bcm
Production CAGR: 10%
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010E
2011E
2012E
2013E
2014E
Source: CEIC, OGP, Nomura Research
Energy efficiency gains and conservation

In the past, various fuel prices such as gasoline, diesel and natural gas were controlled at very low levels in order to ensure affordability for all consumers and to control inflation. Low fuel prices were partly blamed for the wastage of energy and low fuel efficiencies. In order to discourage wastage and as affordability improves with economic growth, the government is gradually raising prices to international levels. With the introduction of the higher consumption taxes in oil products, pump prices of diesel and gasoline are now higher than in the US. We believe that natural gas prices will also increase gradually to meet levels of imported gas. This will enable more domestic gas fields to be proven and developed. This is beneficial for the upstream players, in our view. For the petrochemical industry, China will likely target to build several large refining bases with capacity of exceeding 20mn tonnes per annum along the Yangtze River Delta, Pearl River Delta and Bohai region. We think Petrochina will benefit from the 12th Five Year Plan as it has the largest natural gas reserves in China. Potential natural gas price hike could be the trigger for the company. Sinopec and Shanghai Petrochemical are also beneficiaries of the 12th Five Year Plan as the government is favourable to industry consolidation to enhance its product mix.
Petrochina will be the beneficiary of potential natural gas price hike
Nomura
111
2015E
29 September 2010
Strategy | China
Cheng Khoo
Industry structural reform improve competitiveness

For the downstream refining and chemical sector, in the 12th five year plan, the government is encouraging economies of scale. China plans to build a dozen refining bases exceeding or equivalent to 20-million tonne/year (400,000 b/d) in China. These refineries will become some of the largest and most efficient in the world. These will include three 30-million tonnes/year refining bases in Nanjing, Ningbo, and Shanghai and six 20-million-tonne/year bases in Maoming, Huzhou, Guanzhou, Tianjin and Caofeidian. This will increase the average refinery size in China to 6-million-tonnes/year (120,000b/d). This should improve competitiveness of the sector comparable to global standards. China currently has 17 refining bases, of which only Dalian and Zhenhai have a production capacity of 20-million tonne/year. Refineries exceeding 10million tonnes/year account for only 50% of the national total while the remaining 50% are below economic scale. China will also impose more stringent emission standards in order to promote cleaner air and to comply with international emissions standards.
Refiners and Petrochemical producers are looking for scale
Moving up the value chain in petrochemical products

Apart from becoming bigger, China intends to move up the value chain and produce higher value added petrochemical products. Currently Chinas petrochemical plants mainly produce basic petrochemical products, while higher value-added products have to be imported. Highly polluting and high energy intensive technologies currently used to produce petrochemical products will gradually be eliminated an example is the use of calcium carbide for the production of PVC.
Petrochemical products upgrade
Recent sector development

Upstream: In near term, we think crude oil price could range between US$70/bbl and US$80/bbl. With visibility in the economy improving in FY11F, we think strong oil demand growth could drive high oil prices. Refining: We think that the domestic refining margins are just above break-even levels. We see potential upside to margins when the government improves the oil product pricing mechanism. Petrochemicals: Even though the ethylene cycle is entering a downturn, we think it should recover by end-2011. Meanwhile, prospects for the firms other major commodity chemicals are still attractive, in our view. We believe PX margins are likely to have bottomed, while the PTA/polyester segment should remain robust through 2011-12F.
Optimistic FY11F outlooks
Valuation
We think Sinopecs valuations are compelling, at 7.2x FY11F PE and 1.1x FY11F PB, which are the lowest among its peers. However, in terms of earnings growth, Petrochina has the highest earnings growth in FY11F on high crude oil prices and strong earnings growth in natural gas and pipeline segment.
Sinopec compelling valuations; Petrochina strong earnings growth in FY11F
Exhibit 155. Selected company valuations

Sh price (21 Sept) Ticker Petrochina Sinopec CNOOC Shanghai Pet 857 HK 386 HK 883 HK 338 HK Rating Buy Buy Buy Buy (local curr) HK$ 8.67 HK$ 6.61 HK$ 14.70 HK$ 3.29 Pr target (local curr) HK$ 13.70 HK$ 8.20 HK$ 16.50 HK$ 4.00 P/E (x) 2010F 9.9 7.8 12.2 9.5 2011F 8.0 7.2 10.4 8.4 Earnings growth (% y-y) 2010F 37 5 60 39 23 8 17 13 P/BV (x) 1.5 1.2 2.8 1.2 1.3 1.1 2.4 1.1 ROE (%) 16 16 25 13 18 16 25 13 Yield (%) 4.6 3.5 2.7 4 5.6 3.7 3.2 5
2011F 2010F 2011F 2010F 2011F 2010F 2011F
Nomura
112
29 September 2010
Strategy | China
Cheng Khoo
Valuations
CNOOC: Our 12-month price target of HK$16.50 is based on FY10/11F ROACE/WACC (28.6%/10%). The stock is trading at 2.1x avg FY11F P/B and 29% FY11F ROACE, which we believe to be undemanding. On P/E, the stock is currently at 10.4x FY11F lower than its past four-year average of 13x. PetroChina: Our price target of HK$13.70 is derived from the sum of: 1) HK$10.90 per share, based on an average 2010-11F ROACE/WACC (13%/8.1%), and; 2) HK$2.80 from our estimated oil and gas discoveries' value. Sinopec: Our PT of HK$8.20 is derived from FY10-11F ROACE/WACC (12.3%/9.2%). Sinopec Shanghai Petrochemical: Our price target of HK$4.00 is based on average FY10/11F ROACE/WACC (10.9%/8.7%).
Risks to our investment view

CNOOC: Higher-than-expected crude oil prices would present an upside risk to our earnings estimates for FY10F and vice versa. Downside risks include: 1) rising operating costs; 2) lower-than-budgeted production; and 3) acquisition risks. PetroChina: Downside risks: 1) lower-than-expected oil product prices; 2) chemical downcycle; and 3) government regulatory risks. Sinopec: Downside risks: 1) rising inflation; 2) chemical downcycle and 3) resource tax. Upside risks: 1) potential change in the oil product pricing mechanism and 2) lifting of the windfall tax hurdle rate. Sinopec Shanghai Petrochemical: Downside risks: 1) lower-than-expected oil product price hikes; 2) government regulatory risks; and 3) petrochemicals downcycle.
Nomura
113
29 September 2010
Strategy | China
Alvin Wong
Real Estate
Action
We believe under the 12th Five-Year Plan, the Chinese government will reiterate the target of providing affordable housing to the low-income group. The government is likely to speed up the construction of public housing to meet the demand of different income groups, in our view.
N/A
Catalysts
Due to the low margins of public housing development, there could be more business opportunities for contractors rather than real estate developers under this initiative. Anchor themes We believe the provision of public rental housing should help ease public concerns regarding current high property prices. However, we believe it should only have limited impact on the private sector, as local governments do not have the capacity to flood the market with low-rent housing.
Paving way for a harmonised housing market

Increasing supply of public housings over 2011-2015
Under the 12th Five-Year Plan for real estate, the focus will continue to be on public housing development that aims to resolve the housing difficulties of lowincome households, in our view. Over the next five years (2011-15), the central government plans to increase the supply of low-rent housing (i.e. public rental housing) and economic housing, and to extend the coverage of rent subsidies to low-income households.
Analysts
Alvin Wong +852 2252 1563 alvin.wong@nomura.com Sunny Tam, CFA +852 2252 6226 sunny.wong@nomura.com
Expect 15.4mn low-income households to benefit by end-2012

According to Ministry of Housing and Urban-Rural Development of the Peoples Republic of China (MOHURD), the government will provide public housing space (including economic housing and low-rent housing) to ~15.4mn low-income households by end-2012, which should further improve their living GFA per capita to ~13sqm by end-2015. In the meantime, the demolition and resettlement of large-scaled old houses in urban cities and state-owned industrial areas are expected to be concluded by end-2013. We believe the speed-up of public housing construction should meet the demand of low-income households (about 7.4% of total urban population of 622mn). Together with the improved housing security level of poor people in the industrial and mining areas, forest areas and the reclamation areas, this should lead to the construction of a harmonious society, an ultimate goal of President Hu Jintao.
However, this should be challenging development targets

Although Premier Wen Jiabao has stated earlier in the National Peoples Congress to accelerate the construction of public housing, we see challenges in meeting these development targets. For example, if we assume half of the target (i.e. 50% x 15.4mn = 7.7mn households) would be fulfilled by economic housing, a total GFA of 300mn sqm would have to be completed by end-2015F [(7.7mn households) x (3-person per households) x (13sqm living GFA per capita) = 300mn sqm GFA]. In other words, it would require an average annual delivery of
Nomura
114
29 September 2010
Strategy | China
Alvin Wong
50mn sqm GFA over 2010-2015F, representing a 43% increase compare with the average annual completion of ~35mn sqm GFA over 2004-2009 (see Exhibit below). We believe the targets of low-rent housing supply and rent subsidies will be challenging to meet, especially for some local cities where local governments have relatively weak balance sheets. Local governments have committed to various targets to supply either low-rent housing or rent subsidies to low-income groups, and we estimate that to finance these, the total cost could account for 10% or more of some local governments annual expenditure such as Gansu, Heilongjiang, Ningxia, Qinghai, etc (see second Exhibit). In our calculations, we assume RMB1,500/sqm construction costs for low-rent housing, and for rent subsidies, we assume local governments would subsidise up to 50% of minimum wage for each household. Even if we were to take into account the central government grants for constructing low-rent housing, it appears that the capex would still be a bit too heavy for some provincial governments.
Implications for developers

The increased supply of public housing should have a limited impact on the private housing market, in our view. Private developers generally target mid- to high-end customers, delivering higher quality properties and look for higher profit margins. In other words, we do not expect the developers to be actively involved in developing pure public housing projects, which generate net margin of only 3-5% (as compared to 15-20% margins from normal property development projects). In our view, contractors that build lower-margin housing are likely to benefit from the governments target of increasing the supply of public housing. Looking ahead, we believe the central government will closely monitor property prices, especially in cities that have seen rapid price increases. The recent rebound in the property market (both in term of price and volume) may increase the possibility of a new series of tightening measures launches. These may include the property taxes trial in Shanghai and Chongqing as well as the settlement of land appreciation tax (LAT). If so, market sentiment could be hurt and those highly-geared developers are likely to suffer the most.
Exhibit 156. Targeted economic housing supply over 2010-15

(m sqm) 70 60 50 40 40 30 20 10 0 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010E 2011E 2012E 2013E 2014E 2015E
115
Avg GFA delivery between FY04-09: 35m sqm
Targeted delivery per annum between FY10-15: 50m sqm 43%
(%) 80
60
20
* 7.7m or 50% of the targeted low-income households to be filled by economic housing by end-2015 ** Assuming 39sqm per unit (3 person x 13sqm). Source: CEIC, Nomura estimates
Nomura
29 September 2010
Strategy | China
Alvin Wong
Exhibit 157. Low rent housing supply analysis

2010 Supply Plan Est. expenditure Expenditure as % Central govt of local govt total grant* revenue (RMBmn) 0 0 1,108 273 1,139 0 523 1,232 0 0 0 1,252 445 1,158 0 0 0 0 421 0 530 1,006 312 0 924 1,966 0 31 2,137 1,716 0 16,173 (%) 7.9 0.1 4.5 2.0 11.2 0.2 2.5 8.3 3.3 2.9 11.3 4.6 2.9 5.6 3.7 0.2 6.1 14.7 1.8 10.2 16.9 5.6 0.9 0.3 4.7 4.7 2.0 3.2 15.5 7.0 0.2
Additional low-rent houses Area Anhui Beijing Chongqing Fujian Gansu Guangdong Guangxi Guizhou Hainan Hebei Heilongjiang Henan Hubei Hunan Inner Mongolia Jiangsu Jiangxi Jilin Liaoning Ningxia Qinghai Shaanxi Shandong Shanghai Shanxi Sichuan Tianjin Tibet Xinjiang Yunnan Zhejiang Total '000 units 96 4 71 35 73 12 34 79 10 52 119 107 38 99 50 12 59 120 54 19 34 86 40 12 79 126 25 2 137 110 5 1,799
Additional subsidized units '000 units 24 3 13 10 19 5 23 20 2 9 53 27 109 25 39 6 24 30 24 5 8 14 8 4 20 26 29 2 28 36 5 649
Construction expenditure** (RMBmn) 5,616 234 4,154 2,048 4,271 702 1,960 4,622 585 3,042 6,967 6,260 2,223 5,792 2,925 702 3,452 7,020 3,159 1,112 1,989 5,031 2,340 702 4,622 7,371 1,463 117 8,015 6,435 293 105,218
Rent subsidy expenditure*** (RMBmn) 104 17 53 54 85 31 91 78 10 49 279 130 589 128 211 35 104 148 130 20 28 64 44 27 102 133 160 11 161 179 33 3,285
Local govt revenue (RMBmn) 72,462 202,680 68,183 93,230 28,670 364,900 62,083 41,646 17,820 106,620 64,160 112,610 81,480 84,500 85,070 322,880 58,120 48,708 159,100 11,150 8,770 73,391 219,853 254,030 80,580 117,416 82,138 3,009 38,880 69,820 214,237 3,248,196
* Grant from Central Government for low rent housing construction: RMB400psm for western areas, RMB300psm for central areas and RMB200psm for Fujian, Liaoning and Shandong. ** Construction expenditure is estimated based on RMB1,500/sqm for construction cost, and assuming 39sqm per unit (3 person x 13sqm). *** Rent subsidy per household is assumed to be 50% of monthly minimum wages Source: Nomura research, MOHURD,CEIC
Nomura
116
29 September 2010
Strategy | China
Candy Huang
Retail
Action
The upcoming 12th Five-Year Plan will be positive for discretionary consumption, given that more supportive policies are in the pipeline we expect the government to roll out more policies to support the developments of Central and Western China and to encourage industry consolidation. We expect branded low-end retailers and the service sector to benefit the most, which include Gome and Ctrip.
BULLISH
Stocks for action
Gome is most geared to minimum salary increase guidelines in tier-2 and tier-3 cities, while Ctrip is most geared to lifestyle upgrade, rising salaries and social benefits.
Price ($) 2.36 43.84 15.02 24.95 19.46 Price target 4.1 48.0 16.0 34.0 28.5
Catalysts
Improved margins and better-than-expected SSS due to the upcoming national holidays are potential catalysts Anchor themes With Nomuras economics team projecting Chinas GDP growth will accelerate to 10.5% in 2010F, we are positive on the growth outlook for retail and service stocks, owing to better earnings visibility and improving employment conditions.
Stock Gome (493 HK) Ctrip (CTRP US) Belle (1880 HK) Li Ning (2331 HK) Ports (589 HK) Rating BUY BUY BUY BUY BUY
Pricing as of 21 Sep 2010; Ratings and Price Targets are as of the date of the most recently published report (http://www.Nomura.com) rather than the date of this document
A new round of consumption

12 Five-Year Plan to boost consumption
th
Analyst
Candy Huang +852 2252 1407 candy.huang@nomura.com
We remain upbeat on the outlook for consumption in China. The upcoming 12th Five-Year Plan to be discussed in October 2010 during the the Fifth Plenary Session of the 17th CPC Central Committee meeting will be positive for consumption, at which we expect more supportive policies to be rolled out to boost consumption, such as raising government agricultural goods prices, rising minimum wages, improving social welfare coverage and increasing government expenditure on social welfare. The developments of Central and Western China will be emphasised, in our view, which should provide plenty of room for retailers to extend networks, along with rising income and urbanisation in the regions.
Wage increase to spur consumption

Among all the policies expected in the pipeline, we think rising minimum wages and improving social welfare will be positive for consumption in general, as consumers will have more disposable income to buy discretionary products. This is particularly important for low-income households, for whom the propensity to spend is higher. Food consumption accounts for 35% of average household income. With additional disposable income, we think low-end workers are more likely to spend on low-ticket discretionary products, such as shoes, clothes, handsets and snacks, and high-ticket daily necessities, such as air-conditioners, refrigerators and TVs. Low-income households with annual income of RMB5,833 (China year book 2009) accounted for 30% of the total urban population in 2009, on our estimates. If we assume 30% income growth and 13% savings ratio (consistent with the past few years), the 30% income growth would generate extra consumption worth RMB2tn, an amount equal to 17% of Chinas retail sales in 2009. We believe rising wages will be positive for branded food and mass-market retailers, such as Lianhua, Wumart, Jing Ke Long, Li Ning, Anta, Xtep, Belle, Daphne, Gome, Parkson and Intime. Also, we do not foresee much margin pressure from salary increases for staff, as salary hikes have been consistent in the past few years (or 5-10% y-y) and compensation structures are flexible.
Nomura
117
29 September 2010
Strategy | China
Candy Huang
However, if there is a need to further increase the base salary for low-income staff, we believe labour-intensive companies will suffer in the initial stage, given their heavy cost structures and low margins, with staff costs accounting for 31-36% of their total expenses and low-income workers salaries accounting for 40-50% of total staff cost, based on our estimates. These companies include Lianhua, Wumart and Belle under our coverage. The impact for department stores and high-end retailers should be limited, given their diversified product mixes and that they are geared towards highly discretionary consumption. These companies include Parkson, Golden Eagle, Intime and Ports under our coverage. We believe branded low-ticket discretionary and highticket daily necessity retailers with light assets will benefit more, such as Li Ning and Gome under our coverage, given the rising demand for budget shoes/apparel, TVs and washing machines
Exhibit 158. Annual income and expense breakdown for urban households (2009)
Total Expenditure As % to population High income Upper middle income Middle income Lower middle income Low income 15 18 20 22 30 Per household income (RMB) 37,434 21,018 15,400 11,244 6,725 Expenditure (RMB) 24,043 14,964 11,310 8,739 5,833 income ratio (%) 64.2 71.2 73.4 77.7 86.7 household income (RMBbn) 3,407 2,295 1,869 1,501 1,224 Income growth by 30% (RMBbn) 1,022 689 561 450 367 Additional disposable income (RMBbn) 656 490 412 350 318 As % to China retail sales 09 (%) 5.2 3.9 3.3 2.8 2.5
Source: Statistics Bureau of China, Statistical Yearbook, CEIC, Nomura research
The bigger the better

Most retailers are still aggressively expanding network into both new and existing markets. Organic growth is still the preferred way, while acquisition is more opportunistic. Nevertheless, we expect the 12th Five-Year Plan to launch more policies to encourage consolidation to decrease irrational competition and sustain healthy industry growth. Meanwhile acquisition also helps to expand into new areas at cheap costs. As of the latest stage, we think electronic retail market is the most consolidated among all the discretionary retail subsectors, with Suning and Gome taking a combined market share of up to 25%, according to Statistical Yearbook of China Chain Stores. In the travel agent sector, Ctrip is expanding market share rapidly, with its market in air-ticket booking up from 1.4% in 2004 to 9.4% in 2009, on our estimates. We expect the trend to continue given its cross-regional expansion and brand name. We think there are many subsectors that have far from consolidated, such as department store, supermarket, apparel, footwear, education and etc, with top players taking up 1-2% market share. Although few department stores have embarked on acquisition, such as Parkson, Golden Eagle, Intime, PCD, Maoye, etc, most of the deals are still smallscaled or acquisitions of individual store. We think there will be more large-scaled chain store acquisition in the future, which is deemed as an efficient way to expand market share.
Nomura
118
29 September 2010
Strategy | China
Candy Huang
Exhibit 159. Top 100 chain store sales and as % of total retail sales in China
(RMBbn) 1,600 1,400 1,200 1,000 800 600 400 200 0 2005
Source: CCFA, Nomura research
Top 100 chain store sales Top 100 chain store sales (LHS) as % of total retail sales as % of total retail sales (RHS)
(%) 12 11 10 9 8 7
2006
2007
2008
2009
Exhibit 160. Ctrip market share in air tickets booking
Exhibit 161. Gome and Suning market share in 2006-09

(%) 100 % 90 80 70 60 50 40 30 20 10 0 2006 2007 2008 2009 77.2% 74.7% 75.1% 74.0% 13.4% 9.4% 13.8% 11.5% 12.6% 12.3% 12.4% 13.7% % % % % % % % % % Others Suning Gome
(mn tickets) 30 25 20 15 4.0 10 5 0 2004 2005 2006 2007 2008 2009 2010F 1.4 2.7 5.8 Air-ticket sold (LHS) Market share (RHS) 8.1 9.4 11.1
(%) 12 10 8 6 4 2 0
Source: Company announcement, Nomura estimates
Source: Company announcement, Nomura research
We see Gome and Ctrip to benefit

We think Gome is most geared to minimum salary increase from tier-2 and tier-3 cities. Store restructuring is almost done, and we see resumed growth momentum on both store expansion and margin increase. Ctrip is most geared to lifestyle upgrades in line with an increase in salary and social benefits. Its cross-regional expansion will help to sustain its long-term growth potential. It is also in the position to lead the consolidation in the travel agent industry.
Nomura
119
29 September 2010
Strategy | China
Candy Huang
Exhibit 162. Sector valuation

Nomura Company Parkson Intime Maoye NWDS PCD Food Retailer Lianhua Wumart Jingkelong Sportswear Li Ning Anta Dongxiang Xtep Footwear Belle Daphne GOME Suning Others Ports Design Hengdeli China Lilang Average 589 HK 3389 HK 1234 HK BUY Not rated Not rated 19.46 3.77 11.00 1,408 2,114 1,692 20.0 36.7 31.1 34.3 31.1 18.7 23.1 27.5 26.3 24.5 15.9 17.6 20.1 21.3 19.7 11.5 34.9 23.6 23.5 23.1 1.7 1.1 1.3 1.5 1.5 1.6 0.7 1.2 1.2 1.2 1.4 0.5 0.9 1.0 1.0 16.4 22.1 30.1 22.4 20.1 14.9 14.8 23.8 16.3 14.6 5.5 3.5 6.2 5.4 4.8 3.2 1.3 1.5 1.6 1.9 32.6 17.4 23.4 22.4 21.7 net cash net cash net cash 1880 HK 210 HK 493 HK BUY Not rated BUY 15.02 8.94 2.36 15.49 16,319 1,877 4,577 13,894 42.8 37.2 22.6 36.0 31.5 21.2 16.3 27.5 26.1 16.3 14.2 21.4 21.6 41.1 23.1 28.5 2.0 0.9 1.0 1.3 1.5 0.5 0.7 1.0 1.2 0.4 0.6 0.7 30.8 15.2 14.7 24.1 22.9 11.6 9.6 14.6 6.0 5.1 2.2 5.8 1.6 1.1 2.0 0.7 20.6 26.9 15.8 23.2 net cash net cash net cash net cash 2331 HK 2020 HK 3818 HK 1368 HK BUY Not rated Not rated Not rated 24.95 16.58 4.24 6.27 3,377 5,300 3,080 1,748 23.8 29.0 14.3 18.3 18.8 23.7 12.9 15.1 15.2 18.5 10.9 12.1 21.6 21.2 12.3 20.0 1.1 1.4 1.2 0.9 0.9 1.1 1.0 0.8 0.7 0.9 0.9 0.6 14.0 22.1 8.7 12.9 10.9 17.7 7.1 10.2 6.3 6.1 2.5 3.6 2.1 2.5 5.4 3.8 39.5 27.4 21.0 24.4 net cash net cash net cash net cash 980 HK 8277 HK 814 HK REDUCE NEUTRAL Not rated 31.25 18.74 9.75 2,504 3,093 515 32.8 45.0 23.7 29.1 36.4 19.4 25.5 28.6 16.0 9.4 23.5 9.9 3.5 1.9 2.4 3.1 1.5 1.9 2.7 1.2 1.6 9.3 23.2 12.1 7.6 17.9 7.8 5.7 5.6 2.3 1.2 0.8 2.1 21.0 18.6 12.3 net cash net cash net cash Ticker 3368 HK 1833 HK 848 HK 825 HK 331 HK rating NEUTRAL REDUCE NEUTRAL Not rated Not rated Not rated Department Store 14.36 20.55 10.02 3.35 7.45 2.27 5,196 5,132 2,316 2,208 1,610 1,230 36.4 45.6 46.6 32.6 23.3 25.0 28.0 36.6 31.8 26.8 22.0 23.9 23.1 30.6 23.8 21.7 18.3 17.9 20.4 28.4 38.1 35.5 15.4 20.8 1.8 1.6 1.2 0.9 1.5 1.2 1.4 1.3 0.8 0.8 1.4 1.1 1.1 1.1 0.6 0.6 1.2 0.9 22.7 31.4 26.4 21.0 13.2 30.6 17.4 24.6 17.7 16.3 10.7 14.7 7.1 9.3 3.7 3.8 2.6 3.1 1.7 0.8 1.0 1.1 1.9 1.6 27.6 28.2 13.5 14.3 12.8 13.8 net cash net cash 13.1 32.4 net cash net cash Golden Eagle 3308 HK Local price 21-Sep-10 Market cap US$mn CY09 P/E (x) CY10F CY11F EPS CAGR growth (%) CY09-11F PEG based on CAGR CY09 CY10F CY11F EV/EBITDA (x) CY09 CY10F P/BV (x) FY10F Yield (%) FY10F ROE (%) FY10F Gearing (%) FY10F
Electronic Retailer 002024 CH Not rated
Mkt Cap weighted average
China Services Ctrip CTRP US New Oriental Average EDU US Mkt Cap weighted average
BUY NEUTRAL
43.84 109.80
6,482 4,292
62.6 54.6 59.4 58.6
42.4 41.0 41.8 41.7
31.2 31.7 31.4 31.5
39.6 29.0 35.4 34.3
1.6 1.9 1.7 1.7
1.1 1.4 1.2 1.2
0.8 1.1 0.9 0.9
56.4 45.2 51.9 50.8
36.7 32.2 34.9 34.5
10.4 7.8 9.4 9.1
0.7 0.4 0.4
28.6 21.5 25.8 25.1
net cash net cash
* Bloomberg consensus for non rated stocks; Price as of 21 Sep 2010; Ratings and Price Targets are as of the date of the most recently published report (http://www.Nomura.com) rather than the date of this document Source: Company data, Bloomberg consensus for not rated stocks; Nomura estimates
Valuation and risks

Gome (493 HK, BUY, PT: HK$4.1) Our PT of HK$4.10 is based on 28x FY10F P/E, a 25% premium to the stocks historical 12-month forward P/E. Risks: Weaker-than-expected SSS and margins. Ctrip (CTRP US, BUY, PT: US$48) Our price target of US$48 is based on 35.5x FY11 P/E (EPS: RMB8.78), in line with its historical 12-month forward P/E. Risks: Lower-than-expected volume sales in the air ticket segment and hotel rooms, further ASP corrections, and a commission decline. Belle (1880 HK, BUY, PT: HK$16) Our PT of HK$16.00 is based on 28x FY11F P/E, an unchanged 15% premium to its historical 12-month forward P/E. Risks: rising competition; slower-than-expected SSS; larger-than-expected promotion activities; and failure to achieve synergies with acquired brands. Li Ning (2331 HK, BUY, PT: HK$34) Our PT of HK$34.00 is based on 26x FY10F P/E, in line with its historical 12M forward average P/E since its listing in 2004. Risks: Greater-than-expected slowdown in order book and margin compression. Ports (589 HK, BUY, PT: HK$28.5) Our PT of HK$28.50 is based on 23.5x FY11F P/E, at a15% premium over its historical 12-month forward average P/E since its listing in 2003. Risks: Rising competition that erodes Ports pricing power, margin compression and inventory pile-up.
Nomura
120
29 September 2010
Strategy | China
Josephine Ho
Steel
Action
Steel names in our China/Taiwan space have appreciated by 8% to 30% over the past three months, outperforming the local index by 5% to 20%. We are now selectively positive on the China/Taiwan Steel sector with BUY ratings on Angang and China Steel, and NEUTRAL on Baosteel and Maanshan.
BULLISH
Stocks for action
Angang is best positioned in our China/Taiwan steel space, given its semiintegration to iron ore. China Steel, a lowbeta steel stock, tends to outperform peers when the steel cycle turns.
Stock
Angang (347 HK) Baosteel (600019 CH) Maanshan (323 HK)
Catalysts
Steel demand growth; steel price movement; government policy changes; interest rate changes; price movement of raw material prices. Anchor themes We believe that the steel equities in China/Taiwan are likely to see range-trading, as iron ore spot prices tend to move in tandem with steel prices. We see little opportunity for steel makers to boost margins significantly if iron ore contract prices are reviewed on a monthly basis, as is being proposed by iron ore miners.
Rating
BUY NEUTRAL NEUTRAL
Price Price target

HK$12.62 RMB6.5 HK$4.7 HK$16.00 RMB7.00 HK$5.00
Pricing as of 21Sept 2010 market close and local currencies for prices
Time to cherry-pick
Near-term performance supported by widening margin from
power rationing
Backed by the production cuts from power rationing since mid-August, Chinas spot steel prices have risen by 2-4%, while steel inventories have decreased by 3% in the past month. Based on our channel checks, so far, the leading producers in our coverage are yet to be affected by power rationing and, thus, have benefited from the recent price recovery. Even if power rationing is extended to leading producers, our sensitivity analysis shows that steel companies earnings are more sensitive to price changes than to volume changes. For every 1% change in shipments, the impact on earnings is 1-3%. However, for every 1% change in average selling price, the impact on earnings is 7-12%. We, therefore, believe that production losses at leading steel mills, if any, would be more than offset by any price gain as a result of supply cutbacks.
Analyst
Josephine Ho +852 2252 2177 josephine.ho@nomura.com
Clouded demand outlook for flat steel

Despite concerns over slowing demand from construction (reflecting a tightening property market and slowing infrastructure investment), steel consumption has held up well. Our conversations with long steelmakers suggest that demand for long steel has been stable. Demand for flat steel is mixed, however. Baosteel, with some 50% domestic market share in auto plate, indicated that demand for this product has declined sharply since 2010. Demand for steel used in white goods also slowed in 1H10, according to our channel checks. However, recent data points seem to suggest a rebound in home appliances/white goods sales, which could stimulate related steel consumption. Nomura expects industrial machinery sales growth to slow going into 2011. Shipbuilding is seeing a strong pick-up in demand going into 2H10.
Industry consolidation is no solution for margin contraction

We believe consolidation would only marginally benefit the Chinese steel industry. Rather, the key issue, in our view, is Chinas dependence on iron ore imports. Our global mining team recently extended the peak of iron ore cycle to 2012 (from 2011), so we expect the Chinese steel mills margins to move sideways. Thus, we look for steel equities to be range-bound over the next two years.
Nomura
121
29 September 2010
Strategy | China
Josephine Ho
Remain selectively positive on China steel sector

While we believe the China steel sectors performance is likely to remain strong as long as power rationing is in place we assume at most to the end of 2010, we remain selectively positive on the sector given still less attractive risk award for some of the names. That said, we maintain our BUY rating on Angang, for its semiintegration to iron ore, and China Steel, for its low share-price volatility and stable dividend payout ratio. On the other hand, we remain NEUTRAL on Baosteel and Maanshan due to 1) Maanshans poor execution, 2) Baosteels mixed product outlook.
Exhibit 163. Hot-rolled coil (HRC) prices, since 2004

(RMB/t) 8,000 Current price=4,680 Average price=4,356 HRC
Exhibit 164. Rebar prices, since 2004

(RMB/t) 6,000 Current price=4,321 Average price=3,732 4,000 Rebar
6,000
4,000 2,000 2,000
0 Jan-04 Jul-04 Jul-05 Jul-06 Jul-07 Jul-08 Jul-09 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jul-10
Jul-04
Jul-05
Jul-06
Jul-07
Jul-08
Jul-09
Jan-04
Jan-05
Jan-06
Jan-07
Jan-08
Jan-09
Source: Mysteel, Nomura research
Source: Mysteel, Nomura research
Valuation methodologies and investment risks

Maanshan (323 HK): We reiterate our NEUTRAL rating on Maanshan and our PT of HK$5.00, based on 1.2x FY11F P/BV (one standard deviation above its historical average). Downside risks include a delayed price recovery, disappointment in the supply-demand balance, a lag in M&A, and poor execution of Chinas stimulus package. Upside risks include big drop in raw materials prices and favourable government policies. Angang (347 HK): We reiterate our BUY on Angang and price target of HK$16.0, based on 1.7x FY11F P/BV (was 2.3x on FY10F P/BV). Our methodology is unchanged. Investment risks include a delay in price recovery, disappointing supplydemand balance, and poor execution of stimulus programme elements. BaoSteel (600019 CH): We maintain our NEUTRAL on Baosteel with a price target of RMB7.00, based on the regional average of 1.2x FY11F PB (implied 11x PE of FY11F). Downside risks include a delay in price recovery, disappointment in supply-demand balance, deviations in nickel and stainless steel price assumptions, and asset injection. Upside risks include faster steel price increases and bigger drop in iron ore prices.
Nomura
122
29 September 2010
Jan-10
Jul-10
Strategy | China
Leping Huang, PhD
Telecom Equipment and IT Software

Action
Convergence of telecom, Internet and television network is an important theme for the telecom and IT software industry in the next five years. It will not only improve the quality of existing services from intensified competition but also stimulate growth of innovative services such as Digital City as a G2C (government-to-citizen) service, IPTV as a B2C service, and The Internet of Things as a B2B service.
BULLISH
Stocks for action
We have a BUY on ZTE on the network convergence and The Internet of Things concept. We also think AutoNavi and Digital China may benefit from Digital City, while Skyworth may benefit from IPTV.
Catalysts
Positive catalysts include increasing spending from telecom operators or governments, and favourable industry policies such as VAT tax refund. Negative catalysts include ban of Chinese projects by foreign countries for security reasons. Anchor themes Network convergence is the most important theme for the telecom equipment and IT software industry, in our view.
Stock ZTE
Rating BUY
Price 32.05
Price target 39.00
Note: closing as of 21 Sep, 2010
Innovation from Convergence

Network Convergence: ZTE, O-Net
The Chinese government introduced a new policy to converge the telecom, Internet and television networks in July 2010, granting cable TV operators the right to provide several important telecom services including cable broadband and domestic IP telephony, and telecom operators the right to provide content production and transmission (excluding content aggregation) over the telephony network. We expect telecom and cable TV operators to accelerate their network upgrades based on fiber in preparation for competition with each other. We believe this will accelerate growth of the optical network market in China and benefit ZTEs optical business in the long term.
Analysts
Leping Huang, PhD +852 2252 1598 leping.huang@nomura.com Danny Chu, CFA +852 2252 6209 danny.chu@nomura.com
Key sector valuations or other interesting chart or table (optional)

Theme Enabling technology Company ZTE, O-Net
Digital City: AutoNavi and Digital China

Digital City (or Information city, e-city) refers to a community connected via converged communication infrastructure and innovative public services provided by the government. It mainly involves the development of the national and regional geographical information system (GIS), and the identity management system (e-citizen card). Digital China has already delivered several e-citizenship card platforms in Jiangsu province, and is working tightly with the central government in preparing the national digital city plan. AutoNavi is one of the two listed companies to own a national map surveying license, and it is working on national map survey projects granted by the mapping industry regulator, State Bureau of Surveying and Mapping. We believe both companies are potential beneficiaries of this trend.
Network convergence Optical network Digital City IPTV The internet of things Source: Bloomberg, Nomura
Map, database AutoNavi, software digital China Set top box RFID Skyworth ZTE
IPTV: Skyworth
IPTV service was deregulated for telecom operators in the new network convergence policy. Compared to traditional cable TV, it is superior in terms of programme playback and interactive functions. Set-top box is one enabling technology of IPTV, and we think Skyworth, the largest setup box vendor in China, is a potential beneficiary of this trend.
Nomura
123
29 September 2010
Strategy | China
Leping Huang, PhD
The Internet of Things: ZTE

The Internet of Things (IOT) refers to the networked interconnection of everyday objects via various types of sensors such as RFIDs and GPS. It has wide application areas such as supply chain management, public safety and healthcare. RFID and sensor network are two key enabling technologies for IOT. ZTE is one of the leading RFID vendors in China and, hence, may benefit from this trend in the long term.
Exhibit 165. Comparison between telecom and television industry

Industry Regulator Industry revenue (RMBbn) Service Service Revenue (RMBbn) Subscriber (mn) ARPU(RMB) Major Asset Access Network Backbone Network Industry consolidation Major operators Copper wire based 40Gbps National IP Backbone High (3 operators owns nearly 100% market share) China Telecom (728HK) China Unicom (762HK) Coaxial cable based Weak Low Beijing Gehua CATV Network (600037 CH) Shenzhen Topway(002238 CH) Hunan TV & Broadcast (000917 CH)
Source: Ministry of Industry and Information Technologies(MIIT), SARFT (State Administration of Radio, Film and Television), Nomura research
Telecom MIIT 870 Wireline Voice 147 306 ~40 Wireline broadband 108 113 ~80 SARFT 185 cable TV 29 174 19
Television
Exhibit 166. Network convergence and innovative services

Digital City The Internet of Things E-citizen card B2B Telecom Network Internet Digital GIS platform Cable TV Network G2C
B2C IPTV Mobile Payment
Note: G2C(Government-to-Citizen), B2C (Business-to-Consumer), B2B (Business-to-Business) Source: Nomura research
Nomura
124
29 September 2010
Strategy | China
Danny Chu, CFA
Telecoms
Action
With the governments plan to further develop the Central and Western provinces, we expect GDP per capita of these regions to improve over time. As mobile penetration tends to be in tandem with GDP per capita, we expect mobile subscriber growth to continue and operators to benefit from earnings growth.
NEUTRAL
Stock for action
We like China Telecom because: 1) strong momentum of gaining CDMA subscribers; 2) potential shorter timeframe required for EBITDA breakeven for mobile business; and 3) faster broadband net adds.
Catalysts
Better-than-expected financial results; growth of DPS on absolute terms; increase in market share; higher-than-expected subscriber growth are potential catalysts. Anchor themes We believe investment theme should shift from equipment side (as 3G network rollout completed in China) towards service operators (ARPU uplift due to 3G migration) and handset manufacturers (handsets replacement).
Stock China Telecom (728 HK)
Rating BUY
Price 4.13
Price target 4.70
Pricing as of 21 September 2010
GDP per capita goes hand in hand with mobile penetration

Economic activities will lead to higher GDP per capita
With the governments plan to develop the Western and Central provinces, we believe there will be a natural need for communications. With economic activities slated to pick up further, GDP per capita is very likely to improve as well.
Analysts
Danny Chu, CFA +852 2252 6209 danny.chu@nomura.com Leping Huang, PhD +852 2252 1598 leping.huang@nomura.com
GDP per capita tends to go hand in hand with mobile penetration

From other countries experience, GDP per capita tends to go along with mobile penetration. With increased income, the need for communication will become more obvious and indispensable, in our view. The Exhibit below shows GDP per capita and mobile penetration of the 31 provinces/municipalities within China.
Western provinces present an attractive market

Based on data released by the Ministry of Industry and Information Technology (MIIT), mobile penetration of the Western provinces is on average 10-20% below that of the coastal provinces. Along with the rural areas, we expect the Western provinces to present an attractive market for the mainland mobile operators.
Migrant workers working in western provinces

Migrant workers in China tend to concentrate in the coastal provinces. These migrant workers use mobile phones to keep in touch with families and hence domestic long distance (DLD) calls are profitable for mobile operators. Currently, the trend of migrant workers from coastal provinces to the Western provinces is not significant. As more and more economic activities take place in the Western provinces, we expect the DLD traffic volume to pick up correspondingly.
Nomura
125
29 September 2010
Strategy | China
Danny Chu, CFA
With the governments focus to further develop the Central and Western provinces (eg, Chongqing), we expect GDP per capita of these provinces to increase in many years. Given the close correlation between mobile penetration and GDP per capita, we expect Chinese mobile operators to benefit from the governments initiative to develop those provinces.
Exhibit 167. Scatter plot of provincial wireless penetration vs. GDP per capita
120
Wireless penetration (%)
100 80 60 40 20 0 0 10,000 20,000 30,000 40,000 50,000 60,000 70,000 80,000

GDP per capita (RMB)
Exhibit 168. Mobile subscribers and penetration within China

Mobile subs (mn) Province EASTERN Beijing Fujian Guangdong Hainan Hebei Jiangsu Liaoning Shandong Shanghai Tianjin Zhejiang CENTRAL Anhui Heilongjiang Henan Hubei Hunan 14.1 14.5 29.1 19.4 18.0 17.2 16.5 35.0 25.3 22.4 21.5 18.7 39.9 31.4 27.5 23.1 37.9 31.0 34.1 28.4 28.0 43.1 37.4 44.4 35.3 35.1 48.9 42.3 54.9 43.2 NATIONWIDE 547.3 641.2 747.2 41.6 48.5 56.3 16.0 18.1 78.4 3.2 28.1 33.1 19.6 37.4 17.8 7.4 35.3 16.2 23.7 84.0 4.0 32.1 39.6 24.2 46.3 18.8 8.7 39.8 18.3 26.4 89.4 5.0 37.9 49.4 28.8 53.4 21.1 9.9 44.6 101.1 50.8 84.3 38.7 40.8 43.9 45.9 40.2 97.9 68.7 70.8 99.0 66.1 88.9 46.9 46.3 51.9 56.3 49.4 101.2 77.6 78.6 107.7 73.2 93.6 58.1 54.2 64.4 66.8 56.7 111.9 84.4 87.1 2007 2008 2009 Penetration (%) 2007 2008 2009 Province Jiangxi Jilin Shanxi WESTERN Chongqing Gansu Guangxi Guizhou Inner Mongolia Ningxia Qinghai Shaanxi Sichuan Xinjiang Xizang Yunnan 11.8 6.9 13.8 8.3 10.5 2.7 2.2 16.1 24.0 8.1 0.7 13.5 12.8 9.0 16.2 11.8 13.4 3.2 2.5 19.1 28.5 10.5 0.9 16.4 14.4 11.9 19.6 14.5 16.2 3.8 3.0 23.4 34.7 11.1 1.2 19.4 41.9 26.3 29.3 22.2 43.7 44.7 40.5 43.2 29.4 39.4 26.2 30.0 45.5 34.2 34.1 17.4 55.9 53.0 44.8 51.0 35.1 50.2 30.6 36.2 50.8 45.5 40.7 38.3 66.9 61.9 54.3 62.1 42.6 52.2 43.2 42.6 Mobile subs (mn) 2007 11.8 13.1 14.2 2008 12.8 13.6 17.0 2009 15.5 15.7 19.5 Penetration (%) 2007 27.3 48.1 42.1 2008 29.2 49.9 50.1 2009 35.2 57.6 57.3
Source: The Ministry of Industry and Information Technology (MIIT)
Nomura
126
29 September 2010
Strategy | China
Jim Wong
Transport
Action
We remain bullish on various Chinese transport segments. We see continued strong China domestic demand incrementally driving growth for Chinese transport players versus regional peers. Our top picks are Jiangsu Exp for Expressways, Cosco Pacific for Ports and CSD for Shipping. As for airlines, we continue to like CEA for its increased dominance in the major hub of Shanghai.
BULLISH
Stocks for action
Our top picks are Jiangsu Exp for Expressways, Cosco Pacific for Ports and CSD for Shipping.
Catalysts
Sustained strong volumes and/or yield numbers in Oct 2010. Oct is a crucial month as it should provide an indicator of whether full-year 2010 will surprise up or down. Anchor themes Strong Chinese domestic demand has helped Chinese transport stocks weather the global economic downturn better than most regional peers. We see this trend continuing for the foreseeable future.
Stock Jiangsu Expressway Cosco Pacific China Shipping Development Rating BUY BUY BUY Price 8.04 11.88 11.32 Price target 11.95 13.20 15.60
Pricing as of 21Sep 2010, in HKD
Domestic demand drives added growth

China airlines continued growth into 2011
We remain bullish on airlines growth prospects in 2011 on the back of tight supply and strong demand amidst the bottleneck in airspace, limited time slots at airports, as well as the continued delay in the delivery of aircraft (ie, B787 aircraft); traffic will be driven by China domestic departures to overseas (which is in-line with our macro view that 12-5 policies are likely to increase disposable incomes of rural and urban low-income households, going forward). We are expecting net profit of Chinese airlines to continue to clock a year on year increase in 2011 before coming down in 2012. Given the strong competition posed by railways (and all set to intensify in 2012 onwards) as well as likely higher oil prices (coupled with reduced oil hedging exposure) net profit could be lower in 2012. China Eastern Airlines (670 HK; BUY) remains our top pick in the sector given 1) the likely introduction of strategic partners, 2) it being the largest beneficiary of renminbi appreciation (in terms of book value enhancement) as well as continued synergy contribution from consolidation with Shanghai Airlines. However given recent strong share price performance, valuation is an issue and investors may want to wait out the 3Q10 results (when more concrete indication of forward prospects may be received) before chasing up the sector further.
Analysts
Jim Wong (Regional Transport & Infrastructure) +852 2252 2195 jim.wong@nomura.com Andrew Lee (Shipping) +852 2252 6197 andrew.lee@nomura.com Shirley Lam (Airlines) +852 2252 2196 shirley.lam@nomura.com Cecilia Chan (Shipping) +852 2252 6181 cecilia.chan@nomura.com
Expressways steady growth on domestic demand

While the China expressway sector had previously been largely ignored by the market in favour of more exciting sectors, sector revenues and projected profits have been quietly but steadily recovering to above pre-crisis levels. Increased uncertainties in the market may renew investor interest in this more defensive sector. Expressways remain high-quality investments, providing sustainable earnings and dividend growth. Historical and updated company data confirm that growth in expressway traffic volumes is largely independent of growth in other modes of transport. Although Sichuan Expressway (107 HK; Neutral) and Anhui Expressway (995 HK; Buy) are likely to be the largest beneficiaries from manufacturing transferring inland, we prefer Jiangsu Expressway (177 HK; BUY) for its larger market capitalisation and sustainability of forward EPS and DPS growth, while we see Shenzhen Expressway (548 HK) as a recovery play.
Nomura
127
29 September 2010
Strategy | China
Jim Wong
China Ports domestic volumes add to incremental recovery

While the China port sector has seen container throughput volumes decline in 2009 as a result of the global economic downturn, continued growth in China domestic volumes has ensured that the volume deterioration has been less severe compared to most other ports around the Asia Pacific region. With China container port volume growth having averaged 20% for the first eight months of 2010, it is likely that the initial target of 10% to 15% volume growth for the full year of 2010 set at the beginning of the year will be exceeded. As for container box manufacturing and box leasing, side businesses for the larger China port operators, the continued shortage in box supply is expected to help sustain box leasing rates and sale prices at the current high levels for at least another year, which should further boost earnings for the China port operators in 2010. COSCO Pacific (1199 HK; BUY) and China Merchants Holdings International (144 HK; BUY) have the most exposure to Chinas container port and related segment. While manufacturing will transfer inland, we dont expect this to have a negative impact to ports as cargoes will still need to eventually make its way to the hub ports for international shipping.
China Shipping demand/supply picture better for bulk

On shipping sector, we are more positive on drybulk shipping than container shipping. We remain positive on global steel demand and expect supply growth to be lower than expected due to newbuilding delays and cancellations. Although we expect average BDI to remain the same for 2010 and 2011, earnings are likely to improve as expensive chartered vessels expire. We are less optimistic on the container shipping sector as we expect average freight rates have peaked and supply is becoming a concern. China Shipping Development (1138 HK; BUY) has the largest exposure to the Chinese dry bulk market.
Exhibit 169. China Eastern Airlines (670 HK): Traffic trend a) RPK trend
RPK (LHS) Growth rate (RHS)
b) Passenger load factor trend

(%) 110 90 70 50 30 10 (10) (30) 90 80 70 60 50 40 30 20 10 0 May-01 Sep-02 Jan-00
Pax load factor (LHS) Growth rate (RHS)
(ppt) 30 20 10 0 (10) (20)
May-05
Jan-00
Jan-02
Jan-04
Jan-06
Jan-08
Source: Company data
Jan-10
Nomura
128
29 September 2010
May-09
Sep-06
Jan-04
Jan-08
10,000 9,000 8,000 7,000 6,000 5,000 4,000 3,000 2,000 1,000 0
Strategy | China
Jim Wong
Exhibit 170. Jiangsu Expressway (177 HK): toll revenue trend on the Shanghai-Nanjing Expressway a) Long-term trend
(RMBmn/day) 14 12 10 8 6 4 2 0 Jan-00 Jan-02 Jan-04 Jan-06 Jan-08 Jan-10 Daily toll revenue (LHS) Growth rate (RHS) (%) 270 220 170 120 70 20 (30) (80) (130) 6 4 2 0 Jan-09 Feb-09 Mar-09 Apr-09 May-09 Jun-09 Jul-09 Aug-09 Sep-09 Oct-09 Nov-09 Dec-09 Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Aug-10
b) Short-term trend
(RMBmn/day) 14 12 10 8 10 0 (10) (20) Daily toll revenue (LHS) Growth rate (RHS) (%) 40 30 20
Exhibit 171. Chinas top eight container ports: aggregate throughput trend a) Long-term trend
(mn TEUs) 12 10 8 6 4 2 0 May-01 May-03 May-05 May-07 May-09 Sep-00 Jan-00 Sep-02 Jan-02 Sep-04 Jan-04 Sep-06 Jan-06 Jan-08 Sep-08 Jan-10 Throughput (LHS) Growth rate (RHS) (%) 60 50 40 30 20 10 0 (10) (20) 6 5 Jan-09 Feb-09 Mar-09 Apr-09 May-09 Jun-09 Jul-09 Aug-09 Sep-09 Oct-09 Nov-09 Dec-09 Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Aug-10
Source: MOC, SNET
b) Short-term trend
(mn TEUs) 11 10 9 8 7 Throughput (LHS) Growth rate (RHS) (%) 30 25 20 15 10 5 0 (5) (10) (15) (20)
Source: MOC, SNET
Exhibit 172. Baltic Dry Index (BDI) and China Container Freight Index (CCFI) a) BDI
(Baltic dry index) 12,500 10,500 8,500 6,500 4,500 2,500 500 May-01 May-05 May-09 Sep-06 Sep-02 Sep-10 Jan-00 Jan-04 Jan-08
b) CCFI
US$/TEU 1,250 1,200 1,150 1,100 1,050 1,000 950 900 850 800 750 700 Jan-00 Jan-01
CCFI (LHS) Growth rate (RHS)
(%) 60 50 40 30 20 10 0 (10) (20) (30) (40) Jan-10
Feb-02
Feb-03
Feb-04
Feb-05
Feb-06
Feb-07
Feb-08
Source: Bloomberg
Source: China Shipping
Nomura
129
29 September 2010
Jan-09
Strategy | China
Ivan Lee, CFA
Power, Utilities and Coal

Action
Water, Environmental, New energy and Gas Distribution sectors should continue to shine in the 12th FYP given Beijing policies to promote a low carbon economy and improve living standards. Yet the coal sector may be affected due to aims to reduce coal-dependence. Potential power pooling may trigger a rerating for IPPs.
Power: NEUTRAL Water and Environmental: BULLISH
Gas: BULLISH Coal: BULLISH
Stocks for action

Water, environmental, new energy and gas distribution will be major beneficiaries of the 12-5 years plan.
Stock Rating BUY REDUCE BUY BUY BUY BUY BUY BUY BUY BUY BUY BUY BUY Price Price ($) target ($) 17.40 7.96 7.97 11.67 4.86 17.08 10.86 54.45 30.75 3.62 2.82 2.63 3.93 22 7.6 8 23 5.3 18.9 14.4 60.9 44.6 5.5 3.8 3.8 5.2
Catalysts
Other than policies to reduce energy consumption, we believe new energy will be highlighted in the plan and emphasis will be on, in sequence, nuclear, natural gas, small hydro, wind, solar and biomass energy. Anchor themes To realise a low carbon economy, China has two major targets increase the use of non-fossil energy to 15% of primary energy consumption in 2020 (from ~9% currently), and to reduce carbon intensity by 40-45% in 2020, from 2005 levels.
CHST China Longyuan JA Solar Yingli Green Energy Huaneng CR Power CR Gas Beijing Enterprise Shenhua China Everbright China Water Affair Beijing Enterprise Water Guangdong Investment
Note: 21 September prices
Reducing energy intensity, doubling NG usage and water conservation

China power: carbon reduction of 40-45% and increase of nonfossil fuel to 15% by 2020
In order to realise a low carbon economy, China has two major targets for energy and the environment. They are to increase the use of non-fossil energy to 15% of primary energy consumption in 2020, and to reduce carbon intensity by 40-45% in 2020, from 2005 levels. So far, energy intensity has fallen by 15.6%, and since June 2010, Beijing has introduced surcharge tariff and power rationing to 19 high energy intensive and restricted industries so as to curb energy usage. In the 12th FYP (2011-2015), we expect a significant part of energy policy will be on how to achieve the two targets. Other than policies to reduce energy consumption, we believe new energy will be highlighted and emphasis will be on, in sequence, nuclear, natural gas, small hydro, wind, solar and biomass energy. The Energy Research Institute (ERI) of NDRC forecasts non-fossil fuel to represent 11-13% of primary energy consumption in 2015 (from currently ~9%), with the biggest increase from gas fired electricity, which is expected to represent 8.3% of total power output in 2015 (from 3.9%). Also, ERI expects the 2020 target for nuclear is likely to increase to 70-80GW, from 40GW. Other issues expected to be discussed in the plan should include tariff reform (power pooling), smart-grids and imbalanced power supply between regions. We remain fundamentally Neutral on China power sector due to a lack of a proper fuel cost pass through policy. However, the likely power pooling to be introduced in next five years may be a reason for a re-rating. Despite timing being unknown, we see a short-term trading opportunity for Chinese IPPs, as earnings recover sharply in 2H10F, because of a spot coal price correction, a potential 3-5% tariff hike in September/October, a pick-up in utilisation and a delay in interest rate hikes. Attractive valuation (0.8-1.8x book (FY10F); 10-40% below replacement cost) is also a plus. Among all IPPs, we continue to prefer China Resources Power (836 HK, BUY) given its cost advantage, followed by Huaneng (902 HK, BUY). We are NEUTRAL on Huadian, Datang and China Power.
Analysts
Ivan Lee, CFA +852 2252 6213 ivan.lee@nomura.com Elaine Wu +852 2252 2194 elaine.wu@nomura.com
Nomura
130
29 September 2010
Strategy | China
Ivan Lee, CFA
China Coal: consumption share to decrease, industry consolidation

to continue and clean coal technology
On the back of governments target to reduce energy intensity by 40-50%, Beijing is looking to reduce coal, being 70% of total primary energy consumption in 2009, to 63% at the end of 2015. Also, industry consolidation will continue in the next five years, with small coal mines to represent less than 20% of output in 2015, from ~27% currently. Meanwhile, clean coal technology, coal chemical and coal-to-gas should be highlighted in the plan. Although we are long-term positive on Chinas coal industry, given strong pricing power and sustainable demand growth, the near-term outlook is dimming given NDRC's policy interventions contract coal price cap, power rationing and tariff surcharges. As a result, we expect spot coal price to finish at RMB667/t for 2H10 (RMB720/t on 3 September), off 9.5% h-h. This should lower the spot-to-contract price gap to 8.6% (from 25.4% currently) at year-end and allow contract price to stay unchanged in 2011F. Therefore, we expect volatility for Shenhua shares, although we flag potential positive newsflow from the annual coal negotiations (volume and pricing) and further asset injections in FY11.
China Gas: consumption share of energy to double, increasing

import of NG and exploration of CBM, shale gas and city garbage methane
According to Energy Bureau, in order to develop a clean and sustainable energy source in China, the share of natural gas to total energy consumption will double to 8% in 2015 from the current 4% (global average of 24%). Plans to boost the current share include: 1) increasing efforts on the exploration of non-standard natural gas like coalbed-methane (CBM), shale gas and city garbage methane, 2) strengthening natural gas storage system; 3) increasing import of natural gas and LNG, 4) continue to use pricing mechanism to encourage usage of gas over fossil-fuel. Also, the Energy bureau reiterate that domestic price of natural gas should increase and converge with the international. Additionally, it indicated that gas fired power plants will have a bigger share of total power output in the next five years, particularly for peak-load power generation. We remain bullish on the gas distribution sector in China for 2011F on the back of: 1) easing supply shortage, which should lift volume growth; 2) increasing property supplies, which should lead to brisk connections; and 3) M&A activity potentially driving growth. Also, the prevailing gas penetration rate at 30%, vs a mature city of 80-90%, should continue to provide growth momentum for the sector in the longer term. The FY11F sector average P/E of 18x, set against an 2009-11F EPS CAGR of 35%, is attractive. Our top picks are Beijing Enterprise (defensive) and CR Gas (the industry leader, upsides from asset injection). We have a NEUTRAL rating on ENN Energy on discounted valuation, the most sensitive to rising supplies and connections). We are NEUTRAL on China Gas on uncertainty over LPG margins, the adverse effects of rising interest rates and share option dilution risk. We reiterate REDUCE on TCCL given potential un-favorable asset injection.
China Water: water conservation to remain the focus; investment in

waste water treatment to double
In tandem with the ongoing pollution reduction and resources conservation initiatives, we believe a key focus for the 12th Five Year Plan will be put on water conservation, with focus on heavy water-using industries thermal power generation, petrochemical, steel production, garment, paper making, chemical and food. This should bode well for tariff hikes and privatisation, in our view. Moreover, according to the Ministry of Water Resources and Ministry of Construction, there is a target is to recycle 10% of wastewater emission in urban area by 2015, representing a CAGR of 24% from 2009.
Nomura
131
29 September 2010
Strategy | China
Ivan Lee, CFA
Also, investment in waste water treatment is forecast to double to RMB700bn during 2011-15F (from RMB330bn); out of which RMB150bn is projected for sludge treatment. We believe water tariffs will continue on an uptrend during 2011-15F to promote water conservation and efficiency. As of 1H10, water tariffs at 36 major cities grew by 8% from RMB1.7/m3 in 1H09 to RMB1.84/m3 in 1H10, according to H2O China, accelerating from a 3% increase during 1H08 to 1H09. We continue to favour wastewater treatment over tap water supply due to expected near-term capacity growth as China catches up with international peers on treatment penetration and environmental standards. Our top picks are China Everbright International (quality play in WTE) and Guangdong Investment (monopoly in HK, attractive valuation). Beijing Enterprises Water remains an attractive waste water treatment play with projected daily capacity of 6.0mn m3 by end-FY10F. We also like China Water Affairs (good tap water play) and Sound Global (EPC player turned integrated BOT operator). We remain NEUTRAL on Hyflux and have a REDUCE rating on Tianjin Capital Environmental Protection (proposed tariff cut).
Nomura
132
29 September 2010
Strategy | China
Ivan Lee, CFA
Sector valuation I
Exhibit 173. Asia ex-Japan utilities stocks valuation summary
Reporting Company Hongkong Electric CLP Holdings Hong Kong & China Gas CKI HK utilities average Type Integrated Integrated Gas Integrated Ticker 6 HK 2 HK 3 HK 1038 HK currency HKD HKD HKD HKD Share o/s (mn) 2134 2406 7,182 2,254 Free float 61.1 78.4 98.2 15.2 Rating Buy Neutral Reduce Buy Price target Local ($) 55.10 56.50 16.50 36.60 Price Local ($) 47.40 60.75 19.40 31.35 Market cap (US$mn) 13,034 18,833 17,953 9,105 14,731 09 3.14 3.41 0.79 2.47 2.45 EPS (local $) 10F 3.35 3.70 0.67 2.08 2.45 11F 3.75 3.85 0.74 2.63 2.74 09 2.11 2.48 0.35 1.20 1.53 DPS (local $) 10F 2.11 2.22 0.40 1.25 1.50 11F 2.22 2.31 0.45 1.58 1.64 Net profit (local $ m) 09 6,697 8,196 5,175 5,568 6,409 10F 7,154 8,911 4,839 4,699 6,401 11F 7,996 9,259 5,295 5,927 7,119
Datang Intl Huaneng Power Intl Huadian Power Intl China Power Intl China Resources Power China power average
IPP IPP IPP IPP IPP
991 HK 902 HK 1071 HK 2380 HK 836 HK
CNY CNY CNY CNY HKD
12,480 12,055 6,771 5,084 4,683
33.0 44.2 36.1 44.2 33.6
Neutral Buy Neutral Neutral Buy
3.10 5.30 1.80 1.70 18.90
3.32 4.86 2.03 1.77 17.08
12,273 11,719 3,999 1,348 10,359 7,940
0.14 0.41 0.19 0.14 1.20 0.41
0.13 0.25 0.11 0.09 0.98 0.31
0.16 0.31 0.10 0.13 1.17 0.37
0.06 0.23 0.06 0.03 0.27 0.13
0.05 0.14 0.03 0.03 0.23 0.09
0.07 0.17 0.03 0.04 0.27 0.12
1,612 4,930 1,157 519 5,317 2,707
1,560 2,975 683 466 4,604 2,058
2,045 3,746 709 643 5,466 2,522
China Shenhua Energy
Coal
1088 HK
CNY
19,890
26.1
Buy
44.60
30.75
79,783
1.59
1.89
2.12
0.53
0.69
0.77
31,706
37,494
42,090
Suntech Canadian Solar Trina Solar Yingli Green LDK Solar JA Solar Solargiga GCL Poly China solar average
Solar Solar Solar Solar Solar Solar Solar Solar
STP US CSIQ US TSL US YGE US LDK US JASO US 757 HK 3800 HK
USD USD USD USD USD USD CNY HKD
179 41 70 148 131 164 1,691 15,472
70.5 69.5 70.0 63.2 29.0 63.2 0.0 47.5
Buy Neutral Buy Buy Neutral Buy Reduce Neutral
12.20 12.20 27.50 23.00 8.00 8.00 1.10 1.30
9.02 13.14 25.86 11.67 8.25 7.97 1.73 2.26
1,625 561 2,042 1,732 1,084 1,339 466 4,505 1,669
0.49 0.51 2.28 (2.32) (1.71) (0.12) 0.12 (0.02) (0.10)
0.81 1.59 2.76 6.94 0.63 0.86 0.15 0.14 1.73
0.96 1.67 3.06 7.70 0.69 1.04 0.17 0.14 1.93
88 21 124 (266) (222) (13) 195 (176) (31)
145 66 193 1,029 82 141 260 2,149 508
173 69 214 1,143 91 170 293 2,102 532
China Everbright Intl Guangdong Investment China Water Affairs Beijing Enterprises Water Hyflux Limited Sound Global Ltd Tianjin Capital China water average
Water Water Water Water Water Water Water
257 HK 270 HK 855 HK 371 HK HYF SP SGL SP 1065 HK
HKD HKD HKD HKD SGD CNY CNY
3,639 6,232 1,328 3,686 528 1,290 1,427
51.6 38.9 82.5 38.4 68.5 44.7 90.0
Buy Buy Buy Buy Neutral Buy Reduce
5.50 5.20 3.80 3.80 3.70 1.10 1.55
3.62 3.93 2.82 2.63 3.08 0.77 2.62
1,699 3,146 492 1,540 1,324 148 1,354 1,221
0.11 0.32 0.02 0.07 0.14 0.20 0.17 0.15
0.16 0.38 0.11 0.15 0.15 0.29 0.14 0.20
0.20 0.43 0.15 0.18 0.22 0.38 0.09 0.23
0.02 0.11 0.03 0.03 0.08 0.04
0.03 0.13 0.05 0.03 0.07 0.04
0.04 0.14 0.05 0.05 0.04 0.05
367 2,008 25 207 75 261 243 455
593 2,349 141 530 81 373 199 609
732 2,666 198 670 114 487 121 713
ENN Energy Towngas China China Resources Gas China Gas Beijing Enterprises China gas average
Gas Gas Gas Gas Gas
2688 HK 1083 HK 1193 HK 384 HK 392 HK
CNY HKD HKD HKD HKD
1,050 1,956 1,414 3,713 1,137
63.6 24.3 25.0 56.6 40.6
Neutral Reduce Buy Neutral Buy
21.30 2.20 14.40 4.30 60.90
22.85 3.67 10.86 4.17 54.45
3,578 1,158 2,301 1,953 7,979 3,394
0.88 0.12 0.31 0.07 2.19 0.71
1.10 0.16 0.47 0.14 2.66 0.90
1.29 0.18 0.60 0.22 3.05 1.07
0.19 0.01 0.06 0.01 0.75 0.21
0.28 0.02 0.09 0.02 0.90 0.26
0.39 0.03 0.12 0.04 1.05 0.33
904 242 444 234 2,488 862
1,158 312 659 476 3,022 1,125
1,351 368 845 822 3,466 1,370
China High Speed China Longyuan China Yangtze Power
Wind Wind Hydro
658 HK 916 HK 600900 CH
CNY CNY CNY
1,375 7,464 11,000
78.0 71.6 32.3
Buy Reduce Buy
22.00 7.60 11.00
17.40 7.96 7.65
3,230 8,859 18,821
0.78 0.15 0.58
1.02 0.25 0.72
1.33 0.35 0.73
0.26 0.30
0.31 0.42
0.40 0.42
966 894 5,690
1,402 1,882 7,933
1,829 2,595 7,978
Shanghai Electric Dongfang Electric Harbin Power China equipment average
Equipment Equipment Equipment
2727 HK 1072 HK 1133 HK
CNY CNY CNY
12,500 900 1376.806
95.0 90.2 99.8
Neutral Reduce Reduce
3.50 34.50 5.80
3.89 34.50 9.16
15,187 9,943 1,880 9,004
0.20 1.91 0.44 0.85
0.21 1.94 0.50 0.89
0.20 2.68 0.48 1.12
0.06 0.02 0.07 0.05
0.05 0.58 0.13 0.25
0.05 0.80 0.12 0.32
2,453 1,712 606 1,591
2,614 1,750 692 1,685
2,536 2,410 666 1,871
Korea Electric Power Korea Gas Korea utilities average
Integrated Gas
015760 KS 036460 KS
KRW KRW
642 72.60854701
46.0 32.0
Buy Buy
43,000.00 52,000.00
29,800 46,050.00
16,463 3,065 9,764
(167) 3,278 1,555
2,658 2,810 2,734
3,687 3,870 3,779
0 983.36 491.68
813 843.02 827.86
1,120 1,161.02 1,140.52
(107) 238.00 65
1,706 204.03 955
2,365 281.00 1,323
E-Ton Solar Tech Motech Industries Taiwan solar average
Solar Solar
3452 TT 6244 TT
TWD TWD
205 376
73.3 60.9
Reduce Reduce
40.00 97.00
43.3 125.0
341 1,503 922
(11.43) 0.11 (5.66)
(4.08) 7.17 1.55
1.83 7.63 4.73
2.00 1.00
2.00 1.00
2.00 1.00
(2,340) 33 (1,153)
(835) 2,700 932
374 2,874 1,624
Indonesia Perusahaan Gas Negara Gas PGAS IJ IDR 24,242 43.0 Buy 4,300.00 3950.00 10,688 222.79 211.06 236.62 163.61 115.00 127.37 5,227 5,087 5,736
Glow Electricity Generating Ratchaburi Generating Thai power average
IPP IPP IPP
GLOW TB EGCO TB RATCH TB
THB THB THB
1,439 526 1450
25.0 39.8 34.5
Buy Buy Neutral
52.00 90.00 40.00
43.25 91.8 37.5
2,058 1,571 1,769 1,799
2.53 14.26 4.64 7.14
3.28 13.27 3.97 6.84
3.81 12.39 3.89 6.70
1.82 5.00 2.25 3.02
1.91 5.05 2.28 3.08
2.01 5.10 2.32 3.14
3,699 7,506 6,732 5,979
4,726 6,989 5,759 5,824
5,480 6,522 5,644 5,882
Malaysia Tenaga Nasional YTLP Tanjong Plc Malaysia utilities average Integrated Integrated Integrated TNB MK YTLP MK TJN MK MYR MYR MYR 4,337 6,753 403 40.1 26.0 57.3 Buy Neutral Rating Suspended 9.40 2.30 NA 9.06 2.34 21.8 12,754 5,487 2,843 7,028 0.50 0.11 NA 0.31 0.62 0.18 NA 0.40 0.65 0.19 NA 0.42 0.13 0.13 NA 0.13 0.23 0.11 NA 0.17 0.22 0.12 NA 0.17 2,157 647 NA 1,402 2,707 1,126 NA 1,917 2,801 1,264 NA 2,033
Philippines Energy Development Corp Meralco Philippines utilities average Power Power EDC PM MER PM PHP PHP 18,750 1128 58.2 69.1 Buy Reduce 6.40 134.10 6.2 215.00 2,630 5,520 4,075 0.39 2.05 1.22 0.45 13.33 6.89 0.47 16.58 8.52 0.10 2.50 1.30 0.11 4.00 2.05 0.14 5.80 2.97 7,381 2,272 4,826 8,347 15,028 11,688 8,732 18,694 13,713
Suzlon
WTG
SUEL IN
INR
1557
35.9
Neutral
88.80
55.25
2,111
7.67
1.33
5.70
11,328
2,025
8,868
Note: Ratings and Price Targets are as of the date of the most recently published report (http://www.Nomura.com) rather than the date of this document. Priced on 28-Sep-10, as of last market close. *Annualised. Source: Bloomberg, Nomura International (Hong Kong) Ltd estimates
Nomura
133
29 September 2010
Strategy | China
Ivan Lee, CFA
Sector valuation II
EPS growth (%) Company Hongkong Electric CLP Holdings Hong Kong & China Gas CKI HK utilities average 09 (16.6) (21.3) 21.9 25.9 2.5 10F 6.8 8.7 (14.4) (15.6) (3.6) 11F 11.8 3.9 9.4 26.2 12.8 (0.1) (0.0) 5.8 1.4 09 DPS growth (%) 10F 0.00 (10.40) 14.28 4.14 2.01 11F 5.00 3.90 12.50 26.15 11.89 Net earnings growth (%) 09 (16.59) (21.37) 20.28 25.89 2.05 10F 6.83 8.72 (6.50) (15.62) (1.64) 11F 11.77 3.90 9.43 26.15 12.81 Net Gearing (%) 09 13.72 44.43 22.07 net cash 26.74 10F 34.49 50.22 22.45 30.92 34.52 11F 34.49 50.22 22.45 30.92 34.52 EV/MW (local $) 09 NA NA NA NA NA 10F NA NA NA NA NA 11F NA NA NA NA NA 09 15.11 17.83 24.66 12.69 17.57 P/E (x) 10F 14.14 16.40 28.80 15.04 18.60 11F 12.65 15.79 26.32 11.92 16.67 Yield (%) 09 4.45 4.08 1.80 3.83 3.54 10F 4.45 3.65 2.06 3.99 3.54 11F 4.67 3.80 2.32 5.03 3.96
111.2 NA NA NA 189.5 150.3
(3.7) (39.7) (44.5) (34.1) (17.8) (27.9)
24.3 25.9 (1.8) 37.9 18.7 21.0
111.8 127.3 NA NA 9.5 82.9
(8.65) (39.66) (47.55) (10.13) (17.77) (24.75)
31.07 25.94 3.91 37.93 18.71 23.51
111.77 NA NA NA 209.61 160.69
(3.22) (39.66) (41.02) (10.13) (13.41) (21.49)
31.07 25.94 3.91 37.93 18.71 23.51
515.63 295.43 415.41 271.97 134.43 326.58
583.45 289.87 474.64 166.28 124.62 327.77
583.45 289.87 474.64 166.28 124.62 327.77
6.44 3.77 2.64 2.20 6.52 4.31
5.82 3.48 1.95 1.81 5.94 3.80
5.63 3.25 1.61 1.71 5.38 3.52
21.64 10.60 9.42 15.47 15.04 14.43
23.69 17.57 17.96 17.21 17.37 18.76
18.07 13.95 17.29 12.48 14.64 15.28
1.91 5.24 3.31 1.94 1.61 2.80
1.75 3.16 1.74 1.74 1.32 1.94
2.29 3.99 1.80 2.40 1.57 2.41
19.0
18.3
12.3
15.2
29.37
12.31
19.01
18.26
12.26
6.00
3.04
3.04
NA
NA
NA
16.89
13.83
11.55
1.97
2.63
3.15
(62.4) (26.2) 41.5 (144.3) (354.9) (129.3) (30.8) (103.9) (101.3)
65.5 210.5 21.1 NA NA NA 33.6 NA 82.7
18.9 4.8 11.2 11.0 10.6 21.4 12.6 (2.2) 11.0
NA NA NA NA NA NA NA NA NA
(56.26) (3.29) 54.11 (139.84) (415.60) (119.12) (28.15) (109.15) (102.16)
65.48 210.55 55.38 NA NA NA 33.59 NA 91.25
18.89 4.79 11.21 11.03 10.63 20.25 12.62 (2.19) 10.90
38.93 26.13 15.80 50.81 157.13 net cash net cash 28.08 52.81
68.95 65.82 net cash 41.03 155.88 16.02 net cash 14.72 60.40
68.95 65.82 net cash 41.03 155.88 16.02 net cash 14.72 60.40
18.75 26.32 13.06 NA NA NA 12.51 NA 17.66
11.33 8.47 10.54 11.41 13.17 9.27 9.36 13.72 10.91
9.53 8.09 9.48 10.04 11.90 7.63 8.31 13.71 9.84
0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 -
0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 -
0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 -
18.5 (0.1) (42.7) 38.0 26.8 8.7 5.2 7.8
50.6 16.3 441.8 125.0 8.2 42.5 (18.1) 95.2
23.5 13.1 33.9 20.5 40.1 30.6 (39.0) 17.5
29.2 10.0 NA NA 80.8 (100.0) 100.0 24.0
59.47 14.56 67.04 NA (0.51) NA (18.09) 24.49
23.50 13.09 5.00 NA 59.16 NA (38.97) 12.36
28.05 0.81 (43.22) 436.38 27.10 12.86 5.16 66.73
61.58 16.98 461.26 155.73 8.61 42.53 (18.09) 104.08
23.50 13.49 40.33 26.37 40.06 30.59 (38.97) 19.34
23.55 23.31 53.41 88.34 63.95 net cash 78.07 55.11
41.00 19.20 71.55 134.79 174.01 net cash 40.70 80.21
41.00 19.20 71.55 134.79 174.01 net cash 40.70 80.21
NA NA NA NA NA NA NA NA
33.98 12.34 135.45 47.36 21.98 17.90 13.85 40.41
22.38 10.55 26.55 21.30 20.59 12.56 16.91 18.69
17.99 9.30 20.21 17.62 14.70 9.62 27.71 16.73
0.57 2.80 1.06 0.00 1.11 0.00 3.39 1.28
0.91 3.21 1.78 0.00 1.10 0.00 2.78 1.40
1.12 3.63 1.87 0.00 1.75 0.00 1.70 1.44
40.4 17.4 (49.6) 34.4 27.0 13.9
25.6 29.3 48.5 102.8 21.5 45.6
16.6 17.7 28.2 55.6 14.7 26.6
22.1 23.5 50.0 20.8 15.4 26.3
44.66 29.31 55.26 51.82 20.00 40.21
39.94 76.59 28.23 106.10 16.67 53.51
43.34 19.43 49.37 39.57 26.87 35.71
28.11 29.31 48.53 103.63 21.48 46.21
16.62 17.73 28.23 72.68 14.69 29.99
61.83 26.29 218.80 256.39 7.23 114.11
56.62 28.97 126.33 244.09 11.04 93.41
56.62 28.97 126.33 244.09 11.04 93.41
NA NA NA NA NA NA
NA NA NA NA NA NA
NA NA NA NA NA NA
23.08 29.73 34.63 63.12 24.89 35.09
17.44 22.98 23.32 34.25 20.49 23.70
14.61 19.52 18.19 19.84 17.87 18.01
0.96 0.34 0.55 0.34 1.38 0.71
1.43 0.44 0.86 0.51 1.65 0.98
2.05 0.77 1.10 1.05 1.93 1.38
39.6 119.1 38.9
31.3 70.5 24.3
30.5 37.9 0.6
20.0 NA 40.2
15.83 NA 39.43
30.47 NA 0.57
39.57 165.00 44.76
45.04 110.48 39.43
30.47 37.89 0.57
78.40 76.73 148.40
0.81 140.02 127.30
0.81 140.02 127.30
NA NA NA
NA NA NA
NA NA NA
19.62 46.85 14.79
15.25 27.10 10.61
11.42 19.07 10.55
1.74 0.00 3.96
2.09 0.00 5.51
2.79 0.00 5.55
(8.7) 244.1 (41.8) 64.5
6.6 1.8 14.2 7.5
(3.0) 37.7 (3.8) 10.3
(8.0) (91.7) (9.4) (36.4)
(11.09) 2863.62 84.91 979.15
(2.99) 37.68 (3.76) 10.31
(4.40) 275.11 (41.82) 76.30
6.54 2.22 14.20 7.65
(2.99) 37.68 (3.76) 10.31
net cash net cash net cash net cash
NA NA NA NA
NA NA NA NA
NA NA NA NA
17.29 15.74 18.14 17.06
16.22 15.47 15.88 15.86
16.72 11.23 16.50 14.82
1.73 0.07 0.85 0.88
1.54 1.94 1.57 1.69
1.50 2.67 1.52 1.89
NA (28.1) (28.1)
NA (14.3) (14.3)
38.7 37.7 38.2
NA (16.0) (16.0)
NA (14.27) (14.27)
37.81 37.72 37.77
NA (28.06) (28.06)
NA (14.27) (14.27)
38.70 37.72 38.21
78.88 403.35 241.12
71.77 510.39 291.08
71.77 510.39 291.08
NA NA NA
NA NA NA
NA NA NA
NA 14.05 14.05
11.48 16.39 13.94
8.28 11.90 10
0.00 2.14 1
2.73 1.83 2
3.76 2.52 3.14
(196.6) (98.8) (147.7)
NA 6,407.7 6,407.7
NA 6.4 6.4
(100.0) (33.4) (66.7)
NA 0.00 0.00
NA 0.00 0.00
(292.84) (98.55) (195.69)
NA 8,035.47 8,035.47
NA 6.44 6.44
87.79 24.82 56.30
88.61 15.29 51.95
88.61 15.29 51.95
NA NA NA
NA NA NA
NA NA NA
NA 1,134.20 1,134.20
NA 17.43 17.43
23.66 16.37 20.02
0.00 1.60 0.80
0.00 1.60 0.80
0.00 1.60 0.80
Indonesia Perusahaan Gas Negara 102.3 (5.3) 12.1 1,085.5 (29.71) 10.76 106.82 (2.69) 12.77 47.35 net cash net cash NA NA NA 18.31 18.81 16.68 4.14 2.91 3.22
(2.3) 0.2 3.2 0.4
29.9 (6.9) (14.5) 2.9
16.0 (6.7) (2.0) 2.4
5.0 1.8 2.3
5.00 1.00 1.50 2.50
5.00 1.00 1.50 2.50
(2.28) 0.21 3.20 0.38
27.76 (6.90) (14.46) 2.13
15.95 (6.68) (1.99) 2.43
131.25 9.61 35.63 58.83
186.99 5.00 25.65 72.55
186.99 5.00 25.65 72.55
NA NA NA NA
NA NA NA NA
NA NA NA NA
17.12 6.43 8.08 10.54
13.17 6.91 9.44 9.84
11.36 7.41 9.63 9.47
4.22 5.45 6.00 5.22
4.43 5.50 6.09 5.34
4.65 5.56 6.18 5.46
Malaysia Tenaga Nasional YTLP Tanjong Plc Malaysia utilities average (15.8) (43.2) NA (29.5) 25.4 56.7 NA 41.1 3.5 5.2 NAA 4.4 (10.7) 15.0 NA 2.2 69.86 (11.17) NA 29.3 (0.47) 1.50 NA 0.5 (15.73) (37.76) NA (26.75) 25.48 74.21 NA 49.84 3.50 12.23 NA 7.86 63.26 277.77 NA 170.52 52.91 206.23 NA 129.57 52.91 206.23 NA 129.57 NA NA NA NA NA NA NA NA NA NA NA NA 18.21 28.46 NA 23.33 14.52 16.28 NA 15.40 14.03 14.74 NA 14.38 1.47 5.53 NA 3.50 2.49 4.91 NA 3.70 2.48 4.98 NA 3.73
Philippines Energy Development Corp Meralco Philippines utilities average 26.2 (19.2) 3.51 13.1 549.9 281.51 4.6 24.4 14.50 (64.7) 40.8 -11.96 11.63 59.87 35.75 25.53 45.12 35.32 26.49 (18.86) 3.82 13.10 561.45 287.27 4.61 24.39 14.50 125.84 51.96 88.90 81.68 53.40 67.54 81.68 53.40 67.54 NA NA NA NA NA NA NA NA NA 15.65 104.86 60.25 13.84 16.13 14.98 13.23 12.97 13.10 1.62 1.16 1.39 1.81 1.86 1.83 2.27 2.70 2.48
Suzlon
(15.6)
(82.7)
329.6
(100.0)
NA
NA
(13.88)
(82.12)
337.87
137.25
105.38
105.38
NA
NA
NA
7.58
43.97
10.04
0.00
0.00
0.00
Note: Priced on 28-Sep-10, as of last market close. *Annualised. Source: Bloomberg, Nomura International (Hong Kong) Ltd estimates
Nomura
134
29 September 2010
Strategy | China
Ivan Lee, CFA
Sector valuation III

Dividend payout (%) Company Hongkong Electric CLP Holdings Hong Kong & China Gas CKI HK utilities average 09 67.25 72.74 44.49 48.62 58.27 10F 62.95 59.95 59.38 60.00 60.57 11F 59.14 59.95 61.04 60.00 60.03 BV/share (local $) 09 24.43 29.38 5.03 18.73 19.39 10F 25.68 30.77 4.92 19.56 20.23 11F 27.21 32.34 5.27 20.61 21.36 09 1.94 2.07 3.86 1.67 2.38 P/B (x) 10F 1.85 1.97 3.94 1.60 2.34 11F 1.74 1.88 3.68 1.52 2.21 EV/EBIDTA (x) 09 12.13 10.19 20.19 17.21 14.93 10F 12.95 10.24 18.89 17.61 14.92 11F 11.29 9.60 17.75 13.61 13.06 EBIDTA Margin (%) 09 71.20 29.66 38.03 7.78 36.67 10F 70.41 27.71 38.36 22.62 39.78 11F 70.01 26.48 37.17 25.73 39.85 09 10.45 8.16 10.76 11.42 10.20 RoIC (%) 10F 9.6 8.2 9.6 8.7 9.0 11F 9.8 8.2 10.3 9.9 9.6 RoE (%) 09 13.5 12.3 16.3 14.1 14.0 10F 13.4 12.3 14.2 10.9 12.7 11F 14.2 12.2 14.5 13.1 13.5 RoA (%) 09 9.3 5.7 8.8 11.5 8.8 10F 8.7 5.6 7.3 8.4 7.5 11F 9.0 5.6 7.8 9.5 8.0
41.34 55.60 31.19 22.00 23.00 34.63
39.21 55.60 29.46 30.00 23.00 35.46
41.34 55.60 31.19 30.00 23.00 36.23
2.22 3.49 2.67 2.45 8.03 3.77
2.23 3.60 2.45 2.51 8.78 3.91
2.32 3.74 2.52 2.60 9.68 4.17
1.33 1.24 0.68 0.65 2.13 1.20
1.33 1.20 0.74 0.63 1.94 1.17
1.27 1.16 0.72 0.61 1.76 1.10
11.46 9.55 9.03 17.27 10.85 11.63
17.25 11.16 10.17 6.15 7.59 10.47
13.27 10.35 9.80 5.63 6.37 9.08
29.73 23.13 23.02 19.81 30.96 25.33
22.55 17.79 21.34 28.32 32.05 24.41
26.25 17.22 22.00 28.76 31.92 25.23
1.37 4.09 1.95 1.64 7.56 3.32
1.0 2.3 1.0 1.3 6.0 2.3
1.2 2.7 0.9 2.0 6.7 2.7
6.2 12.5 8.4 5.1 16.4 9.7
5.8 7.0 4.2 3.7 11.7 6.5
7.2 8.5 4.2 5.0 12.6 7.5
0.9 2.7 1.2 1.4 5.4 2.3
0.8 1.5 0.6 1.0 3.8 1.5
0.9 1.8 0.6 1.5 4.2 1.8
33.25
36.37
36.39
8.58
9.82
11.25
3.14
2.57
2.10
9.35
7.63
6.44
48.13
49.09
48.76
13.32
14.0
13.9
19.9
20.5
20.1
10.8
11.4
11.6
0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 -
8.93 11.27 12.43 53.69 6.84 6.00 0.89 0.91 12.62
7.71 12.26 14.98 48.41 7.38 5.07 1.05 0.80 12.21
8.68 13.93 18.07 56.12 8.07 6.17 1.22 0.94 14.15
1.01 1.17 2.08 1.46 1.21 1.33 1.57 2.13 1.49
1.17 1.07 1.73 1.54 1.12 1.57 1.34 2.32 1.48
1.04 0.94 1.43 1.33 1.02 1.29 1.15 1.98 1.27
9.71 15.04 9.84 15.49 NA 32.55 5.77 23.80 16.03
8.25 7.03 4.92 5.77 11.41 6.35 4.83 9.01 7.20
6.95 6.46 5.05 5.08 12.20 4.50 3.80 9.13 6.65
14.20 6.62 22.25 13.49 (14.77) 7.16 17.09 31.54 12.20
13.56 8.73 23.52 24.75 13.31 18.00 18.18 24.25 18.04
14.44 8.27 21.02 24.92 13.39 16.23 17.75 23.28 17.41
3.84 4.42 8.91 (3.01) (13.80) (1.31) 10.86 (1.26) 1.08
(3.3) 7.2 13.1 9.5 4.2 11.3 12.6 12.7 8.4
7.4 10.6 12.6 9.1 5.0 19.0 24.7 18.7 13.4
2.2 5.9 17.6 (4.9) (26.6) (1.9) 13.8 (3.8) 0.3
3.7 8.4 22.3 15.4 8.9 18.6 15.9 19.0 14.0
NA 12.7 18.5 14.7 9.0 18.5 15.3 15.7 14.9
2.4 2.9 7.8 (2.1) (5.7) (1.2) 10.3 (1.1) 1.7
(1.8) 3.3 10.9 6.6 1.8 11.4 11.6 8.3 6.5
4.6 4.4 10.1 6.9 1.9 11.5 11.1 7.6 7.3
19.09 33.90 146.06 0.00 23.92 0.00 46.99 38.57
20.21 33.39 45.03 22.00 46.99 23.95
20.21 33.38 35.30 25.00 46.99 22.98
1.26 2.74 1.55 0.75 0.69 1.22 2.31 1.50
1.39 2.99 1.92 0.86 0.64 1.51 2.38 1.67
1.55 3.27 1.99 1.03 0.77 1.89 2.43 1.85
2.88 1.43 1.81 3.49 4.46 2.97 1.02 2.58
2.60 1.31 1.47 3.05 4.83 2.40 0.99 2.38
2.33 1.20 1.42 2.55 4.00 1.92 0.97 2.06
20.54 6.80 25.69 28.31 15.87 10.83 8.43 16.64
15.64 6.24 12.80 14.37 15.17 7.35 8.65 11.46
13.13 5.12 8.60 12.85 12.45 5.28 12.60 10.01
39.25 68.58 16.27 23.17 21.84 24.30 57.39 35.83
31.56 70.45 31.12 11.90 20.06 23.00 50.27 34.05
33.04 68.21 39.67 14.10 19.96 22.90 39.55 33.92
5.27 7.96 3.46 4.12 11.87 14.86 4.19 7.39
7.4 9.3 7.6 8.0 9.4 17.0 3.6 8.9
7.9 9.8 4.3 7.4 9.8 18.3 2.3 8.6
10.1 12.6 6.3 8.8 24.0 18.1 7.6 12.5
12.3 13.2 13.6 18.3 24.8 21.2 5.9 15.6
13.7 13.6 7.6 18.8 32.6 22.2 3.5 16.0
5.0 6.6 2.3 3.1 7.8 10.4 3.3 5.5
6.5 7.4 4.5 5.9 6.5 12.5 2.9 6.6
7.1 7.9 2.5 5.5 7.1 13.5 1.9 6.5
21.72 10.20 19.13 19.96 34.29 21.06
25.01 10.19 20.00 14.94 33.87 20.80
30.01 15.29 20.00 19.79 34.46 23.91
4.92 3.27 0.73 0.97 27.16 7.41
5.74 3.41 1.10 1.08 27.98 7.86
6.64 3.57 1.58 1.54 28.88 8.44
4.00 1.12 14.89 4.31 2.00 5.27
3.27 1.08 9.86 3.86 1.95 4.00
2.83 1.03 6.87 2.71 1.89 3.07
10.95 13.90 25.76 22.50 12.06 17.03
8.21 11.82 15.44 14.07 10.62 12.03
7.03 10.27 11.51 9.85 9.64 9.66
23.58 12.04 18.06 15.45 17.74 17.37
24.16 16.04 20.26 13.09 16.39 17.99
23.04 16.38 20.56 12.96 15.15 17.62
8.37 2.82 14.61 1.05 6.93 6.76
10.5 3.5 11.8 3.9 7.8 7.5
11.1 4.0 12.8 5.9 15.1 9.8
17.0 3.8 27.2 3.3 8.4 12.0
20.7 4.8 50.9 13.9 9.6 20.0
20.8 5.4 44.5 17.6 10.7 19.8
5.1 2.3 6.8 0.7 4.8 3.9
6.5 2.9 7.1 2.5 5.4 4.9
6.9 3.3 8.0 3.7 6.0 5.6
34.01 0.00 52.17
30.00 58.50
30.00 58.50
3.55 3.62 5.46
5.46 3.19 5.76
6.48 3.53 6.06
4.21 1.89 1.40
2.62 2.14 1.33
2.20 1.83 1.26
15.54 17.26 15.80
10.26 14.27 8.06
8.52 11.75 8.07
27.45 39.77 87.05
24.38 42.58 88.65
24.51 53.75 89.04
12.63 2.26 5.17
13.4 4.3 5.4
14.8 4.3 5.4
23.7 6.9 11.7
23.5 8.2 12.9
22.3 10.3 12.3
10.3 1.7 5.2
10.4 2.6 5.0
10.6 2.9 4.9
29.98 1.03 15.44 15.48
25.00 30.00 25.00 26.67
25.00 30.00 25.00 26.67
1.80 9.69 6.27 5.92
2.01 11.59 6.78 6.79
2.21 14.27 7.26 7.91
1.89 3.10 1.27 2.09
1.69 2.59 1.18 1.82
1.53 2.11 1.10 1.58
26.04 9.87 0.82 12.24
22.60 9.10 0.12 10.61
19.38 6.47 (0.46) 8.46
4.85 6.01 3.40 4.75
5.55 6.70 4.00 5.42
6.15 7.51 4.09 5.92
9.73 16.74 5.01 10.49
9.4 14.3 5.6 9.7
8.2 16.2 5.0 9.8
11.2 31.6 7.2 16.7
11.0 18.3 7.7 12.3
9.6 20.7 6.9 12.4
2.9 2.6 1.2 2.2
2.8 2.4 1.3 2.1
2.4 3.3 1.2 2.3
0.00 30.00 15.00
30.57 30.00 30.29
30.38 30.00 30.19
64,170 58,279 61,225
78,099 60,106 69,102
87,185 63,133 75,159
0.46 0.79 0.63
0.38 0.77 0.57
0.34 0.73 0.54
7.97 13.47 10.72
6.09 13.94 10.01
5.68 12.69 9.18
19.52 7.36 13.44
23.42 6.66 15.04
22.82 7.16 14.99
(0.15) 1.48 0.67
2.1 1.1 1.6
3.9 1.4 2.6
(0.3) 5.7 2.7
3.7 4.7 4.2
4.5 6.3 5.4
(0.1) 1.0 0.5
1.7 0.8 1.2
2.1 0.9 1.5
0.00 1,814.72 907.36
27.89 13.94
26.20 13.10
43.41 42.45 42.93
39.63 57.15 48.39
41.45 63.90 52.68
1.00 2.94 1.97
1.09 2.19 1.64
1.04 1.96 1.50
NA 31.27 31.27
86.64 7.53 47.08
10.91 7.25 9.08
2.03 7.85 4.94
6.73 16.72 11.72
7.75 13.77 10.76
(13.47) 0.15 (6.66)
(16.8) 9.5 (3.6)
2.2 9.0 5.6
(29.8) 0.2 (14.8)
(32.3) 15.7 (8.3)
4.5 12.6 8.6
(11.7) 0.1 (5.8)
(13.6) 8.9 (2.4)
1.8 7.1 4.5
Indonesia Perusahaan Gas Negara 73.44 54.49 53.83 460.09 684.72 939.47 8.59 5.77 4.20 10.39 10.05 8.68 54.96 55.90 58.25 31.44 19.4 17.9 86.5 40.4 31.4 30.1 19.3 18.1
72.14 35.07 48.46 51.89
58.29 38.04 57.50 51.28
52.79 41.17 59.55 51.17
21.14 96.06 30.71 49.30
22.89 104.28 32.39 53.19
24.79 111.57 33.97 56.78
2.05 0.96 1.22 1.41
1.89 0.88 1.16 1.31
1.74 0.82 1.10 1.22
12.96 4.17 6.28 7.80
13.67 4.21 6.43 8.10
12.63 4.21 5.86 7.57
23.04 58.00 26.14 35.72
24.72 56.49 19.66 33.63
26.49 53.56 19.82 33.29
6.11 11.62 10.53 9.42
5.5 10.5 9.2 8.4
5.2 9.4 9.2 7.9
13.8 14.8 15.8 14.8
14.8 13.3 12.6 13.5
16.0 11.5 11.7 13.1
5.4 11.7 9.7 8.9
5.0 10.8 8.2 8.0
4.7 9.5 8.0 7.4
Malaysia Tenaga Nasional YTLP Tanjong Plc Malaysia utilities average 26.73 113.95 NA 70.34 36.20 64.60 NA 50.40 34.81 62.31 NA 48.56 6.00 1.03 NA 3.51 6.45 1.13 NA 3.79 7.16 1.20 NA 4.18 1.51 2.27 NA 1.89 1.40 2.08 NA 1.74 1.26 1.95 NA 1.61 8.04 10.71 NA 9.38 6.75 10.41 NA 8.58 6.23 10.01 NA 8.12 23.98 43.45 NA 33.71 26.35 20.64 NA 23.49 25.97 20.63 NA 23.30 1.89 2.72 NA 2.30 5.3 4.1 NA 4.73 8.4 5.1 NA 6.72 3.6 10.3 NA 6.95 9.7 16.4 NA 13.09 13.9 16.1 NA 14.99 1.3 2.1 NA 1.7 3.6 3.2 NA 3.4 5.6 3.6 NA 4.6
Philippines Energy Development Corp Meralco Philippines utilities average 25.33 121.96 73.64 25.00 30.00 27.50 30.00 35.00 32.50 1.54 50.87 26.20 2.01 57.33 29.67 2.33 68.10 35.22 4.01 4.23 4.12 3.07 3.75 3.41 2.64 3.16 2.90 11.75 16.22 13.98 7.75 7.69 7.72 7.54 6.14 6.84 47.96 7.14 27.55 57.43 12.68 35.06 56.17 14.44 35.30 5.50 2.26 3.88 14.6 13.4 14.0 11.2 15.3 13.2 11.9 4.1 8.0 31.3 24.6 28.0 21.4 26.4 23.9 4.3 1.3 2.8 12.8 8.8 10.8 10.9 10.7 10.8
Suzlon
0.00
57.61
57.39
63.09
0.96
0.96
0.88
6.31
9.08
7.52
12.42
9.29
10.74
1.12
0.8
3.5
2.8
2.3
9.5
0.7
0.6
2.6
Note: Priced on 28-Sep-10, as of last market close. *Annualised. Source: Bloomberg, Nomura International (Hong Kong) Ltd estimates
Nomura
135
29 September 2010
Strategy | China
Ivan Lee, CFA
Valuation methodologies
Exhibit 176. Valuation methodologies and investment risks
Company Hongkong Electric Ticker Valuation methodology 6 HK Our price target for HKE remains unchanged and is derived using the DCF methodology, assuming an SOC return of 9.99%, WACC of 6.2% and a terminal growth rate of 2%. 2 HK SOTP valuation, which values CLPs core electricity business at HK$60.3/share with a reduction of HK$3.8/share to reflect the potential writedown on Yallourn and earnings risk from Australias carbon trading scheme. Risks Risks to our investment view include a strengthening of the US dollar and the Japanese yen, lower-than-expected SOC capex spent during FY08-13F and poor operating performance at overseas projects. Lower SOC capex in Hong Kong, poor operating results from overseas investments, potential writedown on its Yallourn plant and earnings risks from the carbon trading scheme in Australia.
CLP Holdings
Hong Kong & China Gas
3 HK SOTP valuation, which implies 22x FY10F P/E Regulatory risks, larger-than-expected mark-to-market loss (3.1x book) for the Hong Kong Towngas business, of investment securities and investment property writedown. 32x FY10F P/E (2.1x book) for the China business and no NAV discount for the property portfolio. Upside risks include acquisitions of more projects in China and share buy-backs. Strengthening of US dollar and the Japanese yen, lower1038 HK SOTP valuation based on 8.5% cost of equity for assets in Australia, Canada, New Zealand and the than-expected SOC capex spent during FY08-13F, poor UK, and a 10% cost of equity for its China and HK operating performance at overseas projects. materials businesses. 991 HK DCF (with a WACC of 9% and 2% terminal growth Risks includes: Profit margins of the Chinese independent rate for 2023 and thereafter), plus a 15% discount power producers are not protected by contracts or due to low market visibility. regulatory regimes. Without any automatic pass-through mechanism, major cost items (eg, fuel cost) are subject to market price fluctuations. Competition and the macroeconomic downturn could also have a negative impact on generation output and plant utilisation over time. 902 HK DCF (with a WACC of 9% and 2% terminal growth Risks includes: Profit margins of the Chinese independent rate for 2023 and thereafter), plus a 15% discount power producers are not protected by contracts or due to low market visibility. regulatory regimes. Without any automatic pass-through mechanism, major cost items (eg, fuel cost) are subject to market price fluctuations. Competition and the macroeconomic downturn could also have a negative impact on generation output and plant utilisation over time. 1071 HK DCF (with a WACC of 9% and 2% terminal growth rate for 2023 and thereafter), plus a 15% discount due to low market visibility, and 25% discount as risk premium for its smaller market capitalisation. Risks includes: Profit margins of the Chinese independent power producers are not protected by contracts or regulatory regimes. Without any automatic pass-through mechanism, major cost items (eg, fuel cost) are subject to market price fluctuations. Competition and the macroeconomic downturn could also have a negative impact on generation output and plant utilisation over time. Risks includes: Profit margins of the Chinese independent power producers are not protected by contracts or regulatory regimes. Without any automatic pass-through mechanism, major cost items (eg, fuel cost) are subject to market price fluctuations. Competition and the macroeconomic downturn could also have a negative impact on generation output and plant utilisation over time.
CKI
Datang Intl
Huaneng Power Intl
Huadian Power Intl
China Power Intl
2380 HK DCF, (with a WACC of 9% and 2% terminal growth rate for 2023 and thereafter), plus a 15% discount due to low market visibility, and 25% discount as risk premium for its smaller market capitalisation.
China Resources Power
836 HK DCF (with a WACC of 9% and 2% terminal growth Risks includes: Profit margins of the Chinese independent rate for 2023 and thereafter), plus a 15% discount power producers are not protected by contracts or due to low market visibility. regulatory regimes. Without any automatic pass-through mechanism, major cost items (eg, fuel cost) are subject to market price fluctuations. Competition and the macroeconomic downturn could also have a negative impact on generation output and plant utilisation over time. 2688 HK PT is based on 14.5x 2011F P/E, a 10% discount to the peer average of 16.1x to reflect companyspecific risks. The discount has been reduced from 20% previously, as we believe investors confidence in the company has gradually improved, of late, on the back of the above positive notes. Downside risks to our price target include: 1) The adverse impact of any economic slowdown on gas sales to C&I users and 2) looming wellhead price reforms, which could hurt end-demand. We note, however, that ENN should be relatively unaffected by the anticipated wellhead price increase, since most of its projects are based in more prosperous cities making it easier to pass on costs to customers. Upside risks include more gas volume sales to higher margin C&I and vehicle users, more new project wins and a higher-than-wellhead price increase on its retail gas tariffs. Other upside risks may include a possibility of being an acquisition target amid industry consolidation.
ENN Energy
Nomura
136
29 September 2010
Strategy | China
Ivan Lee, CFA
Company Towngas China
Ticker Valuation methodology
Risks
1083 HK Our price target of HK$2.20, rounded from Major investment risks include: 1) better-than-expected new HK$2.15, is based on our assumption of a terminal connections and gas sales; 2) value-accretive asset growth rate of 0% and a WACC of 8.18% (debt injection; and 3) significant share purchases from HKCG. cost of 6.0%, a raw beta of 1.40, a risk-free rate of 2.5%, a risk premium of 5.5% and a long-term debt-to-equity ratio of 35%) (price target and rating unchanged). Our price target implies an FY10F P/E of 14x, below the industry average of 17x, which we consider reasonable, given TCCLs lukewarm ROEs. 1193 HK We use a sum-of-the-parts (SOTP) methodology to derive our 12-month price target of HK$14.40, of which HK$12.20 is from existing projects, while HK$2.20 is from to-be-injected projects. For to-beinjected projects, we assign a 50% discount to the DCF value to reflect uncertainty. We estimate that the asset injection can enhance value by HK$4.40 per share assuming acquisition valuation of 2.5x book value. 384 HK We use the DCF method (unchanged) to derive our price target of HK$4.30 (rounded down from HK$4.32). We assume a terminal growth rate of 0%, a WACC of 8.27% (a cost of debt of 5%, raw beta at 2.00, a risk-free rate of 2.50%, a risk premium of 5.50%, and long-term debt-toequity ratio of 75%). To be conservative, we use the number of diluted shares to reach our price target. 658 HK Based on DCF valuation, with a WACC of 9.5% and terminal growth of 1% after FY2020F. We have a positive view on the companys overall operation, but are wary of a macro slowdown and the implications on commercial and industrial (C&I) demand. Meanwhile, the value from future asset injections would be hurt by higher-than-expected considerations, in our view. We also see the lack of upstream projects as a risk to CR Gass long-term development. It may take some time for the looming wellhead price increase to be passed on, which could also hit the bottom line. We see three major risks to China Gas: option dilution, interest rate hikes and lower-than-expected LPG margin. Industry wide, the looming wellhead price increase may lead to temporary margin contraction in our view. Upside risks include higherthan- expected LPG margin and more gas projects.
China Resources Gas
China Gas
China High Speed
Uncertainty of government policies for wind power; tightening global credit market; development of direct-drive wind turbine technology; the company's failure to improve technology to compete with foreign competitors; severe shortage of raw materials; delay in capacity expansion. Risks includes: If the industry recovers by more than our expectation, our estimates may prove too conservative. Meanwhile, if China's power demand falters, the outlook for Chinese power generation equipment vendors could take a hit and our estimates may prove elusive. Raw material costs are also significant, as is government's energy policy. Risks includes: If the industry recovers by more than our expectation, our estimates may prove too conservative. Meanwhile, if China's power demand falters, the outlook for Chinese power generation equipment vendors could take a hit and our estimates may prove elusive. Raw material costs are also significant, as is government's energy policy. Risks includes: If the industry recovers by more than our expectation, our estimates may prove too conservative. Meanwhile, if China's power demand falters, the outlook for Chinese power generation equipment vendors could take a hit and our estimates may prove elusive. Raw material costs are also significant, as is government's energy policy. Essentially all of KEPCOs earnings are denominated in won, while almost all of its fuel costs are in US dollars. This exposes earnings to the volatility of the forex and energy markets. Changes in government electricity tariff policy and the macro backdrop can also have a large impact on KEPCOs earnings. Further, earnings are highly leveraged to revenue growth, which poses a direct risk if the street cuts sales forecasts. Uncertainty from governments policy supports, failure in migrating technology forward, higher-than-expected product liability provisions, delay in recovery of WTG demand, and failure in enhancing cashflow and balance sheet quality. Upside risks to our price target: Canadian Solars being able to expand margins ahead of our expectations on the back of faster cost reductions. Downside risks to our price target: 1) slower market share gains in new regions; and 2) demand at new growth centers being unable to offset lower demand from Germany. Upside risks to our price target include: 1) E-Tons raising additional funding at attractive rates, and; 2) a faster-thanexpected ramp-up of new R&D projects helping improve cost structure meaningfully.
Shanghai Electric
2727 HK We believe 14x earnings multiple is reasonable for SEG despite challenging industry outlook because SEG is one of the leading Chinese industrial companies.
Dongfang Electric
1072 HK 15x RMB2 per share earnings (forex assumption of RMB1=HK$1.15).
Harbin Power
1133 HK A forward FY10E P/E multiple of 10x (forex assumption of RMB1=HK$1.15).
Korea Electric Power
015760 KS Based on an EV/MW target of US$750,000. This is the median of the November 1997 to June 1999 period, as current conditions for power demand, the Korean won, the tariff outlook, and our expectations for a recovery in free cashflow all resemble conditions during that Asian crisis period, with a share price range of W12,90050,500. SUEL IN One-year forward P/E multiple of 16xFY11F earnings.
Suzlon
Canadian Solar
CSIQ US We use the simple average FY11F P/BV of global players to value the company and assign a 20% discount to reflect SEC overhang (earlier: FY10F P/BV, method unchanged). On our updated numbers, we increase our price target to US$12.20 for a target P/BV of 0.9x, implying potential upside of 0% from current levels. 3452 TT Our price target is based on FY11F P/BV average of global independent PV cell makers (previously: FY10F P/BV), to which we assign a 20% discount (previous: 10%) to reflect E-Tons weakened balance sheet.
E-Ton
Nomura
137
29 September 2010
Strategy | China
Ivan Lee, CFA
Company Motech
Ticker Valuation methodology 6244 TT We use the average FY10F P/BV of greater China solar peers to value the company and include a 20% premium on account of Motechs stronger balance sheet and TSMCs backing.
Risks Upside risks to our price target come from: 1) Motechs entry into new business area / faster vertical integration, which would change its risk profile; 2) faster-than expected ramp of AE Polysilicon, which could provide margin upside, and; 3) faster than expected demand recovery that could provide some ASP stability. Downside risks to our price target: 1) Demand in new growth centres being unable to offset lower demand from Germany following the change in subsidies; and 2) slowerthan-expected market-share gains. Downside risks to our price target: 1) slower-than-expected market share gains; and 2) demand at new growth centers being unable to offset lower demand from Germany following the change in subsidies. Investment risks include progress on LDKs in-house polysilicon production, expansion strategy into the downstream, upside or downside surprises from government policy changes, earnings dilution risks from potential equity financing, and whether the company can continue to improve its balance sheet quality. Risks to our price target include uncertainty over the governments policies on solar energy, execution on inhouse polysilicon production, progress on disruptive technology R&D, and slower-than-expected capacity expansion. Uncertainty regarding government policies on solar energy, execution of R&D initiatives (SE Cells), and progress on landing overseas business partners.
Suntech Power
STP US Our price target is derived from average FY10F P/BV of global PV module makers.
Trina Solar
TSL US Our price target was derived using a simple average of global module makers FY10F P/BV of 1.8x . LDK US Our price target of US$8.00 is based on our FY10F earnings estimate and 12.5x P/E multiple, which is the average FY10F P/E of solar companies in China .
LDK
Yingli Green
YGE US Our price target of US$23.00, is based on 22x FY10F earnings, representing a 15% premium to the current peer average of 19x FY10F earnings. We believe that Yingli deserves to trade at valuation premium JASO US Our price target of US$8.00 per share is based on FY10F earnings and a 9x P/E multiple, the peer group average.
JA Solar
Solargiga
757 HK We value the company using the average 09F P/E Solar demand could be a lot stronger than we expected, the of listed solar companies in the greater China company could attain more sales contracts to enhance region at 8x. visibility, and uncertainty over government policy and subsidies. NATP IN Sum-of-the-parts methodology, valuing the companys core business using DCF to equity holders, with a cost of equity of 11% and terminal growth rate of 2%. TPWR IN SOTP methodology by valuing its Mumbai business at INR 274, Delhi distribution business at INR 71, Tala Transmission at INR 27, Mundra UMPP at INR 187, the stake in Indonesias coal mines at INR 188, the Maithon project at INR 61, Merchant Power at INR 65, IEL at INR 16, investments at INR 205, others at INR 76 and adjust for the debt for SPV at the end of FY10E from our valuation. We value all Indian Power businesses using DCF to Equityholders methodology with a cost of equity at 12%; however, the Indonesian coal mine stake is valued using a cost of equity of 18% (including 6% country risk). Slow pace of reforms, regulatory uncertainty, availability of fuel supply and capacity slippages pose credible risks. Deferment of projects in 11th and 12th five-year plan. Change in coal prices, delay in project execution, slow pace of reforms and regulatory uncertainty pose risks to our price target. Fuel availability for project life remains a major risk as the offtake from BUMI Resources will only partly fulfil the requirement.
NTPC
Tata Power
Power Grid
Strong pace of capital expenditure, increase in regulated PWGR IN We value Power Grid using a DCF-to-equity returns, and delays of planned projects would pose risk to holders' methodology, using a cost of equity of 11.0% and a terminal growth rate of 3% in FY18E our earnings and target price. to arrive at our 12-month price target of INR89 per share. 257 HK DCF methodology, employing a WACC of 10.5% and 2% growth rate. Our target prices are subject to growth assumptions in treatment volumes (including tap water supply, wastewater treatment, and waste-to-energy), tariffs, capacity and capex. Changes in the macro landscape and government regulations over the water industry may result in key changes in our forecasts, and hence our target prices. Our target prices are subject to growth assumptions in treatment volumes (including tap water supply, wastewater treatment, and waste-to-energy), tariffs, capacity and capex. Changes in the macro landscape and government regulations over the water industry may result in key changes in our forecasts, and hence our target prices. Our target prices are subject to growth assumptions in treatment volumes (including tap water supply, wastewater treatment, and waste-to-energy), tariffs, capacity and capex. Changes in the macro landscape and government regulations over the water industry may result in key changes in our forecasts, and hence our target prices.
China Everbright Intl
Guangdong Investment
270 HK DCF methodology, employing a WACC of 10.0% and no terminal growth.
China Water Affairs
855 HK DCF, employing a WACC of 10.5% with no terminal growth rate.
Nomura
138
29 September 2010
Strategy | China
Ivan Lee, CFA
Company Beijing Enterprises Water
Ticker Valuation methodology 371 HK DCF methodology, employing a WACC of 10.5% with no terminal growth rate.
Risks Our target prices are subject to growth assumptions in treatment volumes (including tap water supply, wastewater treatment, and waste-to-energy), tariffs, capacity and capex. Changes in the macro landscape and government regulations over the water industry may result in key changes in our forecasts, and hence our target prices. Our target prices are subject to growth assumptions in treatment volumes (including tap water supply, wastewater treatment, and waste-to-energy), tariffs, capacity and capex. Changes in the macro landscape and government regulations over the water industry may result in key changes in our forecasts, and hence our target prices. Our target prices are subject to growth assumptions in treatment volumes (including tap water supply, wastewater treatment, and waste-to-energy), tariffs, capacity and capex. Changes in the macro landscape and government regulations over the water industry may result in key changes in our forecasts, and hence our target prices. Our target prices are subject to growth assumptions in treatment volumes (including tap water supply, wastewater treatment, and waste-to-energy), tariffs, capacity and capex. Changes in the macro landscape and government regulations over the water industry may result in key changes in our forecasts, and hence our target prices. 1) significant (positive or negative) discontinuities in Malaysias regulatory framework with regard to tariffs, the regulated gas price and, on a broader level, the industry structure; 2) further downside in nearterm volumes on a slower-than-anticipated recovery in Malaysias manufacturing sector; 3) fuel-related risk, which is borne almost exclusively by TNB; and 4) significant changes to market sentiment and liquidity Key risks include the Malaysian regulatory environment; exchange rate risk, specifically relating to YTLP's Wessex Water in the UK. Rating Suspended
Tianjin Capital
1065 HK Our price target is derived using DCF, with a WACC of 12.0% and no terminal growth rate.
Hyflux Limited
HYF SP Our price target is based on DCF valuation, with a WACC of 7.5% and a terminal growth rate of 4.5%.
Sound Global
SGL SP Based on SOTP, by valuing the EPC division using an 18x P/E over FY10F EPS, and the BOT division based on DCF method using a 10% WACC with no terminal growth.
Tenaga Nasional
TNB MK Free cashflow (FCFF) framework with a WACC of 8.6% (down from 8.8% previously) and a terminal growth assumption of 1.5% (unchanged).
YTL Power International
YTLP MK SOTP valuation based on COE of 9.0% for Malaysia, 17% for Indonesia. We value Wessex Water at 1.08x FY09F RAB and PowerSeraya at 11.5x EV/EBITDA TJN MK Rating Suspended
Tanjong Plc Kogas
The risks to our investment call are: 1) government policies, 036460 KS SOTP methodology based on NAV estimate of W52,091 per share, which comprises W26,267 for 2) interest expenses, and 3) execution risk in E&P projects. Kogass core NG business, W24,071 for its E&P projects and W1,753 for its affiliates. Each of the first two parts is separately calculated using a discounted cashflow (DCF) methodology, while the last part is calculated based on 1x of book value. PGAS IJ We use a 10-year DCF and adopt a WACC of 10.7% and a terminal growth rate of 2.0%, given the strong potential of gas in the long term, PGNs relatively strong positioning and its ability to maintain a market share of more than 90%. The gas supply bottleneck; derivative revaluation losses; the 4% stake to be unwound by the government from April 2010. A long-term risk is gradually rising gas costs.
Perusahaan Gas Negara
Glow Electricity Generating Ratchaburi Generating China Yangtze Power
GLOW TB FCFE valuation methodology with Ke = 10.8% and Weaker-than-anticipated industrial demand, project delays a 1.5% terminal growth assumption. and sentiment-related selldowns on political instability. EGCO TB FCFE valuation methodology with Ke = 9.78% and Delays to projects pipelines and sentiment-related a 1.0% terminal growth assumption. selldowns on political instability. RATCH TB FCFE valuation methodology with Ke = 9.78% and Further delays to projects in Laos and sentiment-related a 1.5% terminal growth assumption. selldowns on political instability. 600900 CH Sum-of-the-parts valuation, in which we value the hydropower business and holding securities at RMB15.23 and RMB1.28, respectively, based on the number of shares post private placement to the parent, concluded on 29 September 2009. 1088 HK We use a sum-of-the-parts valuation methodology for Shenhua. We apply DCF analysis to assess the enterprise value (EV) of Shenhuas coal (9% WACC, 2.5% terminal growth rate) and power businesses (8% WACC and 1% terminal growth rate), given their different business characteristics and growth profiles. We then sum up the values to arrive at the groups EV, adjusted for consolidated net debt and minority interest. EDC PM DCF with WACC= 9.6% and terminal growth assumption of 2.0% 1) fluctuation in utilisation hours; 2) the pace and magnitude of potential tariff hikes; 3) A-share market trends; and 4) potential interest rate hikes.
China Shenhua
Investment risks include: 1) higher-than-expected coal prices; 2) weaker-than-expected recovery in Chinas economy; 3) higher-thanexpected cost hikes; 4) higher coal imports boosted by a strengthening RMB, and 5) Nomura 4 30 August 2010 overall market weakness given the stocks high correlation to the market index (HangSeng Index).
EDC
Significant regulatory discontinuities and significant yen strengthening
Nomura
139
29 September 2010
Strategy | China
Ivan Lee, CFA
Company Meralco GCL Poly
Ticker Valuation methodology MER PM DCF with WACC= 9.1% and terminal growth assumption of 1.5% 3800 HK Our current price target of HK$1.30 is at par with the current share price. We maintain our NEUTRAL rating on GCL Poly.
Risks Further inflated bids for Meralco's shares Investment risks include: execution of in-house wafer production ramp up, attainment of approval to procure electricity directly from power producers, potential change in technology platform, and uncertainties from solar subsidies and policies.
Longyuan
916 HK DCF with a WACC of 11.8% and a terminal growth CER VER registration risks, resolution of grid connection assumption of 1% after FY2019F bottleneck in China, uncertainties from wind subsidies and policies 392 HK Valuation Methodology. Our 12-month PT is HK$60.9 based on 2010F NAV of HK$60.9. Key downside risks are: (1) a slower-than-expected gas demand; and (2) margin pressure for gas/brewery from rising cost pressures.
BEHL
Source: Nomura International (Hong Kong) Ltd estimates
Nomura
140
29 September 2010
Strategy | China
Henry Wu, CFA
China stock picks
Nomura
141
29 September 2010
Agricultural Bank of China 1 2 8 8 H K

F I N AN C I AL S | C H I N A
Maintained
Lucy Feng David Chung
+852 2252 2165 +852 2252 6210
lucy.feng@nomura.com david.m.chung@nomura.com
BUY
Closing price on 21 Sep Price target Upside/downside Difference from consensus FY11F net profit (RMBmn) Difference from consensus
Source: Nomura
Action
ABC is in a sweet spot of county banking in China, as its target county customers are mainly residents of the county and county-level cities, private businesses (and their owners) and affluent rural households. We believe these segments will benefit the most from Chinas urbanisation and west/central development. We reiterate our BUY rating and price target of HK$4.30 on the stock.
HK$3.84
HK$4.30
(set on 26 Aug 10)
12.0% 10.6% 116,511 8.0%
Catalysts
BTE 3Q10 numbers at the earnings results in Oct could act as a positive catalyst. Anchor themes Tightening is likely to lead to better loan pricing power and higher NIMs for Chinese banks, that can control deposit costs. The operating environment remains favourable for Chinese banks in 2010F, but negative sentiment from uncertainties over policies and asset quality continue to weigh on valuation.
Nomura vs consensus
Our net profit forecast is higher than consensus due to our higher NIM and lower credit cost assumptions.
Winnowing through the county

ABC is more than county area banking
County area banking business accounted for 30.4% and 40.2% of ABCs loans and deposits, respectively in 1H10. We highlight that county area banking is not about providing micro loans to farmers (Sannong), but rather supporting Chinas fast-growing agriculture business development, SMEs and tertiary industries. These businesses are benefiting from Chinas rapid urbanisation, with villages being transformed into towns and cities with their own shops, banks and bases of economic activity.
Key financials & valuations

31 Dec (RMBmn)
PPOP Reported net profit Normalised net profit Normalised EPS (RMB) Norm. EPS growth (%) Norm. P/E (x) Price/adj. book (x) Price/book (x) Dividend yield (%) RO E (%) RO A (%) Earnings revisions Previous norm. net profit Change from previous (%) Previous norm. EPS (RMB)
Source: Company, Nomura estimates
FY09 FY10F FY11F FY12F

114,070 148,744 187,320 227,256 64,992 89,594 116,511 146,227 64,992 0.25 (7.3) 13.4 2.55 2.55 2.3 20.5 0.82 89,594 116,511 146,227 0.31 22.6 10.7 1.94 1.94 1.9 20.5 0.93 0.36 17.1 8.6 1.55 1.55 5.2 20.1 1.04 0.45 25.5 6.7 1.35 1.35 6.7 21.7 1.13
89,594 116,511 146,227 0.31 0.36 0.45
Policy support for county banking

Positioned as the leading financial services provider for Chinas county development, ABC receives preferential treatment in providing banking services in rural areas. Its county area banking business is subject to a Required Reserve Ratio (RRR) of 13.5% currently, versus 17.0% for peers. We estimate this frees up RMB106bn for loans at an additional yield of 4.14%, boosting FY10F NPAT by 5%. Moreover, its county area banking is subject to a business tax rate of 3%, against an industry standard of 5%. With Chinas 12th Five-Year Plan focusing on urbanisation, we believe ABC will be one of the biggest potential beneficiaries.
Share price relative to MSCI China

(HK$) 4.1 3.9 3.7 3.5 3.3 3.1 Sep10 1m 10.7 10.8 6.8 3m na na na J ul10
Price Rel MSCI China
130.000 110.000 90.000 70.000 50.000 30.000 10.000 -10.000
ABC can manage asset quality to boost profitability

We believe ABC has strong risk management and selective pricing to ensure high ROAs from county business are not offset by higher credit costs. For loans made since 2004 (92.8% of its total loans as at end-FY09), the NPL ratio stood at 2.33% at end-FY09 (versus an ABC group NPL ratio of 2.91% and NPL ratio for loans made before 2004 of 10.49%). We take this as an indication that legacy asset quality issues at ABC have largely been addressed, with asset quality seen improving in step with Chinas strong economic development.
Absolute (HK$) Absolute (US$) Relative to Index Market c ap (US$mn) Estimated free float (%) 52-week range (HK$) 3-mth avg daily turnover (US$mn) Stock borrowability Major shareholders (%) MOF Huijin
6m na na na 160,669 62.0 3.92/3.21 103.4 Easy 39.2 40.0
Nomura
142
29 September 2010
Agricultural Bank of China
Lucy Feng
Valuation methodology
Our TP of HK$4.30 is based on 2.06x P/BV applied to the average FY10F and FY11F BVPS. Our sustainable ROE is 16.2 %. We use a Gordon Growth model (target P/BV = (sustainable ROE long-term growth)/(cost of equity long-term growth)) to derive our fair P/BV range, assuming a cost of equity of 12% and a terminal growth rate of 8.1%. We derive our terminal growth rate by applying a 50% payout ratio to our longterm sustainable ROE assumption.

Being one of the largest banks in China, ABC remains closely tied to the Chinese economy. We believe that more-severe-than-expected macro tightening could result in a sharp rise in bad debt costs. Specifically for ABC, the government may implement certain policies in county areas which might or might not be of benefit to ABC. A slowing economy would likely have negative implications for loan growth and asset quality. The concepts of market and operations-related risks have only been introduced into Chinas banking system in recent years, and the system itself has yet to go through a full credit cycle. Therefore, there is no historical data showing how Chinese banks may perform under a more testing credit environment.
Nomura
143
29 September 2010
Lucy Feng
Financial statements
Profit and Loss (RMBmn) Year-end 31 Dec Interest income Interest expense Net interest income Net fees and commissions Trading related profits Other operating revenue Non-interest income Operating income Depreciation Amortisation Operating expenses Employee share expense Op. profit before provisions Provisions for bad debt Other provision charges Operating profit Other non-operating income Associates & JCEs Pre-tax profit Income tax Net profit after tax Minority interests Other items Preferred dividends Normalised NPAT Extraordinary items Reported NPAT Dividends Transfer to reserves Valuation and ratio analysis FD normalised P/E (x) FD normalised P/E at price target (x) Reported P/E (x) Dividend yield (%) Price/book (x) Price/adjusted book (x) Net interest margin (%) Yield on interest earning assets (%) Cost of interest bearing liabilities (%) Net interest spread (%) Non-interest/operating income (%) Cost to income (%) Effective tax rate (%) Dividend payout (%) ROE (%) ROA (%) Operating ROE (%) Operating ROA (%) Growth (%) Net interest income Non-interest income Non-interest expenses Pre-provision earnings Net profit Normalised EPS Normalised FDEPS
Source: Nomura es timates
FY08 321,855 (121,852) 200,003 23,798 (571) (9,214) 14,013 214,016 (11,423) (98,752) 103,841 (39,858) (11,620) 52,363 (14) 52,349 (896) 51,453 21 51,474 51,474 51,474
FY09 296,147 (114,508) 181,639 35,640 271 6,087 41,998 223,637 (10,775) (98,792) 114,070 (44,289) 4,147 73,928 73,928 (8,926) 65,002 (10) 64,992 64,992 (20,000) 44,992
FY10F 393,975 (165,223) 228,752 43,505 48 3,001 46,553 275,305 (11,314) (115,247) 148,744 (30,843) 117,902 117,902 (28,296) 89,605 (11) 89,594 89,594 (20,159) 69,435
FY11F 479,534 (204,190) 275,344 53,467 421 3,168 57,056 332,400 (11,879) (133,200) 187,320 (35,003) 152,318 152,318 (35,795) 116,523 (12) 116,511 116,511 (52,435) 64,076
FY12F 587,056 (265,637) 321,419 65,975 611 4,690 71,276 392,695 (12,473) (152,966) 227,256 (36,092) 191,164 191,164 (44,923) 146,240 (13) 146,227 146,227 (65,808) 80,419
12.9 14.4 12.9 3.0 3.0 3.13 5.03 2.01 3.02 6.5 51.5 1.7 (23.5) 0.84 (24.0) 0.85
13.4 15.1 13.4 2.3 2.5 2.5 2.28 3.71 1.51 2.20 18.8 49.0 12.1 30.8 20.5 0.82 23.3 0.93
10.7 11.9 10.7 1.9 1.9 1.9 2.49 4.29 1.87 2.42 16.9 46.0 24.0 22.5 20.5 0.93 27.0 1.22
8.6 9.6 8.6 5.2 1.6 1.6 2.63 4.58 2.01 2.57 17.2 43.6 23.5 45.0 20.1 1.04 26.3 1.36
6.7 7.5 6.7 6.7 1.4 1.4 2.69 4.92 2.28 2.64 18.2 42.1 23.5 45.0 21.7 1.13 28.3 1.48
Solid NIM growth
21.8 (27.3) 47.8 (4.6) 17.6 (25.1) (25.1)
(9.2) 199.7 0.0 9.9 26.3 (7.3) (7.3)
25.9 10.8 16.7 30.4 37.9 22.6 22.6
20.4 22.6 15.6 25.9 30.0 17.1 17.1
16.7 24.9 14.8 21.3 25.5 25.5 25.5
Nomura
144
29 September 2010
Lucy Feng
Balance Sheet (RMBmn) As at 31 Dec Cash and equivalents Inter-bank lending Deposits with central bank Total securities Other interest earning assets Gross loans Less provisions Net loans Long-term investments Fixed assets Goodwill Other intangible assets Other non IEAs Total assets Customer deposits Bank deposits, CDs, debentures Other interest bearing liabilities Total interest bearing liabilities Non interest bearing liabilities Total liabilities Minority interest Common stock Preferred stock Retained earnings Proposed dividends Other equity Shareholders' equity Total liabilities and equity Non-performing assets (RMB) Balance sheet ratios (%) Loans to deposits Equity to assets Asset quality & capital NPAs/gross loans (%) Bad debt charge/gross loans (%) Loss reserves/assets (%) Loss reserves/NPAs (%) Tier 1 capital ratio (%) Total capital ratio (%) Growth (%) Loan growth Interest earning assets Interest bearing liabilities Asset growth Deposit growth Per share Reported EPS (RMB) Norm EPS (RMB) Fully diluted norm EPS (RMB) DPS (RMB) PPOP PS (RMB) BVPS (RMB) ABVPS (RMB) NTAPS (RMB)
FY08 107,147 1,145,884 2,269,060 246,370 3,100,159 (85,175) 3,014,984 155 103,883 17,107 109,761 7,014,351 6,097,428 346,894 51,774 6,496,096 227,714 6,723,810 96 260,000 12,022 18,423 290,445 7,014,351 134,067
FY09
FY10F
FY11F
FY12F
111,128 124,463 139,399 156,127 1,517,806 2,038,857 2,220,775 2,327,528 2,504,496 2,787,232 3,102,115 3,452,826 421,093 463,202 509,523 560,475 4,138,187 4,933,182 6,005,136 7,362,171 (126,692) (152,862) (182,811) (214,804) 4,011,495 4,780,319 5,822,325 7,147,367 141 141 141 141 111,973 114,212 116,497 118,827 19,659 17,693 15,924 14,331 184,797 68,622 69,309 70,002 8,882,588 10,394,743 11,996,007 13,847,623 7,497,618 8,708,128 10,135,681 11,801,584 714,218 763,475 825,933 901,717 163,681 223,762 234,852 247,050 8,375,517 9,695,366 11,196,465 12,950,351 164,146 167,842 171,653 175,586 8,539,663 9,863,208 11,368,119 13,125,937 106 107 108 109 260,000 324,794 324,794 324,794 39,817 20,000 23,002 342,819 (8,660) 20,159 195,134 531,428 33,286 52,435 217,264 627,780 86,513 65,808 244,462 721,577
High deposit growth
8,882,588 10,394,743 11,996,007 13,847,623 120,241 101,260 106,159 132,218
50.8 4.1
55.2 3.9
56.7 5.1
59.2 5.2
62.4 5.2
4.3 1.29 1.21 63.5 8.0 9.4
2.9 1.07 1.43 105.4 7.7 10.1
2.1 0.63 1.47 151.0 9.7 12.9
1.8 0.58 1.52 172.2 9.6 12.4
1.8 0.49 1.55 162.5 9.2 11.8
11.3 31.7 10.8 32.2 15.3
33.1 26.3 28.9 26.6 23.0
19.2 19.0 15.8 17.0 16.1
21.8 15.7 15.5 15.4 16.4
22.8 15.7 15.7 15.4 16.4
0.27 0.27 0.27 0.54 1.12 1.12 1.05
0.25 0.25 0.25 0.08 0.44 1.32 1.32 1.24
0.31 0.31 0.31 0.06 0.51 1.64 1.64 1.58
0.36 0.36 0.36 0.16 0.58 1.93 1.93 1.88
0.45 0.45 0.45 0.20 0.70 2.22 2.22 2.18
Nomura
145
29 September 2010
Angang Steel 3 4 7 H K
B AS I C M AT E R I AL S / M E T AL S & M I N I N G | C H I N A
Maintained
Josephine Ho
+852 2252 2177
josephine.ho@nomura.com
BUY
Source: Nomura
Action
We reaffirm BUY on Angang with a price target of HK$16. Semi-integrated to iron ore, for which prices are reviewed every six months, Angang appears better positioned than its non-integrated peers. Also, Angang has been aggressive in consolidating domestic steel producers.
HK$12.62
HK$16.00
(s et on 20 Sep 10)
26.8% 21.8% 6,333 2.1%
Catalysts
Steel demand growth; steel price movement; government policy changes; interest rate changes; price movement of raw material prices. Anchor themes We believe that steel equities in China/Taiwan are likely to range-trade. Since iron ore spot prices tend to move in tandem with steel prices, there will be little room for steel makers to significantly lift margins if iron ore contract prices are reviewed monthly.
Nomura vs consensus
Our price target is higher than consensus, as we place a higher value on Angangs integration to iron ore.
Solid beneficiary of volatile iron ore prices

Steel price gains from power rationing in China
Power rationing in China, part of the country's efforts to reduce energy consumption and pollution emissions, has limited steel production (particularly at small mills that focus on long steel) and hence supported domestic steel prices in China. Hebei province, which accounts for 25% of Chinas total steel production capacity, shut 57 blast furnaces and production lines with effect from 4 September after local authorities restricted power supplies in order to meet year-end efficiency targets. Elsewhere, steel mills in several eastern Chinese provinces including Jiangsu and Zhejiang have seen output reduced as a result of strict measures aimed at curtailing electricity consumption. According to the China Iron & Steel Association (CISA), daily crude steel production at its 77 member mills was down 2% in the final 11 days of August compared with the middle 10 days of August, following an increase in mid-August due to rising steel prices. We expect September crude steel production to decline again due to power rationing.

31 Dec (RMBmn)
Revenue Reported net profit Normalised net profit Normalised EPS (RMB) Norm. EPS growth (%) Norm. P/E (x) EV/EBITDA (x) Price/book (x) Dividend yield (%) ROE (%) Net debt/equity (%) Earnings revisions Previous norm. net profit Change from previous (%) Previous norm. EPS (RMB)
So urce: Comp any, Nomura estimates

70,057 752 752 0.10 (74.9) 100.3 13.4 1.4 0.6 1.4 58.6 92,755 104,256 106,679 4,681 6,333 6,731 4,681 6,333 6,731 0.65 0.88 0.93 522.5 35.3 6.3 16.1 11.9 11.2 6.0 5.3 5.2 1.4 1.3 1.3 2.5 3.4 3.6 8.7 11.1 11.4 32.1 31.0 29.9 4,681 0.65 6,333 0.88 6,731 0.93

(HK$) 20 18 16 14 12 10 8 Nov09 May10 Aug10 3m 17.1 17.2 14.1 6m (12.5) (12.5) (14.0) 11,762 32.7 18.24/9.08 26.99 Hard 67.3 Oct09 Mar10 Apr10 Dec09 Sep09 Jan10 Feb10 Jun10 Jul10
110 100 90 80 70 60 50
Consolidation to ensure market position

Angang, being one of the major players involved in consolidation, looks set to be a big beneficiary of steel M&A. In addition to consolidating Pangang (000629 CH, not rated), it has been reported that Angangs integration with Bengang (000761 CH, not rated) is likely to progress further by end-2010F (source: Sina.com, The integration between Angang and Bengang might complete by 2010F, August 4 2010).
Absolute (HK$) Absolute (US$) Relative to Index Market cap (US$mn) Estimated free float (%) 52-week range (HK$) 3-mth avg daily turnover (US$mn) Stock borrowability Major shareholders (%) Angang Group
1m 8.8 9.0 5.0
Nomura
146
29 September 2010
Angang Steel
Josephine Ho
Capacity to reach 60mt by 2015F

In Angangs latest development plan, released in July 2010, the company targeted crude steel capacity of 60mtpa by 2015F (the end of Chinas 12th Five Year Plan). Post the mergers with Pangang and Bengang, we expect crude steel capacity at the new Angang Group to reach 53mt, just 7mtpa shy of the target. Angang has crude capacity of 25mtpa; Pangangs crude steel capacity is 8mtpa; and Bengangs crude steel capacity is 20mtpa.
BUY reaffirmed; PT of HK$16 unchanged

We reiterate our BUY on Angang and price target of HK$16.0, based on 1.7x FY11F P/BV. Our methodology is unchanged. Investment risks include a delay in price recovery, disappointing supply-demand balance, and poor execution of stimulus.
Exhibit 177. Angang: 1-year forward P/BV band

(x) 4.5 4.0 3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0 May-01 May-03 May-05 May-07 May-09 May-09 Jan-00 Sep-00 Jan-02 Sep-02 Jan-04 Sep-04 Jan-06 Sep-06 Jan-08 Sep-08 Jan-10 Jan-10
147
1-year forward PB
One standard above = 1.7x Average = 1.0x One standard below = 0.3x
Note: Angang was re-rated after 2006 after becoming an fully integrated (to blast furnace) steel company Source: Nomura estimates
Exhibit 178. Angang: 1-year forward P/E band

(x) 90 80 70 60 50 40 30 20 10 0 (10) Jan-00 1-year forward PE
One standard above = 31x Average = 14x
One standard below = -2x May-01 May-03 May-05 May-07 Sep-00 Jan-02 Sep-02 Sep-04 Jan-04 Jan-06 Sep-06 Jan-08 Sep-08
Note: Angang was re-rated after 2006 after becoming an fully integrated (to blast furnace) steel company Source: Nomura estimates
Nomura
29 September 2010
Angang Steel
Josephine Ho
Income statement (RMBmn) Year-end 31 Dec Revenue Cost of goods sold Gross profit SG&A Employee share expense Operating profit EBITDA Depreciation Amortisation EBIT Net interest expense Associates & JCEs Other income Earnings before tax Income tax Net profit after tax Minority interests Other items Preferred dividends Normalised NPAT Extraordinary items Reported NPAT Dividends Transfer to reserves Valuation and ratio analysis FD normalised P/E (x) FD normalised P/E at price target (x) Reported P/E (x) Dividend yield (%) Price/cashflow (x) Price/book (x) EV/EBITDA (x) EV/EBIT (x) Gross margin (%) EBITDA margin (%) EBIT margin (%) Net margin (%) Effective tax rate (%) Dividend payout (%) Capex to sales (%) Capex to depreciation (x) ROE (%) ROA (pretax %) Growth (%) Revenue EBITDA EBIT Normalised EPS Normalised FDEPS Per share Reported EPS (RMB) Norm EPS (RMB) Fully diluted norm EPS (RMB) Book value per share (RMB) DPS (RMB)
FY08 78,985 (70,839) 8,146 (3,685) 4,461 9,236 (4,775) 4,461 (694) 80 3,847 (854) 2,993
FY09 70,057 (65,904) 4,153 (2,512) 1,641 7,910 (6,269) 1,641 (764) 877 (166) 711 41 752 752 (434) 318
FY10F 92,755 (79,703) 13,052 (5,565) 7,487 15,561 (8,074) 7,487 (1,636) 5,851 (1,170) 4,681 4,681 4,681 (1,872) 2,809
FY11F 104,256 (88,456) 15,800 (6,255) 9,545 17,776 (8,231) 9,545 (1,628) 7,916 (1,583) 6,333 6,333 6,333 (2,533) 3,800
FY12F 106,679 (91,538) 15,141 (6,401) 8,740 17,824 (9,084) 8,740 (326) 8,414 (1,683) 6,731 6,731 6,731 (2,693) 4,039
We expect earnings to bottom out in FY09F and rise from FY10F
2,993 2,993 (1,519) 1,474
26.9 34.1 26.9 1.9 7.5 1.5 11.1 22.8 10.3 11.7 5.6 3.8 22.2 50.8 18.6 3.1 5.6 5.3
100.3 127.2 100.3 0.6 176.2 1.4 13.4 64.7 5.9 11.3 2.3 1.1 18.9 57.7 9.1 1.0 1.4 1.7
16.1 20.4 16.1 2.5 10.3 1.4 6.0 12.5 14.1 16.8 8.1 5.0 20.0 40.0 8.9 1.0 8.7 8.0
11.9 15.1 11.9 3.4 7.4 1.3 5.3 9.8 15.2 17.1 9.2 6.1 20.0 40.0 8.0 1.0 11.1 10.7
11.2 14.2 11.2 3.6 5.8 1.3 5.2 10.7 14.2 16.7 8.2 6.3 20.0 40.0 7.8 0.9 11.4 9.6
21.0 (39.7) (59.7) (60.3) (60.3)
(11.3) (14.4) (63.2) (74.9) (74.9)
32.4 96.7 356.2 522.5 522.5
12.4 14.2 27.5 35.3 35.3
2.3 0.3 (8.4) 6.3 6.3
0.41 0.41 0.41 7.32 0.21
0.10 0.10 0.10 7.23 0.06
0.65 0.65 0.65 7.62 0.26
0.88 0.88 0.88 8.14 0.35
0.93 0.93 0.93 8.14 0.37
Nomura
148
29 September 2010
Angang Steel
Josephine Ho
Cashflow (RMBmn) Year-end 31 Dec EBITDA Change in working capital Other operating cashflow Cashflow from operations Capital expenditure Free cashflow Reduction in investments Net acquisitions Reduction in other LT assets Addition in other LT liabilities Adjustments Cashflow after investing acts Cash dividends Equity issue Debt issue Convertible debt issue Others Cashflow from financial acts Net cashflow Beginning cash Ending cash Ending net debt
FY08 9,236 5,455 (3,974) 10,717 (14,684) (3,967) (1,377) 5 77 (5,262) (3,977) 4,425 55 503 (4,759) 7,733 2,974 23,192
FY09 7,910 (3,653) (3,829) 428 (6,341) (5,913) 853 (143) 23 368 (4,812) (1,519) 3,056 2,543 4,080 (732) 2,974 2,242 30,623
FY10F 15,561 (1,789) (6,424) 7,349 (8,300) (951) (951) (434) (300) 14,295 13,561 12,610 2,242 14,852 17,713
FY11F 17,776 (891) (6,644) 10,241 (8,300) 1,941 1,941 (1,872) (300) (599) (2,771) (830) 14,852 14,023 18,242
FY12F 17,824 (154) (4,596) 13,074 (8,300) 4,774 4,774 (2,533) (300) (1,612) (4,445) 329 14,023 14,351 17,614
Balance sheet (RMBmn) As at 31 Dec Cash & equivalents Marketable securities Accounts receivable Inventories Other current assets Total current assets LT investments Fixed assets Goodwill Other intangible assets Other LT assets Total assets Short-term debt Accounts payable Other current liabilities Total current liabilities Long-term debt Convertible debt Other LT liabilities Total liabilities Minority interest Preferred stock Common stock Retained earnings Proposed dividends Other equity and reserves Total shareholders' equity Total equity & liabilities Liquidity (x) Current ratio Interest cover Leverage Net debt/EBITDA (x) Net debt/equity (%) Activity (days) Days receivable Days inventory Days payable Cash cycle
FY08 2,974 5,796 10,372 3,658 22,800 2,252 43,256 18 26,500 94,826 8,601 13,383 2,165 24,149 17,565 141 41,855
FY09 2,242 7,887 10,658 5,851 26,638 1,399 53,807 13 21,269 103,126 21,363 13,733 2,732 37,828 11,502 139 49,469 1,366 7,235 45,056
FY10F 14,852 7,942 8,546 6,082 37,421 1,399 46,993 13 16,054 101,880 21,213 10,043 2,806 34,062 11,352 45,414 1,366 7,235 47,865
FY11F 14,023 8,926 9,615 5,959 38,523 1,399 49,660 13 15,460 105,054 21,063 11,145 2,745 34,953 11,202 46,155 7,235 51,664
FY12F 14,351 9,134 9,951 5,960 39,395 1,399 49,155 13 15,182 105,144 20,913 11,534 2,746 35,193 11,052 46,245 7,235 51,664
7,235 45,736
52,971 94,826
52,291 103,126
55,100 101,880
58,899 105,054
58,899 105,144
0.94 6.4
0.70 2.1
1.10 4.6
1.10 5.9
1.12 26.8
Abundant cash and low gearing ratio to support future M&A
2.51 43.8
3.87 58.6
1.14 32.1
1.03 31.0
0.99 29.9
35.2 49.3 57.8 26.8
35.6 58.2 75.1 18.8
31.1 44.0 54.4 20.7
29.5 37.5 43.7 23.3
31.0 39.1 45.3 24.8
Nomura
149
29 September 2010
Anhui Conch Cement 9 1 4 H K

B AS I C M AT E R I AL S / C O N S TR U C TI O N M AT E R I AL S | C H I N A
Maintained
Josephine Ho
+852 2252 2177
josephine.ho@nomura.com
BUY
Source: Nomura
Action
Anhui Conch remains one of our top picks in the cement sector, for its leading market position, solid management and growing presence in western China. Power rationing across East and Central China will likely lead to better-than-expected 3Q10 earnings. We reiterate our BUY rating and price target of HK$36.3.
HK$33.60
HK$36.30
(set on 11 Jan 10)
8.0% 11.8% 5,544 -3.6%
Catalysts
Catalysts are seen in stronger-than-expected demand growth, faster cement price hikes, industry consolidation and favourable government policies. Anchor themes We consider cement the best proxy for Chinas investment-driven economic growth, since it is used 100% in the construction sector. Nomuras China economics team calls for 30% y-y FAI growth in 2010F, providing solid support to the cement demand outlook.
Nomura vs consensus
The street has been catching up with our previously above-consensus bullish call.
Windfall from power rationing

Beneficiary of power rationing
Thanks to the power rationing in East and Central China since mid August, cement prices have seen a rapid rise in these two areas. Prices at East China averaged RMB 318/t in August, up 11% y-y and 5% m-m. Prices Zhejiang province, where power rationing was applied earliest and most extensively, shot up 32% y-y and 18% m-m to RMB368/t in August, while prices in neighbouring Shanghai city also grew 15% y-y and 3% m-m to RMB343/t due to supply cuts. Cement prices in Central China also benefited from power rationing, albeit this was applied on a smaller scale, up 3% m-m and flat y-y to RMB293/t in August. Hubei province led the central market in August, with prices up 9% y-y and 10% m-m to RMB327/t, while prices in Anhui Conchs headquarters, Anhui Province, averaged RMB285/t, up 8% y-y and flat m-m. Since the East and Central China markets combined represented 65% of Anhui Conchs 1H10 sales, we believe Anhui Conchs 3Q10 results will likely beat the market, backed by higher margins. According to Anhui Conch, this round of price increases was pushed by both supply cuts from power rationing and price collaborations across its major markets as cement producers have outgrown the traditional price wars. According to reports, this round of power rationing could last until year-end; we expect prices in East/Central China to stay strong through 2H backed by potential supply cuts and strong seasonality (Source: Huaxia Times, Power Rationing Will Expand to 14 provinces, Sept 10).

31 Dec (RMBmn)

24,998 3,506 3,506 1.98 28.1 14.0 8.5 1.7 1.1 13.3 21.0 31,132 4,528 4,528 1.28 (35.4) 21.7 6.9 3.1 0.7 15.0 34.8 4,528 1.28 36,828 5,544 5,544 1.57 22.4 17.7 5.6 2.7 0.8 16.1 27.1 5,544 1.57 43,481 6,995 6,995 1.98 26.2 14.0 4.5 2.3 1.1 17.6 19.7 6,995 1.98

(HK$) 36 34 32 30 28 26 24 22 20 Nov09 Sep09
120 110 100 90 80 70 May10
Mar10
Jan10
Prices strong in South China

South China (Guangdong and Guangxi) represented 25% of Anhui Conchs 1H10 sales. Cement prices in Guangdong remained strong through January-August, up 4% year to August and 55% y-y backed by the accelerating construction of infrastructure and stadiums for the 2010 Asian Games in November. In Guangxi, cement prices appreciated
Absolute (HK$) Absolute (US$) Relative to Index Market cap (US$mn) Estimated free float (%) 52-week range (HK$) 3-mth avg daily turnover (US$mn) Stock borrowability Major shareholders (%) Anhui Conch Holdings
1m 24.4 24.6 20.6
Jul10 3m 27.0 27.2 24.1 6m 36.9 36.8 35.4 7,646 80.1 33.90/21.50 22.96 Easy 29.7
Nomura
150
29 September 2010
Anhui Conch Cement
Josephine Ho
by 15% y-y and 1% m-m in August, given strong demand in neighbouring Guangdong province. it is reported that Guangxi joined the power-rationing club from September 4, 2010 till end 2010. (Source: China Cement Net, Cement prices increased across China due to supply cuts, Sept 8). With potential supply cuts versus recovering demand in 2H10, we expect cement prices in Guangxi to increase further, thus pushing up prices in neighbouring Guangdong province.
Accelerating expansion in West China

In our view, Anhui Conchs long-term strategy is to gain market share at the national level. Despite being a relative laggard in the West China market (Northwest and South West market combined), Anhui Conch had grown its clinker capacity in West China to 209.8mt as of 2009 (27.8% of its FY09 total) and expects to add another 48.5mt by 2010F. The northwest market is the most profitable market for Anhui Conch, with the highest profit/t of some RMB100/t (vs Conchs average of RMB60/t in 2009). We remain upbeat about the 2H10 outlook of the Northwest market given significant government investment in local infrastructure. However, the Southwest market (Sichuan, Chongqing and Guizhou province), which used to be a high-margin market, might become a laggard this year for Anhui Conch given the rapid price slides in Sichuan and neighbouring provinces from overcapacity, which was exacerbated by plummeting demand during the floods in July-August. While we were encouraged to see Sichuan cement prices finally stabilizing at RMB314/t in August, after dropping 28% year to August, we remain cautious on the long-term outlook of the Southwest China market as overcapacity issues still persist.
BUY maintained, with price target of HK$36.30

We maintain our BUY call on Anhui Conch with a price target of HK$36.3, based on 12.2x 2011F EV/EBITDA to reflect the latest market valuation. Growing demand, solid price profit in South China, rising profit in east China, and growing market share in west China should buoy the shares. Anhui Conch is one of our top picks in the Greater China cement universe to play the industry consolidation theme. Investment risks: potential slower-than-expected execution of government spending; lower-than-expected demand; and slower-than-expected supply increases would impact our earnings estimates .
Nomura
151
29 September 2010
Anhui Conch Cement
Josephine Ho
FY08 24,228 (18,321) 5,908 (1,822) 4,086 5,526 (1,403) (38) 4,086 (821) 4 3,269 (591) 2,678 (71) 2,607 2,607 (391) 2,216
FY09 24,998 (17,971) 7,027 (2,066) 4,961 6,442 (1,429) (52) 4,961 (451) (1) 4,508 (882) 3,626 (121) 3,506 3,506 (526) 2,980
FY10F 31,132 (21,326) 9,805 (2,800) 7,006 8,706 (1,642) (58) 7,006 (1,183) 5 5,827 (1,049) 4,778 (251) 4,528 4,528 (679) 3,849
FY11F 36,828 (24,877) 11,951 (3,375) 8,576 10,496 (1,855) (64) 8,576 (1,446) 5 7,135 (1,284) 5,851 (307) 5,544 5,544 (832) 4,712
FY12F 43,481 (28,705) 14,776 (4,121) 10,654 12,793 (2,068) (71) 10,654 (1,657) 5 9,002 (1,620) 7,382 (387) 6,995 6,995 (1,049) 5,946
20.1 21.7 19.1 0.7 10.5 2.1 10.2 13.8 24.4 22.8 16.9 10.8 18.1 15.0 20.0 3.4 14.8 12.6
14.0 15.1 14.0 1.1 7.5 1.7 8.5 11.1 28.1 25.8 19.8 14.0 19.6 15.0 30.5 5.3 13.3 12.6
21.7 23.4 21.7 0.7 31.5 3.1 6.9 8.6 31.5 28.0 22.5 14.5 18.0 15.0 24.5 4.6 15.0 15.0
17.7 19.1 17.7 0.8 11.5 2.7 5.6 6.9 32.5 28.5 23.3 15.1 18.0 15.0 17.6 3.5 16.1 16.4
14.0 15.2 14.0 1.1 10.8 2.3 4.5 5.4 34.0 29.4 24.5 16.1 18.0 15.0 14.9 3.1 17.6 18.5
We assume a steady dividend payout
29.0 5.2 (0.5) (2.1) (6.8)
3.2 16.6 21.4 28.1 34.5
24.5 35.1 41.2 (35.4) (35.4)
18.3 20.6 22.4 22.4 22.4
18.1 21.9 24.2 26.2 26.2
1.55 1.55 1.48 13.83 0.22
1.98 1.98 1.98 16.01 0.30
1.28 1.28 1.28 9.10 0.19
1.57 1.57 1.57 10.43 0.24
1.98 1.98 1.98 12.11 0.30
Nomura
152
29 September 2010
Anhui Conch Cement
Josephine Ho
FY08 5,526 628 (1,417) 4,738 (4,836) (98) (0) (1,047) 70 (547) (1,622) (4) 11,282 (3,931) (342) 7,004 5,382 1,418 6,799 4,029
FY09 6,442 1,702 (1,629) 6,515 (7,628) (1,113) 4 (3,092) 424 5,238 1,461 (526) (1,252) (2,855) (4,633) (3,172) 6,799 3,627 5,950
FY10F 8,706 (3,504) (2,086) 3,115 (7,628) (4,513) (5,877) (712) (193) (11,295) (679) 8,015 6,732 14,068 2,773 3,627 6,400 11,192
FY11F 10,496 745 (2,735) 8,506 (6,484) 2,022 747 (1,859) 910 (832) 6,412 1,116 6,697 7,607 6,400 14,006 9,998
FY12F 12,793 (427) (3,281) 9,085 (6,484) 2,600 (1,361) 2,604 3,844 (1,049) 5,130 (1,239) 2,841 6,685 14,006 20,691 8,443
FY08 6,799 5,184 1,870 19 13,872 163 26,431 264 1,653 42,384 4,795 6,086 293 11,174 6,033 289 17,496 466 1,766 22,655
FY09 3,627 4,694 2,172 16 10,509 160 31,098 493 4,745 47,004 4,183 7,724 166 12,073 5,394 712 18,179 537 1,766 26,521 28,287 47,004
FY10F 6,400 4,972 3,382 14,754 160 30,397 442 10,622 56,374 4,598 5,859 10,457 12,994 23,450 788 1,766 30,369 32,136 56,374
FY11F 14,006 5,882 2,703 22,591 160 35,665 490 9,875 68,781 4,930 6,834 11,764 19,074 30,838 1,095 1,766 35,082 36,848 68,781
FY12F 20,691 6,945 3,119 30,754 160 38,607 538 11,236 81,295 5,196 7,885 13,082 23,938 37,019 1,482 1,766 41,027 42,794 81,295
24,421 42,384
1.24 5.0
0.87 11.0
1.41 5.9
1.92 5.9
2.35 6.4
Improving balance sheet
0.73 16.5
0.92 21.0
1.29 34.8
0.95 27.1
0.66 19.7
72.6 34.3 103.5 3.3
72.1 41.1 140.2 (27.1)
56.7 47.5 116.2 (12.0)
53.8 44.6 93.1 5.3
54.0 37.1 93.8 (2.7)
Nomura
153
29 September 2010
BYD 1 2 1 1 H K
TE C H N O L O G Y / H AN D S E TS | C H I N A
Maintained
NOMURA SINGAPORE LIMITED
Chitra Gopal, CFA
+65 6433 6980
chitra.gopal@nomura.com
BUY
Closing price on 21 Sep P rice target Upside/downside Difference from consensus FY11F net profit (RMBmn) Difference from consensus
Source: Nomura
Action
3Q10 is likely to see a 15% q-q drop in auto shipments in our view, this should mark the bottom, with the stock largely pricing in weakness. BYD is now setting the stage for investment in new energy ventures, which we think should become the focus in FY11F. BUY.
HK$56.2
HK$62.0
(set on 16 Aug 10)
10.3% -17.3% 4,823 -29.1%
Catalysts
Catalysts have to emerge from (a) Inventory correction in auto ending 3Q10 marks the worst point; and (b) Contracts on new energy. Anchor themes We expect 2010 to see the birth of an electric car battery market several issues need to be addressed: a) technology is still nascent b) development of enabling factors such as battery leasing, charging infrastructure and government support.
Nomura vs consensus
We are below consensus but expect cuts after the latest results
New energy initiatives: steady progress should provide buffer

Car battery awaits government impetus
EV/PHEV consumer sales are still poor as the announced subsidies have yet to be implemented. Chinas proposed draft to invest RMB100bn for promoting an EV ecosystem is a positive move to create awareness, we believe. BYD aims to raise monthly battery
capacity for dual-mode F3DM from 100 now to 1,000 in FY11. We are skeptical of BYDs prospects in selling the electric car ex-China. We believe that for any electric car/battery maker to make a serious dent in the US market, it needs a domestic battery assembly plant and/or manufacturing facility. So far, BYD has no plans to set up either, suggesting that its US plans are more in the initial exploratory stages and with little capex directed here, risks are low, in our view.

31 Dec (RMBmn)
Revenue Reported net profit Normalised net profit Normalised EPS (RMB) Norm. EPS growth (%) Norm. P/E (x) EV/EBITDA (x) Price/book (x) Dividend yield (%) ROE (%) Net debt/equity (%) Earnings revisions Previous norm. net prof it Change from previous (%) Previous norm. EPS (RMB)
Source: Compan y, Nomura estimates

39,469 3,794 3,794 1.77 255. 2 27. 7 19. 4 6. 3 0. 7 27. 1 8. 0 45,707 4,174 4,174 1.83 3. 7 26. 7 17. 7 5. 7 0. 0 23. 1 38. 1 4,174 1.83 52,092 4,823 4,823 2.12 15.5 23.1 14.8 4.6 0.0 22.1 38.0 4,823 2.12 59,952 5,596 5,596 2.46 16.0 19.9 12.6 3.7 0.0 20.7 33.8 5,596 2.46

(HK$) 90 80 70 60 50 40 May10 Aug10 3m (11.1) (11.0) (14.1) 6m (26.3) (26.4) (27.8) 16,472 27.7 85.5/44.50 43.31 Hard 28.4 20.0 Nov09 Feb10 Sep09 Dec09 Jan10 Mar10 Jun10 Oct09 Apr10 Jul10
Pri ce R el MS CI C hi na
Auto approaching the trough

Management has earlier noted that 3Q10 has been weak; we think this should largely be expected. We maintain our forecast that BYDs 3Q10 auto shipments should fall 15% q-q (-22% q-q in 2Q10). We note the pace of correction (Aug: -6% m-m vs July: -6.5% m-m) is moderating, suggesting we are nearing the trough. Moreover, BYD is still winning share its Jan-Aug auto shipments jumped 43% y-y vs the broader sedan markets 33% y-y. With three new models to be launched in 4Q10, 3Q10 should mark the bottom, in our view.
130 120 110 100 90 80 70 60 50
New energy initiatives remain on track

BYD aims to raise battery capacity for F3DM from 100/month now to 1,000/month in FY11. It expects solar shipments to rise from 10MW now to 100MW in FY11 by targeting overseas markets, with solar capacity booked until April 2011. Management estimates this could add RMB5bn, or 11% to sales. Last, grid storage projects are in the bidding stage
Absolute (HK$) Absolute (US$) Relative to Index Mark et cap (US$mn) Estimated free float (%) 52-week range (HK$) 3-mth avg daily turnover (US$mn) Stock borrowability Major shareholders (%) Mr. Wang Chuan-fu Mr. Lu Xiang-yang
Source: Compan y, Nomura estimates
1m 21. 1 21. 3 17. 3
Nomura
154
29 September 2010
BYD
Chitra Gopal, CFA
Valuation and risk factors

Our earnings estimates and price target are unchanged. Our price target remains HK$62, broken down as follows: 1) We value BYDs core business at HK$28.9 or 12x FY11F P/E, in line with peers. 2) We value the electric car battery at HK$10.40. 3) We add on value of the utility battery at HK$22.70. We continue to exclude the solar business in setting our fair value, as we await news of anchor customers, coupled with the success of A-share listing. Risks to our price target include those facing the broader sector: 1) enabling infrastructure needs to fall in place; utilities and automakers need to work on smart charging infrastructure; 2) warranty issues need to be resolved; and 3) protecting IP.
Nomura
155
29 September 2010
BYD
Chitra Gopal, CFA
Income statement (RMBmn) Year-end 31 Dec Revenue Cost of goods sold G ross profit S G&A E mployee share expense O perating profit E BITDA Depreciation A mortisation E BIT Net interest expense A ssociates & JCEs O ther income E arnings before tax Income tax Net profit after ta x Minority interests O ther items P referred dividends Normalised NPAT E xtrao rdinary items Reported NPAT Divi dends Transfer to reserves V aluation and ratio analysis FD normalised P/E (x) FD normalised P/E at price target (x) Reported P/E (x) Divi dend yield (% ) P rice/cashflow (x) P rice/book (x) E V/EBITDA (x) E V/EBIT (x) G ro ss margin (%) E BITDA margin (% ) E BIT margin (%) Net margin (%) E ffective tax rate (%) Divi dend payout (%) Capex to sales (%) Capex to depreciati on (x) ROE (%) ROA (pretax %) G rowth (%) Reven ue E BITDA E BIT Normalised EPS Normalised FDEPS P er share Reported EPS (RMB) Norm EP S (RMB) Fully diluted norm EPS (RMB) B ook value per share (RMB) DPS (RMB)
FY08 26,788 (21,569) 5,219 (4,055) 1,164 2,495 (1,211) (120) 1,164 (401) 601 1,364 (88) 1,276 (254)
FY09 3 9,469 (30,905) 8,565 (4,488) 4,077 5,807 (1,594) (136) 4,077 (237) 669 4,509 (431) 4,078 (285)
FY10F 45,707 (36,146) 9,561 (5,235) 4,326 6,710 (2,249) (136) 4,326 (157) 716 4,885 (440) 4,445 (271)
FY11F 52,092 (41,071) 11,021 (5,937) 5,084 8,135 (2,915) (136) 5,084 (157) 692 5,618 (506) 5,113 (290)
FY12F 59,9 52 (47,193) 12,7 59 (6,802) 5,9 57 9,6 75 (3,582) (136) 5,9 57 (157) 6 93 6,4 93 (584) 5,9 08 (313)
New initiatives in solar and batteries yet to contribute to bottomline
1,021 1,021 1,021
3,794 3,794 (707) 3,086
4,174 4,174 4,174
4,823 4,823 4,823
5,5 96 5,5 96 5,5 96
98.4 108.6 98.4 75.9 8.9 47.7 102.2 19.5 9.3 4.3 3.8 6.5 23.0 5.1 9.3 4.2
27.7 30.6 27.7 0.7 8.7 6.3 19.4 27.7 21.7 14.7 10.3 9.6 9.5 18.6 18.0 4.5 27.1 11.7
26.7 29.5 26.7 26.5 5.7 17.7 27.5 20.9 14.7 9.5 9.1 9.0 21.9 4.4 23.1 9.9
23 .1 25 .5 23 .1 14 .4 4 .6 14 .8 23 .8 21 .2 15 .6 9 .8 9 .3 9 .0 19 .2 3 .4 22 .1 9 .5
19.9 22.0 19.9 12.8 3.7 12.6 20.4 21.3 16.1 9.9 9.3 9.0 16.7 2.8 20.7 9.5
Lowered growth assumptions
26.3 (9.1) (36.9) (36.6) (36.6)
47.3 132.7 250.3 255.2 255.2
15.8 15.6 6.1 3.7 3.7
14 .0 21 .2 17 .5 15 .5 15 .5
15.1 18.9 17.2 16.0 16.0
0.50 0.50 0.50 5.50 -
1.77 1.77 1.77 7.78 0.33
1.83 1.83 1.83 8.54 -
2.12 2.12 2.12 10.65 -
2.46 2.46 2.46 13.11 -
Nomura
156
29 September 2010
BYD
Chitra Gopal, CFA
Cashflow (RMBmn) Year-end 31 Dec E BITDA Change in working capital O ther operating cashflow Cashflow from operations Capital expenditure Free cashflow Reduction in investments Net acquisi tions Reduction in other LT assets A ddition in other LT liabilities A djustments Cashflow a fte r investing acts Cash dividends E quity issue Debt issue Conve rtible debt issue O thers Cashflow from financial acts Net cashflow B eginning cash E nding cash E nding net d ebt
FY08 2,495 (1,229) 58 1,324 (6,158) (4,834) 61 (188) (484) 367 426 (4,652) (701) 701 1,039 (149) (75) 814 (3,838) 5,540 1,701 7,461
FY09 5,807 6,125 84 1 2,016 (7,108) 4,908 (1) (57) (1,316) (142) 1,449 4,841 1,581 (5,519) (287) (4,226) 616 1,701 2,317 1,337
FY10F 6,710 (1,457) (1,052) 4,202 (10,000) (5,798) 450 (5,348) (707) 5,280 4,573 (776) 2,317 1,541 7,393
FY11F 8,135 27 (435) 7,727 (10,000) (2,273) 450 (1,823) 1,000 1,000 (823) 1,541 718 9,215
FY12F 9,6 75 (478) (514) 8,6 83 (10,000) (1,317) 4 50 (867) 1,0 00 1,0 00 1 33 7 18 8 52 10,0 82
Aggressive capex for FY10F
Balance sheet (RMBmn) As at 31 Dec Cash & equiva lents Marketable securities A ccounts receivable Inventories O ther current assets Total current ass ets LT investments Fixed assets G oodwill O ther intangibl e assets O ther LT assets Total assets S hort-term debt A ccounts payable O ther current liabilities Total current liabilitie s Lon g-term deb t Conve rtible debt O ther LT liabilities Total liabilities Minority interest P referred stock Common stock Retained earnings P roposed dividen ds O ther equity an d reserves Total shareholders' equity Total equity & liabilities Liquidity (x) Current ratio Interest cover Leverage Net debt/EB ITDA (x) Net debt/equity (%) Activity (da ys) Days receivable Days inventory Days payable Cash cycle
FY08 1,701 5,566 6,916 717 14,900 2 14,716 59 730 2,485 32,891 4,371 6,849 3,176 14,395 4,792 367 19,554 2,052 2,050 9,235 11,286 32,891
FY09 2,317 1 9,793 4,408 678 1 7,197 2 1 8,907 59 771 3,801 4 0,736 547 1 1,519 6,312 1 8,377 3,107 225 2 1,708 2,345 2,275 1 3,656 751 1 6,682 4 0,736
FY10F 1,541 1 11,270 5,447 678 18,937 2 26,658 59 635 3,801 50,091 1,000 11,884 7,006 19,889 7,934 225 28,047 2,616 2,275 17,109 43 19,428 50,091
FY11F 718 1 12,845 6,751 678 20,993 2 33,743 59 499 3,801 59,096 1,000 13,503 8,293 22,796 8,934 225 31,954 2,905 2,275 21,919 43 24,237 59,096
FY12F 8 52 1 14,7 83 7,7 58 6 78 24,0 71 2 40,1 61 59 3 63 3,8 01 68,4 56 1,0 00 15,5 16 8,7 46 25,2 62 9,9 34 2 25 35,4 20 3,2 18 2,2 75 27,4 99 43 29,8 18 68,4 56
1.04 2.9
0.94 17.2
0.95 27.6
0.92 32 .4
0.95 38.0
Improving BS
2.99 66.1
0.23 8.0
1.10 38.1
1.13 38 .0
1.04 33.8
75.1 97.3 106.6 65.8
71.0 66.9 108.5 29.4
84.1 49.8 118.2 15.7
84 .5 54 .2 112 .8 25 .9
84.3 56.3 112.5 28.1
Nomura
157
29 September 2010
China Blue Chemical 3 9 8 3 H K

O I L & G AS / C H E M I C AL S | C H I N A
Maintained
Gordon Wai Cheng Khoo
+852 2252 6176 +852 2252 6180
gordon.wai@nomura.com cheng.khoo@nomura.com
BUY
Source: Nomura
Action
We believe China BlueChem should be a beneficiary of the consolidation theme addressed by the 12th Five Year Plan, as the company can leverage its strong balance sheet to raise capital for further acquisitions to increase its market share in the sector. We reiterate our BUY call and price target of HK$6.0, based on FY11F ROACE/WACC (16%/7.7%).
HK$5.72
HK$6.00
(set on 31 Aug 10)
4.9% 3.6% 1,655 -2.7%
Catalysts
Upside catalysts include a rebound in fertiliser demand and higher-than-expected fertilizer and/or methanol prices and positive government policy changes. Anchor themes Over the long term, economic and population growth, coupled with limited planting acreage, should drive fertilizer demand.
Nomura vs consensus
We believe our FY11F earnings forecast are largely in-line with consensus.
Beneficiary of consolidation
Securing resources for capacity expansion
We believe industry consolidation, outdated capacity elimination and energy conservation will be the main themes for the sector in the 12th Five Year (2011-15) Plan. We believe China BlueChem should be a beneficiary of the 12th Five Year Plan as government policy is in favour of China BlueChem to acquire coal mines to secure feedstock for further urea capacity expansion and to acquire fertilizer producers to increase its market share or diversify its product mix.

31 Dec (RMBmn)

5,795 985 985 0.21 6,935 1,320 1,320 0.29 8,825 1,655 1,655 0.36 11,054 2,295 2,295 0.50
(38.8) 23.6 9.3 2.4 1.4 9.9 net cash net
34.0 25.5 38.6 17.6 14.0 10.1 7.4 5.9 4.2 2.1 1.9 1.7 1.9 2.3 3.2 12.8 14.3 17.6 cash net cash net cash 1,655 0.36 2,295 0.50
Optimistic 2H10 outlook

We are optimistic about its 2H10 fundamental outlook owing to: 1) low inventory, 2) expected strong export volumes on price arbitrage opportunities, and 3) the commencement of the autumn plantation season (mid-September to October).
1,320 0.29

(HK$) 6.3 5.8 5.3 4.8 4.3 3.8 May10 Dec09 Feb10 Nov09 Apr10 Oct09 Aug10 3m 17.7 17.9 14.8 Sep09 Jan10 Mar10 Jun10 Jul10
Price R el MSCI China
Potential natural gas price hike impact is limited

Natural gas prices are likely to trend higher and Tianyes (its facility in Inner Mongolia) profit margin should be under pressure. Tianye accounts for 28% of the companys overall urea capacity and 25% of overall methanol capacity. According to management, a feasibility study is underway to substitute natural gas with coal as a feedstock for this production plant. However, natural gas price hikes should not have any significant impact on the profit margin of its Hainan production plant, as natural gas supply for the plant is tied to a longterm contract with CNOOC Ltd.
140 130 120 110 100 90 80
Absolute (HK$) Absolute (US$) Relative to Index Market cap (US$mn) Estimated free float (%) 52-week range (HK$) 3-mth avg daily turnover (US$mn) Stock borrowability Major shareholders (%) CNOOC Group
1m 11.9 12.1 8.1
6m 15.8 15.7 14.3 3,397 28.1 5.90/4.06 3.37 Hard 61.0
Compelling valuations
Valuation is compelling. China Bluechem is trading at 14.0x FY11F P/E and 2.3x FY11F P/B, which is at a discount compared with international peers at 15.3x and 3.6x FY11F PB (Bloomberg consensus estimates). We reiterate our BUY call and PT of HK$6.0, based on FY11F ROACE/WACC (16%/7.7%). Downside risks to our call include (i) higher-than-expected natural gas price hikes, (ii) weak fertilizer prices and (iii) natural disaster.
Nomura
158
29 September 2010
China Blue Chemical
Gordon Wai
Exhibit 179. China BlueChem Valuations

Share price ^ Yr to Dec 2005 2006 2007 2008 2009 2010E 2011E 2012E 3.05 3.05 4.29 4.35 4.16 5.72 5.72 5.72 Sales Net profit Y-Y % 31 74 (12) 11 (39) 34 25 39 2,371 3,466 4,340 6,812 5,795 6,935 8,825 11,054 944 1,646 1,448 1,608 985 1,320 1,655 2,295 EPS (WA) (RMB) 0.205 0.357 0.314 0.349 0.214 0.286 0.359 0.498 P/E (x) 15.7 8.8 13.3 11.1 17.2 17.6 14.0 10.1 BVPS P/BV (RMB) 0.82 1.46 1.75 2.23 2.10 2.37 2.64 3.02 3.9 2.1 2.4 1.7 1.7 2.1 1.9 1.7 EV/ Gross div. (RMB) 0.00 0.00 0.08 0.10 0.07 0.09 0.12 0.12 13.0 5.8 8.0 5.5 6.5 7.4 5.9 4.1 Yield ROACE Gearing (%) 0.0 0.0 1.9 2.4 1.9 1.9 2.3 2.3 (%) (%) 29.0% Net Cash 24.3% Net Cash 25.0% Net Cash 24.2% Net Cash 12.2% Net Cash 14.2% Net Cash 15.9% Net Cash 20.2% Net Cash Avg. (HK$) (RMBmn) (RMBmn) (x) EBITDA (x)
2010E to 2012E earnings multiples are based on closing price of HK$5.72 on 21 September Source: Company data, Nomura estimates
Exhibit 180. China BlueChem production capacity breakdown

('000 tpa) Fudao Phase I (Hainan) Fudao Phase II (Hainan) Tianye (Inner Mongolia) Shanxi Total urea capacity Jiantao (Hainan) Hainan Tianye (Inner Mongolia) Total methanol capacity Polyoxymethylene (POM) DAP MAP Total phosphate capacity
Source: Company data, Nomura estimate
2007 520 800 520 1,840 600 200 800
2008 520 800 520 1,840 600 200 800
2009 520 800 520 1,840 600 200 800 350 150 500
2010F 520 800 520 1,840 600 800 200 1,600 60 350 150 500
2011F 520 800 520 1,840 600 800 200 1,600 60 350 150 500
2012F 520 800 520 520 2,360 600 800 200 1,600 60 700 300 1,000
Exhibit 181. Urea apparent consumption

('000 tonnes) 2006 2007 2008 2009 Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Jan-Jul 2010 Y-Y% 2006 2007 2008 2009 Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Jan-Jul 2010 9.1 14.3 3.9 13.2 13.4 3.7 (3.4) 1.2 (12.2) (5.1) (15.5) (3.4) (47.1) (98.6) (87.6) NM NM NM NM NM NM NM NM NM (12.9) 284.3 (17.0) (22.5) 162.7 46.6 221.2 274.4 220.4 521.0 66.7 110.1 (11.3) 295.1 (17.0) (23.4) 160.8 45.5 214.3 621.0 380.4 1431.4 66.7 118.3 9.8 6.2 6.1 16.3 8.1 0.0 (6.4) (1.6) (13.3) (6.5) (18.3) (6.2) Production 47,581 54,387 56,497 63,981 5,059 4,924 5,211 5,315 5,222 5,363 4,841 35,935 Import 37.55 0.54 0.07 38.80 2.92 3.93 5.19 1.05 0.00 0.12 0.02 13.23 Export 1,367 5,254 4,360 3,379 402 558 240 170 84 84 309 1,848 Net imp./(exp.) (1,330) (5,253) (4,360) (3,340) (399) (554) (235) (169) (84) (84) (309) (1,835) App. cons. 46,251 49,134 52,137 60,641 4,659 4,369 4,976 5,146 5,138 5,279 4,532 34,100
Exhibit 182. Urea prices up to August 2010

(RMB) 2,600 2,400 2,200 2,000 1,800 1,600 1,400 1,200 1,000 02 03 04 05 06 07 08 09 10
Nomura
159
29 September 2010
China Blue Chemical
Gordon Wai
Exhibit 183. Phosphate apparent consumption

('000 tonnes) 2006 2007 2008 2009 Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Jan-Jul 2010 Y-Y % 2006 2007 2008 2009 Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Jan-Jul 2010 12.3 6.0 (5.5) 18.2 50.7 6.1 2.6 6.0 27.8 21.4 21.8 17.0 (22.1) (61.8) (81.9) 340.0 NM NM 178.2 (100.0) (100.0) 788.2 (100.0) 85.7 34.9 209.7 (55.1) 46.5 (14.1) (78.8) (39.9) (8.3) 396.7 97.9 179.8 23.3 (78.8) (1784.6) (50.6) 28.5 (102.5) (101.3) (134.3) 581.4 (167.6) 97.9 245.0 11.2 7.7 (12.0) 3.2 17.3 84.8 43.9 9.8 3.3 21.4 11.4 (15.4) 17.7 Production 19,616 20,795 19,659 23,245 1,780 1,814 2,259 2,159 2,055 2,208 2,086 14,361 Import 1,460 557 101 444 190 100 132 0 0 0 0 422 Export 1,261 3,906 1,754 2,569 185 94 95 64 37 414 844 1,733 Net imp/(exp.) 199 (3,349) (1,653) (2,125) 5 6 38 (64) (37) (414) (844) (1,310) App. cons. 19,815 17,446 18,006 21,120 1,785 1,820 2,297 2,095 2,018 1,794 1,242 13,051
Exhibit 184. Phosphate (DAP) prices up to August 2010

(RMB) 5,000
4,000
3,000
2,000
1,000 02 03 04 05 06 07 08 09 10
Note: CEIC, Nomura research
Exhibit 185. Methanol apparent consumption

('000 tonnes) 2006 2007 2008 2009 Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Jan-Jul 2010 Y-Y % 2006 2007 2008 2009 Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Jan-Jul 2010 39.1 35.8 9.6 1.2 108.0 97.1 63.2 52.5 46.9 38.2 22.3 56.2 (17.1) (25.0) 69.7 268.8 (45.3) (41.4) (31.7) (18.0) (37.3) (10.3) (7.1) (27.7) 248.7 196.1 (34.6) (96.2) (73.6) NM 11.0 (18.4) (62.4) (55.5) 2869.1 481.3 (28.2) (69.9) 277.6 394.7 (45.2) (42.1) (31.7) (18.0) (37.3) (10.20 (8.5) (28.0) 25.9 24.0 16.9 35.7 47.8 28.4 21.7 24.0 12.3 22.4 12.2 22.8 Production Import 7,458 10,127 11,100 11,231 1,295 1,196 1,374 1,344 1,392 1,419 1,158 9,178 1,127 845 1,434 5,288 221 346 446 491 414 447 430 2,795 Export 190 563 368 14 0.09 3.90 0.29 0.20 0.10 0.15 6.47 11.2 Net imp/(exp.) 937 282 1,066 5,274 221 342 446 491 414 447 423 2,783 App. cons. 8,395 10,410 12,167 16,505 1,516 1,538 1,820 1,835 1,806 1,866 1,581 11,961
Exhibit 186. Methanol prices up to August 2010

(RMB) 5,000 4,500 4,000 3,500 3,000 2,500 2,000 1,500 1,000 02 03 04 05 06 07 08 09 10
Nomura
160
29 September 2010
China Blue Chemical
Gordon Wai
Income statement (RMBmn) Year-end 31 Dec Revenue Cost of goods sold Gross profit SG&A Employee share expense Operating profit EBITDA Depreciation Amortisation EBIT Net interest expense Associates & JCEs Other income Earnings before tax Income tax Net profit after tax Minority interests Other items Preferred dividends Norm alised NPAT Extraordinary items Reported NPAT Dividends Transfer to reserves Valuation and ratio analysis FD normalised P/E (x) FD normalised P/E at price target (x) Reported P/E (x) Dividend yield (%) Price/cashflow (x) Price/book (x) EV/EBITDA (x) EV/EBIT (x) Gross margin (%) EBITDA margin (%) EBIT margin (%) Net margin (% ) Effective tax rate (%) Dividend payout (%) Capex to sales (%) Capex to depreciation (x) ROE (% ) ROA (pretax %) Growth (%) Revenue EBITDA EBIT Normalised EPS Normalised FD EPS Per share Reported EPS (RMB) Norm EPS (RMB) Fully diluted norm EPS (RMB) Book value per share (RMB) DPS (RMB)
FY08 6,812 (4,505) 2,306 (376) 1,930 2,545 (600) (14) 1,930 4 5 15 1,953 (132) 1,822 (213)
FY09 5,795 (4,075) 1,719 (437) 1,283 2,283 (987) (14) 1,283 18 15 (3) 1,312 (198) 1,115 (130)
FY10F 6,935 (4,696) 2,238 (536) 1,702 2,772 (1,063) (7) 1,702 52 16 (3) 1,766 (270) 1,496 (177)
FY11F 8,825 (5,865) 2,960 (600) 2,360 3,488 (1,121) (7) 2,360 59 16 (3) 2,433 (510) 1,923 (268)
FY12F 11,054 (7,104) 3,951 (672) 3,279 4,542 (1,256) (7) 3,279 79 17 (3) 3,372 (706) 2,665 (371)
1,608 1,608 (438) 1,171
985 985 (323) 662
1,320 1,320 (432) 887
1,655 1,655 (543) 1,113
2,295 2,295 (752) 1,543
Earnings rebound in FY10F
14.7 15.4 14.7 1.9 9.6 2.3 7.8 10.2 33.9 37.4 28.3 23.6 6.7 27.2 10.4 1.2 17.5 24.4
23.6 24.8 23.6 1.4 12.2 2.4 9.3 16.4 29.7 39.4 22.1 17.0 15.1 32.8 26.8 1.6 9.9 13.2
17.6 18.5 17.6 1.9 8.2 2.1 7.4 12.0 32.3 40.0 24.5 19.0 15.3 32.8 28.8 1.9 12.8 15.4
14.0 14.7 14.0 2.3 9.7 1.9 5.9 8.7 33.5 39.5 26.7 18.8 21.0 32.8 22.7 1.8 14.3 19.1
10.1 10.6 10.1 3.2 5.6 1.7 4.2 5.7 35.7 41.1 29.7 20.8 21.0 32.8 18.1 1.6 17.6 24.3
56.9 21.0 27.2 11.1 11.1
(14.9) (10.3) (33.5) (38.8) (38.8)
19.7 21.4 32.7 34.0 34.0
27.3 25.8 38.7 25.5 25.5
25.3 30.2 38.9 38.6 38.6
0.35 0.35 0.35 2.23 0.10
0.21 0.21 0.21 2.10 0.07
0.29 0.29 0.29 2.37 0.09
0.36 0.36 0.36 2.64 0.12
0.50 0.50 0.50 3.02 0.16
Nomura
161
29 September 2010
China Blue Chemical
Gordon Wai
FY08 2,545 (146) 58 2,457 (708) 1,749 303 12 (163) 89 223 2,214 (369) (114) (265) (748) 1,466 2,781 4,246 (3,887)
FY09 2,283 (196) (178) 1,909 (1,555) 354 (652) (1,945) (351) (13) 1,138 (1,468) (438) (359) (37) (833) (2,302) 4,246 1,945 (1,944)
FY10F 2,772 352 (285) 2,839 (2,000) 839 (16) (1,600) 80 2 1,641 946 (323) (323) 624 1,945 2,568 (2,567)
FY11F 3,488 (576) (526) 2,386 (2,000) 386 (16) 7 2 82 460 (432) (432) 28 2,568 2,596 (2,595)
FY12F 4,542 332 (724) 4,149 (2,000) 2,149 (17) 7 2 104 2,245 (543) (543) 1,702 2,596 4,298 (4,297)
FY08 4,246 120 836 292 5,494 13 7,052 16 615 13,191 148 132 1,105 1,385 212 261 1,858 1,050 4,610 2,874 2,799 10,283 13,191
FY09 1,945 163 798 699 3,604 665 7,395 16 966 12,646 148 1,304 1,452 1 249 1,702 1,258 4,610 3,468 1,609 9,686 12,646
FY10F 2,568 157 544 750 4,018 681 8,622 16 886 14,223 163 1,432 1,595 1 250 1,846 1,435 4,610 4,263 2,069 10,942 14,223
FY11F 2,596 246 1,132 806 4,780 697 9,501 16 879 15,872 180 1,573 1,752 1 252 2,005 1,702 4,610 5,260 2,295 12,165 15,872
FY12F 4,298 259 898 868 6,323 714 10,245 16 872 18,170 198 1,728 1,925 1 253 2,179 2,073 4,610 6,643 2,664 13,917 18,170
Maintain net cash position
3.97 na
2.48 na
2.52 na
2.73 na
3.28 na
net cash net cash
net cash net cash
net cash net cash
net cash net cash
net cash net cash
5.0 50.3 6.4 48.8
8.9 73.2 12.5 69.6
8.4 52.1 12.1 48.4
8.3 52.1 10.7 49.8
8.4 52.3 9.7 50.9
Nomura
162
29 September 2010
China Everbright International 2 5 7 H K

P O W E R & U TI L I TI E S | C H I N A
Maintained
Ivan Lee, CFA Elaine Wu
+852 2252 6213 +852 2252 2194
ivan.lee@nomura.com elaine.wu@nomura.com
BUY
Closing price on 21 Sep HK$3.62
Action
CEI stands to be a major beneficiary of the 12 Five Year Plan from its exposure in wastewater treatment and WTE. Project growth remains healthy with recent wins in Guangdong and Anhui. Trading at 18x FY11F EPS, vs peers 16x, we think the premium is warranted as WTE expansion should provide higher returns. We believe potential new projects would be catalysts for share price. Reaffirming BUY.
th
Price target Upside/downside Difference from consensus FY11F net profit (HK$mn) Difference from consensus
Source: Nomura
HK$5.50
(set on 1 Feb 10)
51.9% 27.9% 732 2.2%
Catalysts
Recent equity funding has strengthened its internal war chest to bring in further projects in environment protection. CEIs growth profile is becoming more visible. Anchor themes Chinas per capita water resources are only a quarter of the global average, while its water consumption (per unit of GDP) is 5.5x the global average. Shortages, pollution, geographical disparity and inefficient water use cost 8-10% of the nations GDP. More than 400 cities suffer water shortages of 16mn m3/day.
Nomura vs consensus
We believe CEI will continue project execution in FY10-11F, driving growth. Longer term, new projects would likely trigger upgrades to consensus estimates.
The quality name in WTE

Strong policy support expected from 12 Five Year Plan
th

31 Dec (HK$mn)
Revenue Reported net profit Normalised net profit Normalised EPS (HK$) Norm. EPS growth (%) Norm. P/E (x) EV/EBITDA (x) Price/book (x) Dividend yield (%) ROE (%) Net debt/equity (%) Earnings revisions Previous norm. net profit Change from previous (%) Previous norm. EPS (HK$)

1,766 372 367 0.11 18.5 34.0 20.5 2.9 0.6 10.1 23.6 3,090 593 593 0.16 50.6 22.4 15.6 2.6 0.9 12.3 41.0 593 0.16 3,778 732 732 0.20 23.5 18.0 13.1 2.3 1.1 13.7 57.0 732 0.20 4,278 888 888 0.24 21.2 14.8 11.0 2.1 1.4 14.8 65.6 888 0.24
We expect continued support from Chinas central government policies on wastewater treatment (potential investment of RMB700bn during 2011-15F) and expansion of waste-to-energy plants (300 WTE plants by end-FY15F, from ~100 in FY08). As a leader in WTE with already high emissions standards, we believe CEI will benefit from the growth in the WTE sector.
Recent new projects underpin continued growth

During 1H10, CEI secured nine projects, including a WTE project in Huidong county, Guangdong, a wastewater treatment project and a straw-fired biomass project in Xinyi city, Jiangsu, and a straw-fired project in Suzhou city, Anhui. It will be constructing environmental protection industrial parks in Shandongs Yantai city.

(HK$) 4.6 4.1 3.6 3.1 2.6 May10 Sep09 Feb10 Mar10 Oct09 Apr10 Jul10 Aug10 3m 2.5 2.7 (0.4) 6m (8.4) (8.4) (9.8) 1,697 51.6 4.45/2.80 2.11 Hard 48.4 Jan10 Nov09 Dec09 Jun10
140 130 120 110 100 90
Strong exposure to up-cycle in WTE

Waste-related projects now account for 54% of CEIs gross profit, on our estimates, and are increasingly related to other segments owing to under-penetration. Apart from its recent entry into Guangdong and Anhui, we believe CEI could be considering more projects in northern China. We see such projects as potential share price catalysts.
Reiterate BUY: WTE expansion widens premium

CEI is trading at 18x FY11F EPS, vs peers 16x. We think the premium is warranted as we think WTE expansion should provide higher returns. CEIs quality output in both wastewater treatment and waste-to-energy should be reflected in higher ROE spread against peers, as the government raises the bar on environmental protection, in our view. We believe any potential new projects would be catalysts for the share price. Reaffirming BUY.
Absolute (HK$) Absolute (US$) Relative to Index Market cap (US$mn) Estimated free float (%) 52-week range (HK$) 3-mth avg daily turnover (US$mn) Stock borrowability Major shareholders (%) China Everbright Holdings
1m 2.0 2.1 (1.9)
Nomura
163
29 September 2010
China Everbright International
Ivan Lee, CFA
Valuation methodology: Our price target is based on DCF methodology, using a WACC of 10.5% and 2% terminal growth (methodology unchanged). Risks to our investment view: Our price target is subject to growth assumptions for treatment volumes (including tap water supply, wastewater treatment, and waste to energy), tariffs, capacity and capex. Changes in the macro landscape and government regulations for the water industry may result in changes in our forecasts, hence our price target.
Nomura
164
29 September 2010
Ivan Lee, CFA
Income statement (HK$mn) Year-end 31 Dec Revenue Cost of goods sold Gross profit SG&A Employee share expense Operating profit EBITDA Depreciation Amortisation EBIT Net interest expense Associates & JCEs Other income Earnings before tax Income tax Net profit after tax Minority interests Other items Preferred dividends Norm alised NPAT Extraordinary items Reported NPAT Dividends Transfer to reserves Valuation and ratio analysis FD normalised P/E (x) FD normalised P/E at price target (x) Reported P/E (x) Dividend yield (%) Price/cashflow (x) Price/book (x) EV/EBITDA (x) EV/EBIT (x) Gross margin (%) EBITDA margin (%) EBIT margin (%) Net margin (% ) Effective tax rate (%) Dividend payout (%) Capex to sales (%) Capex to depreciation (x) ROE (% ) ROA (pretax %) Growth (%) Revenue EBITDA EBIT Normalised EPS Normalised FD EPS Per share Reported EPS (HK$) Norm EPS (HK$) Fully diluted norm EPS (HK$) Book value per share (HK$) DPS (HK$)
FY08 1,863 (1,198) 665 (127) 538 574 (13) (24) 538 (147) 18 408 (95) 313 (26) 287 52 339 (50) 289
FY09 1,766 (947) 819 (165) 654 693 (15) (24) 654 (170) 1 18 503 (99) 404 (37) 367 5 372 (75) 297
FY10F 3,090 (1,981) 1,109 (189) 921 975 (18) (36) 921 (198) 62 785 (157) 628 (35) 593 593 (120) 473
FY11F 3,778 (2,345) 1,433 (242) 1,192 1,248 (21) (36) 1,192 (231) 38 998 (220) 778 (46) 732 732 (148) 584
FY12F 4,278 (2,524) 1,754 (232) 1,522 1,581 (24) (36) 1,522 (282) 27 1,267 (317) 950 (63) 888 888 (179) 708
Earnings continue to be boosted by further expansion in waste-to-energy
40.7 61.8 33.5 0.4 na 4.0 26.3 28.1 35.7 30.8 28.9 18.2 23.3 14.8 54.5 78.6 12.9 11.3
34.0 51.6 33.0 0.6 78.1 2.9 20.5 21.8 46.4 39.2 37.1 21.1 19.7 20.2 30.8 37.3 10.1 10.7
22.4 34.0 22.2 0.9 14.5 2.6 15.6 16.6 35.9 31.6 29.8 19.2 20.0 20.2 51.9 87.5 12.3 12.4
18.0 27.3 18.0 1.1 12.5 2.3 13.1 13.8 37.9 33.0 31.5 19.4 22.0 20.2 48.2 88.4 13.7 12.9
14.8 22.6 14.8 1.4 10.3 2.1 11.0 11.4 41.0 37.0 35.6 20.7 25.0 20.2 41.2 74.9 14.8 13.6
38.2 41.0 42.1 (3.7) (4.2)
(5.2) 20.7 21.7 18.5 19.7
75.0 40.7 40.7 50.6 51.9
22.3 28.0 29.4 23.5 24.4
13.2 26.7 27.7 21.2 21.2
0.11 0.09 0.09 0.90 0.02
0.11 0.11 0.11 1.26 0.02
0.16 0.16 0.16 1.39 0.03
0.20 0.20 0.20 1.55 0.04
0.24 0.24 0.24 1.75 0.05
Nomura
165
29 September 2010
Ivan Lee, CFA
Cashflow (HK$mn) Year-end 31 Dec EBITDA Change in working capital Other operating cashflow Cashflow from operations Capital expenditure Free cashflow Reduction in investments Net acquisitions Reduction in other LT assets Addition in other LT liabilities Adjustments Cashflow after investing acts Cash dividends Equity issue Debt issue Convertible debt issue Others Cashflow from financial acts Net cashflow Beginning cash Ending cash Ending net debt
FY08 574 (116) (584) (126) (1,015) (1,141) 37 9 39 128 (927) (50) 8 986 52 995 68 631 699 1,912
FY09 693 (216) (320) 157 (545) (388) 1 4 66 (12) (329) (63) 1,445 518 (246) 1,654 1,325 699 2,024 1,077
FY10F 975 (214) 146 907 (1,604) (697) 0 10 (687) (120) 16 228 (207) (83) (771) 2,024 1,253 2,075
FY11F 1,248 (154) (38) 1,056 (1,821) (765) (0) 2 (764) (148) 822 (233) 440 (323) 1,253 930 3,220
FY12F 1,581 (154) (151) 1,277 (1,764) (487) 0 (13) (500) (179) 744 (269) 296 (204) 930 726 4,168
Balance sheet (HK$mn) As at 31 Dec Cash & equivalents Marketable securities Accounts receivable Inventories Other current assets Total current assets LT investments Fixed assets Goodwill Other intangible assets Other LT assets Total assets Short-term debt Accounts payable Other current liabilities Total current liabilities Long-term debt Convertible debt Other LT liabilities Total liabilities Minority interest Preferred stock Common stock Retained earnings Proposed dividends Other equity and reserves Total shareholders' equity Total equity & liabilities Liquidity (x) Current ratio Interest cover Leverage Net debt/EBITDA (x) Net debt/equity (%) Activity (days) Days receivable Days inventory Days payable Cash cycle
FY08 699 98 12 582 1,391 22 145 46 578 4,118 6,301 546 471 9 1,026 2,065 79 3,170 311 314 2,505 2,820 6,301
FY09 2,024 198 13 708 2,944 21 144 46 554 4,959 8,667 696 481 10 1,188 2,405 145 3,738 357 364 4,209 4,573 8,667
FY10F 1,253 186 15 1,032 2,488 21 145 46 518 6,301 9,519 451 580 12 1,042 2,878 145 4,065 392 364 4,698 5,062 9,519
FY11F 930 225 19 1,326 2,501 21 151 46 482 7,953 11,153 545 758 16 1,319 3,605 145 5,069 438 364 5,283 5,647 11,153
FY12F 726 282 27 1,700 2,736 21 161 46 445 9,544 12,954 691 1,038 22 1,750 4,204 145 6,098 501 364 5,991 6,355 12,954
1.36 3.7
2.48 3.8
2.39 4.7
1.90 5.1
1.56 5.4
Gearing remains healthy, positive for future expansion

3.33 67.8 1.55 23.6 2.13 41.0 2.58 57.0 2.64 65.6
14.9 2.7 123.1 (105.5)
30.6 4.8 183.6 (148.2)
22.7 2.6 97.8 (72.5)
19.9 2.7 104.1 (81.6)
21.7 3.3 130.2 (105.1)
Nomura
166
29 September 2010
China High Speed Transmission 658 HK

P O W E R & U TI L I TI E S / AL T E R N ATI V E E N E R G Y | C H I N A
Maintained
Ivan Lee, CFA
+852 2252 6213
ivan.lee@nomura.com
BUY
Source: Nomura
Action
Although managements recent share placement could be viewed negatively by the market in the near term, we reaffirm our BUY rating on CHST, given its solid position along the global wind value chain, strong margin profile, and attractive valuations (11x FY11F P/E). We also maintain our price target at HK$22.00.
HK$17.40
HK$22.00
(set on 13 Sep 10)
26.4% 10.0% 1,829 4.3%
Catalysts
Launch of higher-end wind products, new sales contracts to overseas customers, and Chinese government support for offshore wind development stand as catalysts. Anchor themes We see wind as the best investment option, since it is the worlds most commercial green energy. Its low-cost and stable output should underpin installed capacity growth of around 30% pa globally over the next five to ten years. We expect better growth opportunities down the value chain in Asia.
Nomura vs consensus
We are more positive on CHSTs top-line growth over FY10-12F. We believe consensus has not yet adjusted for the rights issue.
Remains a BUY post rights issue

Rights issue: 130mn new share issued; HK$2.1bn raised
Last week, CHST completed a secondary equity offering in which 130mn new shares were issued and HK$2.1bn was raised. Management also placed 57mn shares. CHST disclosed the proceeds raised would be used for R&D and capex for large-scale wind gearboxes, motors and drives, and generators for hybrid-direct-drive turbines, among others. More importantly, CHST intends to set up a new facility in the US to service GEs gearbox replacement requirement for 10k older turbines.

31 Dec (RMBmn)

5,647 966 966 0.78 39.6 19.6 15.5 4.2 1.7 23.7 78.4 8,116 1,402 1,402 1.02 31.3 15.3 10.3 2.6 2.1 23.5 0.8 1,402 1.02 10,194 1,829 1,829 1.33 30.5 11.4 8.5 2.2 2.8 22.3 16.8 1,829 1.33 13,002 2,172 2,172 1.58 18.8 9.6 7.2 1.9 3.3 22.3 15.4 2,172 1.58
Top pick in China wind sector

Unlike most Chinese wind equipment and component manufacturers, CHST has the ability to tap into international wind markets and expand its market share in China from FY10F, which is particularly positive as we see growth slowing in the China market. We expect CHST to expand its overseas revenue contribution to 10-15% while increasing its market share in China to 55% in FY10F.

(HK$) 20 19 18 17 16 15 14 Oct09 Sep09 Nov09 Dec09
Reiterating BUY; price target unchanged at HK$22.0

Our DCF-based price target of HK$22.0 represents 26% potential upside from current levels. We reaffirm our BUY rating. We believe valuations are attractive at 11x FY11F earnings, given an earnings CAGR of 24% in FY10-12F.
120 115 110 105 100 95 90 85 80 May10 Jul10 Aug10 3m (5.3) (5.2) (8.3) 6m 2.0 2.0 0.5 3,082 78.0 19.58/14.64 22.87 Easy 16.0 8.1 Jun10
Feb10
Mar10
Valuation and risk

We use a DCF valuation with a WACC of 9.5% and terminal growth of 1% after FY2020F. Company-specific risk: Uncertainty of government policies for wind power; tightening global credit market; development of direct-drive wind turbine technology; the company's failure to improve technology to compete with foreign competitors; severe shortage of raw materials; and delays in capacity expansions.
1m 3.0 Absolute (HK$) 3.1 Absolute (US$) (0.9) Relative to Index Market cap (US$mn) Estimated free float (%) 52-week range (HK$) 3-mth avg daily turnover (US$mn) Stock borrowability Major shareholders (%) Fortune Apex (Management Shareholders) JP Morgan Chase
Nomura
167
Jan10
29 September 2010
Apr10
China High Speed Transmission
Clarisse Pan
FY08 3,439 (2,447) 992 (447) 545 706 (145) (16) 545 (29) 10 238 764 (72) 693 (0) 692 692 (274) 419
FY09 5,647 (3,786) 1,861 (528) 1,334 1,550 (193) (23) 1,334 (100) 16 (83) 1,166 (200) 966 1 966 966 (329) 638
FY10F 8,116 (5,569) 2,547 (876) 1,670 1,979 (272) (37) 1,670 (186) (8) 212 1,689 (287) 1,402 1,402 1,402 (420) 981
FY11F 10,194 (7,037) 3,157 (1,040) 2,117 2,499 (333) (49) 2,117 (249) (10) 293 2,151 (323) 1,829 1,829 1,829 (549) 1,280
FY12F 13,002 (8,989) 4,013 (1,495) 2,518 2,963 (384) (62) 2,518 (290) (13) 340 2,555 (383) 2,172 2,172 2,172 (652) 1,520
Despite the slowing China wind market, we believe CHST will be able to ramp up overseas revenue to deliver healthy growth in FY10F
30.2 38.2 28.5 1.4 132.4 5.1 32.8 42.3 28.8 20.5 15.9 20.1 9.4 39.6 32.5 7.7 20.3 10.0
19.6 24.8 19.5 1.7 na 4.2 15.5 18.0 33.0 27.4 23.6 17.1 17.2 34.0 28.5 8.3 23.7 15.4
15.3 19.3 14.4 2.1 8.7 2.6 10.3 12.2 31.4 24.4 20.6 17.3 17.0 30.0 16.0 4.8 23.5 15.4
11.4 14.4 10.8 2.8 10.3 2.2 8.5 10.1 31.0 24.5 20.8 17.9 15.0 30.0 12.5 3.8 22.3 16.2
9.6 12.2 9.1 3.3 9.0 1.9 7.2 8.5 30.9 22.8 19.4 16.7 15.0 30.0 8.3 2.8 22.3 16.2
80.6 169.5 223.3 93.3 82.7
64.2 119.5 144.5 39.6 46.8
43.7 27.7 25.2 31.3 24.6
25.6 26.3 26.8 30.5 30.5
27.5 18.6 18.9 18.8 18.8
0.56 0.56 0.53 3.00 0.22
0.78 0.78 0.77 3.55 0.26
1.02 1.02 0.96 5.46 0.31
1.33 1.33 1.25 6.48 0.40
1.58 1.58 1.49 7.66 0.47
Nomura
168
29 September 2010
China High Speed Transmission
Clarisse Pan
FY08 706 (1,752) 1,195 149 (1,119) (970) (558) (561) (323) 336 (945) (3,019) (88) 867 1,434 (29) 2,185 (835) 1,516 682 1,610
FY09 1,550 (778) (1,471) (699) (1,607) (2,305) 5 (0) (24) (233) 1,076 (1,482) (274) 1,208 437 (100) 1,271 (210) 682 471 3,466
FY10F 1,979 1,539 (1,211) 2,307 (1,296) 1,010 16 8 (177) 21 1,031 1,910 (329) 2,010 2,301 (1,369) (186) 2,428 4,337 471 4,808 61
FY11F 2,499 (1,747) 1,165 1,917 (1,274) 643 20 10 (149) 18 (1,308) (765) (420) 228 (249) (442) (1,207) 4,808 3,601 1,496
FY12F 2,963 (848) 68 2,184 (1,074) 1,110 26 13 (201) 24 (258) 713 (549) 1,404 (290) 565 1,279 3,601 4,880 1,621
We expect capex to ease as major expansion in wind capacity (involving construction of a new facility) was done in FY08 and FY 09
FY08 682 21 1,294 1,336 1,529 4,861 588 2,362 61 606 8,478 1,292 2,049 54 3,395 68 932 349 4,743 4 95 3,636 3,731 8,478
FY09 471 2,613 1,313 640 5,037 604 3,845 120 630 10,235 1,556 1,566 166 3,288 1,012 1,369 115 5,785 29 95 4,326 4,421 10,235
FY10F 4,808 2,668 1,831 884 10,191 587 4,869 172 807 16,627 2,678 2,655 1,433 6,766 2,191 137 9,094 29 105 7,399 7,504 16,627
FY11F 3,601 3,351 2,314 912 10,178 567 5,811 216 956 17,727 2,039 3,355 180 5,573 3,058 155 8,786 29 111 8,801 8,912 17,727
FY12F 4,880 4,275 2,955 1,155 13,264 541 6,501 276 1,157 21,738 2,600 4,285 209 7,094 3,900 179 11,173 29 111 10,425 10,536 21,738
1.43 19.0
1.53 13.4
1.51 9.0
1.83 8.5
1.87 8.7
2.28 43.2
2.24 78.4
0.03 0.8
0.60 16.8
0.55 15.4
102.8 148.2 239.7 11.4
126.3 127.7 174.3 79.7
118.8 103.0 138.3 83.5
107.8 107.5 155.8 59.4
107.3 107.3 155.5 59.1
Nomura
169
29 September 2010
China Resources Gas 1 1 9 3 H K

P O W E R & U TI L I TI E S | C H I N A
Maintained
Ivan Lee, CFA
+852 2252 6213
ivan.lee@nomura.com
BUY
Action
We remain bullish on gas sector underpinned by 1) Beijings policy to double NG share of total energy consumption to 8% in 2015, 2) increasing gas supply and 3) low penetration (~30%). On top of the industry-wide strong organic growth, CR Gas, being an SOE, also has growth from asset injection/acquisition at favorable price. At 18x FY11P/E (vs 18x for peers), valuation looks reasonable on existing projects, but potential new acquisitions offer upside potential. BUY.
Closing price on 21 Sep Price target Upside/downside Difference from consensus FY11F net profit (HK$mn) Difference from consensus
Source: Nomura
HK$10.86
HK$14.40
(set on 17 Mar 10)
32.6% 11.6% 845 6.3%
Catalysts
More ZZG shares acquired at GO price would be EPS accretive The next round of asset injection due in 2011F is another catalyst. Anchor themes We like Chinas gas distribution sector, because of: 1) favourable government policies; 2) robust demand growth underpinned by the transition to clean and low-cost energy; 3) stable margins attributable to strong cost pass-through capability, and; 4) potential upside from the new energy initiatives.
Nomura vs consensus
We think the consensus is yet to be updated and thus is not relevant.
In a fast acquisition growth stage

1H10 results beat consensus by 33%
1H10 earnings came in at HK$304mn (+ 74% yoy), beating consensus by 33%, on the back of robust gas volume sales (+198% y-y, in which organic +21% and acquisition +177%) and connection fee income (+ 77% y-y).

31 Dec (HK$mn)

3,747 444 444 0.31 (49.6) 34.6 25.8 14.9 0.6 27.2 218.8 5,059 659 659 0.47 48.5 23.3 15.4 9.9 0.9 50.9 126.3 659 0.47 6,172 845 845 0.60 28.2 18.2 11.5 6.9 1.1 44.5 81.2 845 0.60 7,294 991 991 0.70 17.4 15.5 9.7 5.1 1.3 37.7 51.7 991 0.70
Latest deal is EPS accretive if assuming proceeds going

to new projects
On 14 Sep, CR Gas announced plans to buy nine gas projects from its parent for HK$2bn by consideration share and placed 230mn new shares at HK$10.75. Project valuation at <20x 2010E P/E and 1.3x P/B is attractive compared to CR Gas 24x and 10x (industry 23x and 4x), respectively. We expect 2011F EPS will slightly improve to HK$0.61 (from HK$0.6) if we assume the HK$2.5bn proceeds to acquire 1) an 49% stake in Tianjin gas and 2) an additional 19% in Zhengzhou Gas at GO price of HK$14.73.

(HK$) 12.7 11.7 10.7 9.7 8.7 7.7 6.7 5.7 Oct09 Sep09 Nov09 Dec09
180 160 140 120 100 80 May10
14 projects to be acquired in 2011F

After this transaction, we believe there are 14 projects remaining at the parent for asset injection in the next 1-2 years at favorable pricing. We are positive on the deal, which is not only increasing the free float to 32% (and liquidity) and reducing the gearing, but also providing additional growth engines for the company.
Feb10
Mar10
Apr10
Jul10
Upside from more asset injection

At 18x FY11F P/E (vs peers 15-20x) against an FY09-11F EPS CAGR of 38% (vs peers 35%), valuation looks reasonable on existing projects. We believe potential upside will come from 1) more ZZG shares acquired from the GO and 2) future asset acquisitions/injections at favorable price.
Absolute (HK$) Absolute (US$) Relative to Index Market cap (US$mn) Estimated free float (%) 52-week range (HK$) 3-mth avg daily turnover (US$mn) Stock borrowability Major shareholders (%) China Resource NATL Gartmore
1m (5.6) (5.4) (9.4)
3m 0.7 0.9 (2.2)
Aug10 6m (5.1) (5.1) (6.6) 1,979 25.0 12.00/6.29 7.25 Easy 74.9 0.5
Jan10
Nomura
170
29 September 2010
Jun10
China Resources Gas
Ivan Lee, CFA

We use a sum-of-the-parts (SOTP) methodology to derive our 12-month price target of HK$14.40, of which HK$12.20 is from existing projects, while HK$2.20 is from to-beinjected projects. For to-be-injected projects, we assign a 50% discount to the DCF value to reflect uncertainty. We estimate that the asset injection can enhance value by HK$4.40 per share assuming acquisition valuation of 2.5x book value. We have a positive view on the companys overall operation, but are wary of a macro slowdown and the implications on commercial and industrial (C&I) demand. Meanwhile, the value from future asset injections would be hurt by higher-than-expected considerations, in our view. We also see the lack of upstream projects as a risk to CR Gass long-term development. It may take some time for the looming wellhead price increase to be passed on, which could also hit the bottom line.
Nomura
171
29 September 2010
China Resources Gas
Ivan Lee, CFA
Income statement (HK$mn) Year-end 31 Dec Revenue Cost of goods sold Gross profit SG&A Employee share expense Operating profit EBITDA Depreciation Amortisation EBIT Net interest expense Associates & JCEs Other income Earnings before tax Income tax Net profit after tax Minority interests Other items Preferred dividends Normalised NPAT Extraordinary items Reported NPAT Dividends Transfer to reserves Valuation and ratio analysis FD normalised P/E (x) FD normalised P/E at price target (x) Reported P/E (x) Dividend yield (%) Price/cashflow (x) Price/book (x) EV/EBITDA (x) EV/EBIT (x) Gross margin (%) EBITDA margin (%) EBIT margin (%) Net margin (%) Effective tax rate (%) Dividend payout (%) Capex to sales (%) Capex to depreciation (x) ROE (%) ROA (pretax %) Growth (%) Revenue EBITDA EBIT Normalised EPS Normalised FDEPS Per share Reported EPS (HK$) Norm EPS (HK$) Fully diluted norm EPS (HK$) Book value per share (HK$) DPS (HK$)
FY08 3,367 (2,359) 1,008 (617) 391 701 (282) (28) 391 (31) 3 46 409 (65) 344 (47)
FY09 3,747 (2,586) 1,161 (641) 519 677 (130) (27) 519 (40) 7 141 627 (87) 540 (97)
FY10F 5,059 (3,575) 1,485 (650) 835 1,025 (163) (27) 835 (93) 98 150 990 (178) 812 (153)
FY11F 6,172 (4,390) 1,782 (744) 1,037 1,269 (204) (27) 1,037 (117) 223 181 1,325 (275) 1,049 (204)
FY12F 7,294 (5,211) 2,084 (879) 1,205 1,482 (249) (27) 1,205 (117) 268 196 1,552 (321) 1,231 (239)
297 297 (57) 240
444 444 (85) 359
659 659 (132) 527
845 845 (169) 676
991 991 (198) 793
17.5 23.2 17.5 0.4 3.4 6.9 20.1 35.9 29.9 20.8 11.6 8.8 16.0 19.1 10.2 1.2 10.3 6.7
34.6 45.9 34.6 0.6 17.1 14.9 25.8 33.5 31.0 18.1 13.9 11.8 13.9 19.1 16.0 4.6 27.2 11.1
23.3 30.9 23.3 0.9 12.6 9.9 15.4 18.6 29.3 20.3 16.5 13.0 18.0 20.0 15.8 4.9 50.9 14.0
18.2 24.1 18.2 1.1 11.1 6.9 11.5 13.6 28.9 20.6 16.8 13.7 20.8 20.0 16.2 4.9 44.5 16.9
15.5 20.5 15.5 1.3 10.6 5.1 9.7 11.5 28.6 20.3 16.5 13.6 20.7 20.0 13.0 3.8 37.7 17.3
(45.4) (43.2) (44.1) 333.0 338.1
11.3 (3.5) 32.8 (49.6) (49.5)
35.0 51.4 60.8 48.5 48.5
22.0 23.8 24.3 28.2 28.2
18.2 16.8 16.2 17.4 17.4
0.62 0.62 0.62 1.58 0.04
0.31 0.31 0.31 0.73 0.06
0.47 0.47 0.47 1.10 0.09
0.60 0.60 0.60 1.58 0.12
0.70 0.70 0.70 2.14 0.14
Nomura
172
29 September 2010
China Resources Gas
Ivan Lee, CFA
FY08 701 (334) 1,149 1,516 (344) 1,172 (3) (9) 127 (189) 79 1,177 (57) (1,909) 420 (1,545) (369) 1,715 1,347 (1,199)
FY09 677 449 (230) 896 (600) 296 (11) (2,121) (1,380) (130) 1,540 (1,806) (85) 2,584 187 2,686 880 1,347 2,227 2,257
FY10F 1,025 264 (69) 1,220 (800) 420 (98) 61 (24) 97 456 (132) 500 (37) 332 788 2,227 3,014 1,969
FY11F 1,269 270 (155) 1,384 (1,000) 384 (223) (1) 280 441 (169) (117) (286) 155 3,014 3,169 1,814
FY12F 1,482 162 (188) 1,456 (950) 506 (268) (0) 327 565 (198) (117) (315) 250 3,169 3,419 1,564
FY08 1,347 328 51 236 1,962 18 1,642 42 637 226 4,527 108 1,175 449 1,732 39 216 1,988 311 141 2,031 57 2,229 4,527
FY09 2,227 566 133 279 3,204 29 2,750 352 632 1,605 8,572 1,040 1,641 793 3,474 3,444 86 7,004 536 141 805 85 1,031 8,572
FY10F 3,014 534 127 279 3,955 127 3,387 352 590 1,545 9,955 1,040 1,849 813 3,702 3,944 62 7,708 689 141 1,285 132 1,558 9,955
FY11F 3,169 567 156 279 4,171 350 4,182 352 566 1,545 11,167 1,040 2,150 844 4,034 3,944 62 8,040 893 141 1,924 169 2,234 11,167
FY12F 3,419 670 186 279 4,554 617 4,883 352 542 1,546 12,495 1,040 2,409 880 4,328 3,944 62 8,334 1,133 141 2,688 198 3,027 12,495
1.13 12.5
0.92 13.0
1.07 9.0
1.03 8.9
1.05 10.3
net cash net cash
3.33 218.8
1.92 126.3
1.43 81.2
1.06 51.7
86.1 72.8 252.2 (93.3)
43.5 13.0 198.8 (142.2)
39.7 13.3 178.2 (125.2)
32.6 11.8 166.2 (121.9)
31.0 12.0 160.1 (117.1)
Nomura
173
29 September 2010
China Yurun Food 1 0 6 8 H K

C O N S U M E R R E L AT E D / F O O D & B E V E R AG E | C H I N A
Maintained
Emma Liu
+852 2252 6172
emma.liu@nomura.com
BUY
Source: Nomura
Action
We expect hog prices will trend up in 2H10F and 2011F. We are upbeat on Yuruns earnings growth on both volume and price growth in the mid-term. In our view, increasing hog prices (as long as the price hike is not too sharp over a short period) should be positive for Yuruns earnings, given its exposure to upstream and its strong pricing power in downstream. Reiterating BUY and PT of HK$34.
HK$29.05
HK$34.00
(set on 14 Jul 10)
17.0% 21.4% 3,116 16.4%
Catalysts
Monthly or quarterly updates on strong slaughtering volume growth in 2H10F; the governments favourable policies towards the slaughtering industry. Anchor themes We are positive on consumption growth for F&B in China in the long run, given increasing personal income and urbanisation. Yet, given short-term risks such as inflation, we prefer market leaders with strong pricing power.
Nomura vs consensus
We are upbeat on Yuruns market share gains. Our above-consensus price target is mainly due to our aggressive earnings forecasts compared with the market.
Both volume and price growth

2H10F likely to surprise market on the upside
According to management, in July and August 2010, Yuruns slaughtering volume growth remained strong at above 40% y-y. In addition, gross margin was stable h-h, despite the hike in hog prices, given Yuruns raw material inventory for its downstream business. Given the stronger-than-expected volume growth, we look for the market to further revise up its earnings forecasts for Yurun.

31 Dec (HK $mn)

13,870 1,745 1,626 1.01 19,833 2,337 2,234 1.29 28,182 3,116 3,008 1.71 37,904 3,885 3,777 2.14
82.5 29.0 32.8 5.8 1.0 25.7 0.9 net
27.6 31.8 25.6 22.4 17.0 13.6 21.4 15.4 11.8 4.2 3.5 2.9 1.1 1.5 1.9 22.7 23.2 24.2 cash net cash net cash 3,008 1.71 3,777 2.14
Beijings move to spur consolidation

The government has announced that it will hold a nationwide inspection of hog slaughterhouses and grant production licences only to those players that are up to standard. The inspection is underway and will end by 31 October. Yurun management expects only 1,000 of the more than 20,000 players in China will remain after industry consolidation in the long run.
2,234 1.29

(HK$) 33 28
Pric e Rel MSCI China
Positive FCF from FY11F

Yurun reaffirmed its target of positive free cashflows from FY11F. Given its HK$4.9bn in cash as of 30 June 2010 and its strong operating cashflow, the likelihood of mid-term equity financing is low, in our view.
23 18 13 May10 Sep09 Oct09 Nov09 Dec09 Feb10 Jan10 Mar10 Jun10 Aug10 3m 16.0 16.1 13.0 Apr10 Jul10
200 180 160 140 120 100 80
Reiterate BUY and price target of HK$34

We see room for the Street to revise up its earnings forecasts for Yurun and expect EPS upgrades will likely become a major share price driver. The stock is trading at a 17x FY11F P/E, compared with the circa 22x average for the China F&B segment. We stick to our valuation at 23x 12-month forward EPS (HK$1.48/share) and maintain our price target of HK$34. The 23x P/E is on par with the mid-end of the four-year P/E band for the China F&B sector. Downside risks include an unexpected outbreak of pig disease across the country and food safety scandals within the food processing sector or at Yurun.
Absolute (HK$) Absolute (US$) Relative to Index Market cap (US$mn) Estimated free float (%) 52-week range (HK$) 3-mth avg daily turnover (US$mn) Stock borrowability Major shareholders (%) ZHU Yicai
1m 10.5 10.6 6.6
6m 23.9 23.8 22.4
6,262 70.0 29.05/15.20 19.39 Hard 30.0
Nomura
174
29 September 2010
China Yurun Food
Emma Liu
Exhibit 187. Yurun: free cashflow

(HK$mn) 4,000 3,000 2,000 1,000 0 (1,000) (2,000) (3,000) (4,000) FY08 FY09 FY10F FY11F FY12F (820) (1,292) (1,883) (2,728) (2,000) (2,000) (2,000) 1,063 1,436 16 460 Operating cash-flow Capex Free cash-flow 3,483 2,016 2,460 1,483
Exhibit 188. Yuruns gross margin vs. hog price

(%) 35 30 25 20 15 10 5 0 FY06 FY07 FY08 FY09 FY10F FY11F FY12F Chilled pork (LHS) LTMP (LHS) Live hog price (RHS) (RMB/kg) 16 14 12 10 8 6 4 2 0
Exhibit 189. Rolling 12-month forward P/E bands

Price (HK$) 40 35 30 25 20 15 10 5 0 Oct-05 Dec-05 Feb-06 Apr-06 Jun-06 Aug-06 Oct-06 Dec-06 Feb-07 Apr-07 Jun-07 Aug-07 Oct-07 Dec-07 Feb-08 Apr-08 Jun-08 Aug-08 Oct-08 Dec-08 Feb-09 Apr-09 Jun-09 Aug-09 Oct-09 Dec-09 Feb-10 Apr-10 Jun-10 Aug-10
Source: Bloomberg, IBES, Nomura research
24x 21x 18x 15x 12x 9x
Nomura
175
29 September 2010
China Yurun Food
Emma Liu
Income statement (HK$mn) Year-end 31 Dec Revenue Cost of goods sold Gross profit SG&A Employee share expense Operating profit EBITDA Depreciation Amortisation EBIT Net interest expense Associates & JCEs Other income Earnings before tax Income tax Net profit after tax Minority interests Other items Preferred dividends Norm alised NPAT Extraordinary items Reported NPAT Dividends Transfer to reserves Valuation and ratio analysis FD normalised P/E (x) FD normalised P/E at price target (x) Reported P/E (x) Dividend yield (%) Price/cashflow (x) Price/book (x) EV/EBITDA (x) EV/EBIT (x) Gross margin (%) EBITDA margin (%) EBIT margin (%) Net margin (% ) Effective tax rate (%) Dividend payout (%) Capex to sales (%) Capex to depreciation (x) ROE (% ) ROA (pretax %) Growth (%) Revenue EBITDA EBIT Normalised EPS Normalised FD EPS Per share Reported EPS (HK$) Norm EPS (HK$) Fully diluted norm EPS (HK$) Book value per share (HK$) DPS (HK$)
FY08 13,024 (11,334) 1,690 (859) 831 940 (109) 831 (31) (1) 151 951 (101) 850 1
FY09 13,870 (11,710) 2,161 (830) 1,331 1,484 (153) 1,331 (64) (0) 505 1,772 (143) 1,629 (3)
FY10F 19,833 (16,697) 3,136 (1,166) 1,970 2,189 (219) 1,970 (29) 595 2,536 (302) 2,234 -
FY11F 28,182 (23,811) 4,371 (1,602) 2,769 3,044 (275) 2,769 (3) 675 3,441 (433) 3,008 -
FY12F 37,904 (32,165) 5,738 (2,158) 3,580 3,914 (334) 3,580 3 733 4,316 (540) 3,777 -
Most of the other income is government subsidies
850 288 1,138 (291) 847
1,626 119 1,745 (502) 1,243
2,234 103 2,337 (584) 1,752
3,008 109 3,116 (779) 2,337
3,777 109 3,885 (971) 2,914
52.8 61.8 39.1 0.7 41.8 8.5 52.0 58.9 13.0 7.2 6.4 8.7 10.7 25.6 14.5 17.2 24.3 15.2
29.0 34.0 26.7 1.0 32.4 5.8 32.8 36.6 15.6 10.7 9.6 12.6 8.0 28.8 19.7 17.8 25.7 16.4
22.4 26.3 21.5 1.1 24.9 4.2 21.4 23.8 15.8 11.0 9.9 11.8 11.9 25.0 10.1 9.1 22.7 17.9
17.0 19.9 16.4 1.5 20.8 3.5 15.4 17.0 15.5 10.8 9.8 11.1 12.6 25.0 7.1 7.3 23.2 20.3
13.6 15.9 13.2 1.9 14.7 2.9 11.8 12.9 15.1 10.3 9.4 10.3 12.5 25.0 5.3 6.0 24.2 22.0
50.8 24.4 22.1 7.3 6.7
6.5 57.8 60.2 82.5 81.8
43.0 47.5 48.0 27.6 29.4
42.1 39.1 40.6 31.8 31.8
34.5 28.6 29.3 25.6 25.6
0.74 0.56 0.55 3.41 0.19
1.09 1.01 1.00 5.00 0.30
1.35 1.29 1.29 6.94 0.33
1.77 1.71 1.71 8.27 0.44
2.20 2.14 2.14 9.92 0.55
Nomura
176
29 September 2010
China Yurun Food
Emma Liu
FY08 940 110 12 1,063 (1,883) (820) (85) 57 (848) (291) 31 835 85 660 (188) 1,996 1,808 299
FY09 1,484 (348) 300 1,436 (2,728) (1,292) (3) 76 (1,219) (374) 1,765 1,191 52 2,635 1,416 1,808 3,224 73
FY10F 2,189 (335) 162 2,016 (2,000) 16 16 (502) 2,115 (1,000) 122 736 751 3,224 3,975 (1,678)
FY11F 3,044 (714) 130 2,460 (2,000) 460 460 (584) 23 (561) (101) 3,975 3,874 (1,577)
FY12F 3,914 (511) 80 3,483 (2,000) 1,483 1,483 (779) 33 (746) 737 3,874 4,611 (2,313)
We expect positive FCF from FY11F
FY08 1,808 445 703 300 3,256 4,745 321 8,321 1,096 485 438 2,018 1,011 57 3,086 20 5,215 5,215 8,321
FY09 3,224 576 936 466 5,201 7,409 324 12,935 3,109 440 664 4,213 189 133 4,535 30 8,370 8,370 12,935
FY10F 3,975 884 1,402 516 6,777 9,190 324 16,292 2,109 879 714 3,702 189 133 4,024 30 10,485 1,752 12,237 16,292
FY11F 3,874 1,190 1,932 566 7,562 10,915 324 18,802 2,109 1,002 764 3,875 189 133 4,197 30 10,485 4,090 14,574 18,802
FY12F 4,611 1,600 2,571 616 9,397 12,581 324 22,303 2,109 1,539 814 4,462 189 133 4,784 30 10,485 7,004 17,488 22,303
1.61 27.2
1.23 20.7
1.83 67.2
1.95 902.8
2.11 na
0.32 5.7
0.05 0.9
net cash net cash
net cash net cash
net cash net cash
13.3 22.4 13.2 22.5
13.4 25.6 14.4 24.6
13.4 25.6 14.4 24.6
13.4 25.6 14.4 24.6
13.5 25.6 14.5 24.6
Nomura
177
29 September 2010
Ctrip.Com International C T R P U S
C O N S U M E R R E L AT E D / G E N E R AL C O N S U M E R | C H I N A
Maintained
Candy Huang
+852 2252 1407
candy.huang@nomura.com
BUY
Source: Nomura
Action
We think Ctrip is most geared to lifestyle upgrade in line with increased salaries and social benefits. Its cross-regional expansion should help sustain its long-term growth potential, in our view. It is also in the position to lead consolidation in the travel agent industry. 2Q10 GAAP profit increased by 48% y-y to RMB235mn, driven by higher ASP in hotel room rates and air tickets.
US$43.84
US$48.00
(s et on 13 Aug 10)
9.5% 7.2% 1,297 7.5%
Catalysts
A better-than-expected recovery in hotel room rates and improvement in margins would accelerate its earnings growth. Anchor themes With our economics team projecting that Chinas GDP growth will accelerate to 10.5% y-y in 2010F, we are turning more positive on retailer and service stocks, owing to better earnings visibility in an accelerating macro environment, where stronger employment conditions prevail.
Nomura vs consensus
We build in higher volume assumption in hotel reservation.
Set to benefit from lifestyle upgrade

Another set of good results boosted by higher ASP
Ctrips revenue increased 46% y-y to RMB695mn in 2Q10, driven by higher ASP in air tickets and hotel room rates. Commission for each air-ticket booking increased 22% y-y, while commission for hotel reservation (per room per night) rose 5% y-y. Air ticketing sales volume climbed 22% y-y and hotel reservation recorded strong volume growth of 34% y-y. Gross margin widened 1pp y-y to 78.3% in 2Q10, driven by higher ASP. Net profit margin improved 0.4pp y-y to 33.8%.

31 Dec (RMBmn)

1,988 659 659 4.67 2,835 967 967 6.61 3,766 1,297 1,297 8.78 4,919 1,692 1,692 11.34
44.9 62.6 56.4 13.8 0.5 26.7 net cash net
41.5 32.7 29.1 42.4 31.2 24.2 36.7 25.5 18.5 10.4 8.1 6.3 0.7 1.0 1.2 28.6 29.4 29.5 cash net cash net cash 967 6.61 1,297 8.78 1,692 11.34
One of the best exposure to China consumption

We think Ctrip is most geared to lifestyle upgrade in line with increased salaries and social benefits. We expect it to continue to expand market share in air-ticket booking and hotel reservation. Earnings upside surprise could come from better underlying industry fundamentals. In Jan-Jul 2010, Chinas air ticket sales grew 18% y-y on strong demand from personal and business travel, which also benefited from Shanghai Expo visitor arrivals in Shanghai rose 34% y-y in Jan-Jul 2010. Beijings five-star hotel recorded strong growth of 35.9% y-y in July. We believe Ctrip will focus on packaged tour next after its consolidation of WingOn travel in May 2010, especially given RMB appreciation. Of note, Ctrips revenue from package tour surged 88% y-y in 2Q and 90% y-y in 1Q. In Shanghai, the number of outbound travel increased by 32% y-y in Jan-Jul 2010.

(US$) 49 44 39 34 29 24 May10 Sep09 Oct09 Nov09 Dec09 Feb10 Jan10 Mar10 Jun10 Aug10 3m 3.0 3.0 (3.7) Apr10 Jul10
180 160 140 120 100 80
Valuation
Our PT of US$48 is based on 35.5x FY11F P/E, in line with its historical 12-month forward P/E since its listing in 2003. We assume US$-RMB at 6.5 by end-FY10F. Downside risks include lower-thanexpected volume sales in air ticketing and hotel reservation, further ASP corrections, a commission decline and rising competition.
Absolute (US$) Absolute (US$) Relative to Index Market cap (US$mn) Estimated free float (%) 52-week range (US$) 3-mth avg daily turnover (US$mn) Stock borrowability Major shareholders (%) Morgan Stanley Fidelity Management and Research
1m 4.1 4.1 0.3
6m 21.8 21.8 20.3
6,482 84.0 45.80/26.77 100.2 Hard 5.3 5.1
Nomura
178
29 September 2010
Ctrip.Com International
Candy Huang
FY08 1,482 (327) 1,155 (566) (129) 461 499 (38) 461 31 55 547 (103) 444 (0) 444 444 444
FY09 1,988 (451) 1,537 (720) (131) 687 741 (53) 687 17 61 765 (132) 634 (8) 33 659 659 (198) 461
FY10F 2,835 (636) 2,199 (923) (252) 1,023 1,076 (53) 1,023 25 72 1,120 (202) 918 (11) 60 967 967 (290) 677
FY11F 3,766 (855) 2,911 (1,236) (273) 1,403 1,464 (61) 1,403 31 79 1,512 (272) 1,240 (15) 72 1,297 1,297 (389) 908
FY12F 4,919 (1,136) 3,783 (1,634) (286) 1,862 1,932 (69) 1,862 36 84 1,982 (357) 1,625 (20) 86 1,692 1,692 (507) 1,184
Revenue driven by hotel reservation and air-ticket booking
95.8 104.9 95.8 72.0 20.4 89.3 96.7 78.0 33.7 31.1 30.0 18.8 7.8 3.0 25.7 35.0
62.6 68.6 62.6 0.5 40.2 13.8 56.4 60.8 77.3 37.3 34.6 33.1 17.2 30.0 8.9 3.3 26.7 32.0
42.4 46.4 42.4 0.7 29.3 10.4 36.7 38.6 77.6 38.0 36.1 34.1 18.0 30.0 2.8 1.5 28.6 32.5
31.2 34.2 31.2 1.0 23.4 8.1 25.5 26.6 77.3 38.9 37.2 34.4 18.0 30.0 2.1 1.3 29.4 37.2
24.2 26.5 24.2 1.2 19.2 6.3 18.5 19.2 76.9 39.3 37.9 34.4 18.0 30.0 1.6 1.2 29.5 44.1
23.6 16.0 14.1 10.5 10.5
34.1 48.3 49.0 44.9 44.9
42.6 45.3 48.9 41.5 41.5
32.9 36.0 37.1 32.7 32.7
30.6 32.0 32.8 29.1 29.1
3.23 3.23 3.23 14.61 -
4.67 4.67 4.67 20.74 1.40
6.61 6.61 6.61 26.24 1.98
8.78 8.78 8.78 33.81 2.63
11.34 11.34 11.34 43.27 3.40
Nomura
179
29 September 2010
Ctrip.Com International
Candy Huang
FY08 499 (124) 216 591 (115) 476 (238) (45) (1) (99) 92 (112)
FY09 741 234 53 1,028 (176) 852 (339) 5 (1) (251) 265 -
FY10F 1,076 167 159 1,402 (80) 1,322 (60) (559) 703 (198)
FY11F 1,464 143 121 1,728 (80) 1,648 (61) (61) 1,525 (290)
FY12F 1,932 145 56 2,132 (80) 2,052 (79) (49) 1,924 (389)
26 (87) 5 1,064 1,070 (1,070)
100 100 365 1,070 1,435 (1,435)
(198) 505 1,435 1,940 (1,940)
(290) 1,235 1,940 3,175 (3,175)
(389) 1,534 3,175 4,709 (4,709)
FY08 1,070 274 287 1,631 319 346 64 24 257 2,641 139 487 626
FY09 1,435 421 451 2,306 658 551 323 67 252 4,157 291 879 1,170
FY10F 1,940 630 511 3,080 658 506 893 67 312 5,516 417 1,188 1,605
FY11F 3,175 878 576 4,629 658 524 893 67 374 7,145 548 1,514 2,063
FY12F 4,709 1,205 657 6,571 658 535 893 67 453 9,177 722 1,893 2,614
Strong cash generating capability
1 627 3 3 2,009
1,170 62 3 2,922
1,605 73 3 3,835
2,063 88 3 4,992
2,614 108 3 6,452
2,012 2,641
2,925 4,157
3,838 5,516
4,994 7,145
6,455 9,177
2.61 na
1.97 na
1.92 na
2.24 na
2.51 na
net cash net cash
net cash net cash
net cash net cash
net cash net cash
net cash net cash
66.1 207.1 (141.0)
63.8 174.0 (110.2)
67.6 203.4 (135.8)
73.1 206.2 (133.1)
77.5 204.6 (127.1)
Nomura
180
29 September 2010
Dongfeng Motor 4 8 9 H K
I N D U S TR I AL S / AU T O S & AU TO P AR T S | C H I N A
Maintained
Yankun Hou Ming Xu
+852 2252 6234 +852 2252 1569
yankun.hou@nomura.com ming.xu@nomura.com
BUY
Source: Nomura
Action
We believe Dongfeng will continue to deliver strong results in 2H10 and 1H11, due to: 1) high operating leverage at DF Nissan, 2) structural improvement in its CV business and 3) robust volume and mix upgrade at DF PSA. With capacity bottleneck at DF Nissan easing and continued new product launches at all three JVs, we are raising earnings estimates by 20% for the next two years, and expect FY11F EPS to reach RMB1.45. We raise our PT to HK$17 and reiterate BUY.
HK$14.44
HK$17.00
(from HK$14.00)
17.7% 16.9% 12,478 22.7%
Catalysts
Strong monthly sales volume and 3Q results could serve as positive catalysts. Anchor themes The operating dynamics of JVs (high end) and domestic brands (low end) differ: JVs have limited capacity, healthy inventory and moderate price competition, while domestic brands face overcapacity, high inventory and severe price competition.
Nomura vs consensus
Our FY10 and FY11 EPS estimates are 21% and 23% higher than consensus, respectively, as we expect sustained margin expansion due to improving mix and high utilisation.
Expecting further upside surprise

DF Nissan in sweet spot
We believe DF Nissan will be able to deliver further sales volume growth and maintain its high margin, owing to expanded capacity and new model launches. We expect it to maintain its product mix, as strong sales of SUV and high-end sedan will offset the negative impact from the lower-priced March. Meanwhile, the launch of its brand Venucia () in 2012 could further spur sales.

31 Dec (RMBmn)

91,758 114,918 129,848 142,833 6,250 11,651 12,478 13,403 6,250 11,651 12,478 13,403 0.73 1.35 1.45 1.56 54.7 86.4 7.1 7.4 17.2 8.9 8.2 7.6 6.9 3.9 2.9 2.1 3.9 2.7 2.1 1.7 0.7 1.7 2.4 2.6 25.7 35.6 28.7 24.7 net cash net cash net cash net cash 9,492 22.7 1.10 10,314 21.0 1.20 11,756 14.0 1.36
Dongfeng HDT sees structural improvement

We estimate that net income from the CV business contributed about RMB1.2bn to the group total in 1H10; the business barely managed breakeven in 1H09. Our channel checks suggest the companys Tianlong HDT achieved structural improvement in competitiveness with localised production of Renaults DCI engine, which has good performance but used to be imported and was expensive. We expect the CV business to become a stable profit contributor.

(HK$) 15 14 13 12 11 10 9 8 7 Sep09 Nov09
Price Rel MSCI Chi na
190 170 150 130 110 90 May10
DF PSA: (at least) 2011; worth the wait

We expect strong sales momentum at DF PSA to continue in 2H10 and 2011, which will further improve its utilisation rate. The companys planned launch of Peugeot 508 will further enhance its product mix. Although it is difficult to conclude whether DF PSA will be competitive enough in the Chinese market over the long term, we believe it should be able to deliver high growth in FY11.
Jan10
Mar10
Reiterate BUY on higher earnings estimates

Following its strong 1H10 results, we raise our earnings estimates mainly based on revised margin assumptions. We expect FY10F and FY11F EPS to reach RMB1.35 and RMB1.45, respectively, up 86% yy and 7% y-y. We keep our valuation multiple unchanged and raise price target to HK$ 17, representing 18% upside. Reiterate BUY.
Absolute (HK$) Absolute (US$) Relative to Index Market cap (US$mn) Estimated free float (%) 52-week range (HK$) 3-mth avg daily turnover (US$mn) Stock borrowability Major shareholders (%) Dongfeng Group Standard Chartered
1m 28.5 28.7 24.7
Jul10 3m 50.1 50.3 47.2
6m 8.2 8.2 6.8
16,029 33.0 14.60/7.73 39.10 Easy 67.0 2.8
Nomura
181
29 September 2010
Dongfeng Motor
Yankun Hou
Drilling down
Capacity optimisation and new products set the stage for further growth
According to management, DF Nissan has moved its entire production of Qashqai and X-Trail SUVs to Zhengzhou Nissan, another Nissan JV in China in which Dongfeng has a 35% indirect stake. We believe the move effectively increases DF Nissans capacity by 100,000 units, based on the two models sales record, which should ease DF Nissans potential capacity bottleneck in 2011. We estimate that the companys ASP rose by 5.5% y-y in 1H10, owing to the outperformance of SUVs and high-end sedans. We believe the company will be able to maintain its product mix in 2H10 despite the launch of new model March, which is priced lower, as Strong sales of SUVs and high-end sedans will continue, in our view. The companys sales target and production plan for March in 2011 is only 30,000 units, according to management. It will launch Murano, a 3.5L large SUV product in 2011, which will further boost its product mix. Apart from DF Nissans Murano, Dongfengs two other JVs will also launch new models in 2011. DF PSA will launch Peugeot 508, a large sedan based on the same technology platform as the C5. We expect this model to further enhance DF PSAs product mix and lift its margin. DF Honda will launch a self-branded product based on the Civic platform. Although no further details are available yet, we are relatively optimistic on its market outlook, given DF Hondas track record.
Exhibit 190. Nissan Murano
Exhibit 191. Peugeot 508
Source: Yahoo Auto.
Source: PSA
Nomura
182
29 September 2010
Dongfeng Motor
Yankun Hou
Exhibit 192. 1H10 net income contribution

DF Honda Engine 9% DF Honda 21% Others -4%
Exhibit 193. Net income increase breakdown

(RMBmn) 7,000 6,000 500 1,200 1,700 2,606 450 263 (190) 6,529
DF Nissan 46%
5,000 4,000 3,000 2,000
DF Honda
DF Nissan
DF Honda Engine
1H09 net income
DF CV 18% Total net income: RMB6,529mn

Source: Company data, Nomura estimates.
Earnings estimates
We largely maintain our sales volume assumptions and only slightly lower sales of March in 2010 and 2011 following management guidance. The increase in earnings comes mainly from a sizable margin expansion, as already evident in its 1H10 results. We believe the high margin is sustainable due to benign operations across its business operations, as we discussed above.
Exhibit 194. Major assumption changes

2008 A JV Sales Breakdown Volume (units): DF Nissan DF Honda DF PSA Revenue (RMBmn): DF Nissan DF Honda DF PSA DF Commercial Vehicle DF Honda Engine Total Revenue (RMBmn) Operating Income (RMBmn) Net Income (RMBmn) Basic EPS (RMB) Ratios (%): Gross margin Operating Margin
2009 A 998,124 518,941 209,290 269,893 68,269 30,832 22,232 38,380 15,734 91,758 11,569 6,250 72.54 19.1 12.6
2010F Old 1,211,336 634,081 248,174 329,081 82,606 36,406 29,807 55,594 14,805 115,322 15,837 9,492 110.17 21.0 13.7 New 1,206,336 629,081 248,174 329,081 82,307 36,778 29,806 53,197 16,937 114,918 18,783 11,651 135.22 22.3 16.3
2011F Old 1,400,764 750,062 280,991 369,711 94,028 40,355 32,940 63,892 15,197 131,653 18,482 10,314 119.71 20.4 14.0 New 1,389,918 739,216 280,991 369,711 93,774 40,766 32,939 58,710 17,388 129,848 21,349 12,478 144.82 21.9 16.4
2012F Old 1,528,910 813,138 309,090 406,682 103,151 44,843 36,233 64,580 19,126 144,818 17,602 11,756 136.22 20.4 13.8 New 1,528,910 813,138 309,090 406,682 103,151 44,843 36,233 64,580 19,126 142,833 22,601 13,403 155.56 21.0 15.8
692,586 350,517 164,009 178,060 43,404 23,489 16,452 31,852 14,302 70,569 7,159 4,040 46.89 16.8 10.1

We are raising TP on revised earnings forecasts. Our new price target of HK$17 is based on 10x (unchanged) FY11F EPS of RMB1.45 (FX assumption: 1RMB=1.15HK$). Historically, the stock has traded at an 8-15x forward P/E, except in 2008 during the global financial crisis. Its current forward P/E of 7.9x is at the lower end of its trading range and provides support for the share price, in our opinion. Our target multiple is also in line with HK-listed auto stocks average trading P/E of 10x. We thus believe it is justified. Dongfeng remains our top pick within the China PV space. Downside risks to our price target include, in our view, a widening loss in the companys independent brand operation.
Nomura
183
29 September 2010
1H10 net income
DF PSA
DF CV
Others
DF PSA 10%
1,000 0
Dongfeng Motor
Yankun Hou
Exhibit 195. P/E band

Price (HK$) 25 20 15 10 5x 5 0 Dec-05 Dec-06 Dec-07 Dec-08 Dec-09 Jun-06 Jun-07 Jun-08 Jun-09 Jun-10 2x 12x 11x 10x 8x
Exhibit 196. P/B band

Price (HK$) 20 18 16 14 12 10 8 6 4 2 0 Dec-05 Dec-06 Dec-07 Dec-08 Dec-09 Jun-06 Jun-07 Jun-08 Jun-09 Jun-10
3.0x 2.5x 2.0x 1.5x 1.0x 0.5x
Source: Bloomberg, company data, Nomura research
Source: Bloomberg, company data, Nomura research
Nomura
184
29 September 2010
Dongfeng Motor
Yankun Hou
FY08 70,569 (58,688) 11,881 (5,950) 5,931 8,208 (2,025) (252) 5,931 (393) 95 (741) 4,892 (647) 4,245 (205)
FY09 91,758 (74,274) 17,484 (7,435) 10,049 12,738 (2,322) (367) 10,049 (245) 195 (1,590) 8,409 (1,671) 6,738 (488)
FY10F 114,918 (89,313) 25,605 (8,614) 16,991 19,908 (2,521) (397) 16,991 (423) 250 (1,208) 15,610 (3,082) 12,528 (877)
FY11F 129,848 (101,408) 28,440 (9,158) 19,282 22,410 (2,732) (397) 19,282 (456) 300 (2,233) 16,893 (3,476) 13,417 (939)
FY12F 142,833 (112,838) 29,995 (9,749) 20,246 23,586 (2,943) (397) 20,246 (456) 300 (1,945) 18,146 (3,734) 14,412 (1,009)
4,040 0 4,040 (388) 3,652
6,250 0 6,250 (776) 5,474
11,651 11,651 (1,748) 9,903
12,478 12,478 (2,496) 9,982
13,403 13,403 (2,681) 10,722
27.2 32.1 27.2 0.4 14.2 5.1 12.8 17.6 16.8 11.6 8.4 5.7 13.2 9.6 6.2 2.2 20.7 13.4
17.2 20.3 17.2 0.7 5.2 3.9 6.9 8.8 19.1 13.9 11.0 6.8 19.9 12.4 3.9 1.6 25.7 19.8
8.9 10.5 8.9 1.7 10.7 2.7 3.9 4.6 22.3 17.3 14.8 10.1 19.7 15.0 2.6 1.2 35.6 29.7
8.2 9.6 8.2 2.4 6.4 2.1 2.9 3.3 21.9 17.3 14.8 9.6 20.6 20.0 2.3 1.1 28.7 31.5
7.6 9.0 7.6 2.6 5.8 1.7 2.1 2.5 21.0 16.5 14.2 9.4 20.6 20.0 2.1 1.0 24.7 31.2
Inexpensive valuation
19.0 23.4 28.2 7.2 7.2
30.0 55.2 69.4 54.7 54.7
25.2 56.3 69.1 86.4 86.4
13.0 12.6 13.5 7.1 7.1
10.0 5.2 5.0 7.4 7.4
0.47 0.47 0.47 2.48 0.05
0.73 0.73 0.73 3.17 0.09
1.35 1.35 1.35 4.43 0.20
1.45 1.45 1.45 5.67 0.29
1.56 1.56 1.56 6.94 0.31
Nomura
185
29 September 2010
Dongfeng Motor
Yankun Hou
FY08 8,208 1,491 (1,951) 7,748 (4,408) 3,340 (36) (954) 35 366 2,751 (388) 570 (59) 123 2,874 9,542 12,416 (3,716)
FY09 12,738 10,462 (2,686) 20,514 (3,624) 16,890 (1,257) (607) (45) (658) 14,323 (388) 2,941 87 2,640 16,963 12,416 29,379 (17,738)
FY10F 19,908 (4,803) (5,442) 9,662 (3,000) 6,662 1,142 7,804 (776) (2,000) (2,776) 5,028 29,379 34,407 (24,766)
FY11F 22,410 574 (7,055) 15,929 (3,000) 12,929 1,367 14,296 (1,748) (1,748) 12,548 34,407 46,955 (37,314)
FY12F 23,586 1,414 (7,299) 17,700 (3,000) 14,700 1,655 16,356 (2,496) (2,496) 13,860 46,955 60,816 (51,175)
FY08 12,416 6 12,087 9,356 2,083 35,948 924 18,189 483 1,627 2,594 59,765 6,919 25,651 893 33,463 1,781 319 35,563 2,837 8,616 12,361 388 21,365 59,765
FY09 29,379 1,127 17,001 8,741 3,997 60,245 1,060 18,703 479 2,001 3,201 85,689 7,217 41,869 1,350 50,436 4,424 274 55,134 3,271 8,616 17,892 776 27,284 85,689
FY10F 34,407 1,127 18,215 11,256 3,997 69,002 1,060 19,020 479 1,604 3,201 94,366 5,217 40,794 1,350 47,361 4,424 274 52,059 4,148 8,616 29,543
FY11F 46,955 1,127 20,581 13,614 3,997 86,275 1,060 19,111 479 1,208 3,201 111,334 5,217 46,092 1,350 52,659 4,424 274 57,357 5,087 8,616 40,273
FY12F 60,816 1,127 22,640 15,148 3,997 103,727 1,060 18,978 479 811 3,201 128,256 5,217 51,099 1,350 57,666 4,424 274 62,364 6,096 8,616 51,180
Strong balance sheet
38,159 94,366
48,889 111,334
59,796 128,256
1.07 15.1
1.19 41.0
1.46 40.1
1.64 42.3
1.80 44.4
net cash net cash
net cash net cash
net cash net cash
net cash net cash
net cash net cash
64.9 52.8 149.8 (32.1)
57.9 44.5 165.9 (63.6)
55.9 40.9 168.9 (72.1)
54.5 44.8 156.4 (57.1)
55.4 46.6 157.6 (55.6)
Nomura
186
29 September 2010
Gome Electrical Appliances 4 9 3 H K

C O N S U M E R R E L AT E D / G E N E R AL C O N S U M E R | C H I N A
Maintained
Candy Huang
+852 2252 1407
candy.huang@nomura.com
BUY
Closing price on 21 Sep Price target Upside/downside Difference from consensus FY10 net profit (RMBmn) Difference from consensus
Source: Nomura
Action
We think Gome is the most geared China consumer stock to a minimum salary increase in tier-2 and tier-3 cities. Store restructuring is almost done, and we expect growth momentum to resume on both the store expansion and margin increase front. With the upcoming special board meeting, we believe shareholders stand to benefit ie, either short-term benefits from the proposed asset injection by Mr Huang or long-term benefits through the management experience of Mr Chen.
HK$2.36
HK$4.10
(set on 7 Apr 10)
73.7% 27.7% 1,997 -4.7%
Catalysts
Better-than-expected results, accelerating SSS and more favourable macro policies stand as positive potential catalysts. Anchor themes With Nomuras economics team projecting Chinas GDP growth will accelerate to 10.5% in 2010F, we are positive on the growth outlook for retail and service stocks, owing to better earnings visibility and improving employment conditions.
Nomura vs consensus
On recurring net profit, we are above consensus, as we are more upbeat on Gomes growth outlook.
Growth resumes as Gome reaps rewards from store restructuring

Growth momentum resumes
We see growth momentum kicking in on both the store expansion and margin increase front. 2Q recurring net profit surged 92.8% y-y to RMB674mn on 22.8% revenue growth. SSS was up to 25.7% from 23.9% in 1Q on favourable consumption. Recent data from the Shanghai Commission of Commerce show the old-for-new programme is accelerating. By 22 August 2010, total sales in Shanghai alone reached RMB12.8bn (for the past 12 months). 1H

31 Dec (RMBmn)
FY08
45,889 1,048 1,899 0.138
FY09
42,668 1,409 1,598 0.089
FY10
47,643 1,997 2,168 0.121
FY11
53,593 2,318 2,469 0.138
7.9 (35.2) 35.6 13.9 15.5 22.6 16.3 13.8 14.6 14.7 9.6 7.6 3.1 2.5 2.2 1.8 1.3 0.0 2.0 2.4 11.1 13.8 15.8 16.2 8.0 net cash net cash net cash 1,598 0.089 2,168 0.121 2,469 0.138
gross margin was up by 0.9 pp to 10.7%, with comprehensive gross margin up by 0.6 pp to 17.0%. Recurring net margin was up 1.4 pp to 4.7%. Margins increased due to closure of unprofitable stores and improved product mix. With the store closure program largely done, the listed company set out a five-year plan to open 700 stores by 2014, bringing the total number to 1,400.

(HK$) 3.2 3.0 2.8 2.6 2.4 2.2 2.0 1.8 Dec09 Oct09 Nov09 Sep09
140 130 120 110 100 90 May10
Shareholders to benefit either way, in our view

The upcoming special board meeting is in the spotlight. Huang Guangyu has proposed an injection of 370 unlisted stores into the listed company at a fair valuation if he prevails in the election. We think Chen Xiao still has a better likelihood of winning shareholder support, given his industry experience and ability to improve margins (Gomes margin has improved; 1H rec net margin up 1.4pp, due to better merchandising mix and closure of unprofitable store, as executed under Chen Xiaos management). Whoever wins, however, we think shareholders of Gome stand to benefit ie, either shortterm benefit from the proposed asset injection by Mr Huang, or longterm benefits through the management experience of Mr Chen.
Feb10
Apr10
Absolute (HK$) Absolute (US$) Relative to Index Market cap (US$mn) Estimated free float (%) 52-week range (HK$) 3-mth avg daily turnover (US$mn) Stock borrowability Major shareholders (%) Huang Guangyu Morgan Stanley
1m 0.2 (3.8)
3m (12.3) (12.2) (15.2)
Aug10
Jan10
Mar10
Jun10
Jul10
6m (15.4) (15.4) (16.9) 4,577 64.1 3.04/1.97 44.22 Easy 33.4 7.4
Valuation and risks

We reaffirm BUY. Our price target of HK$4.1 (unchanged) is based on 28x FY10F P/E (EPS: RMB0.121 a 25% premium to the stocks historical trading average. Downside risks: lower-than-expected SSS and margin compression.
Nomura
187
29 September 2010
Gome Electrical Appliances
Candy Huang
FY07 42,479 (38,383) 4,095 (2,293) 1,803 2,068 (265) 1,803 424
FY08 45,889 (41,381) 4,508 (2,564) 1,944 2,250 (306) 1,944 441
FY09 42,668 (38,408) 4,260 (2,563) 1,696 2,051 (355) 1,696 325
FY10 47,643 (42,696) 4,947 (2,598) 2,349 2,731 (382) 2,349 361 2,710 (542) 2,168 -
FY11 53,593 (47,868) 5,725 (3,023) 2,703 3,148 (445) 2,703 384 3,087 (617) 2,469 -
Revenue driven by store openings
2,227 (360) 1,867 (41)
2,385 (435) 1,950 (51)
2,021 (406) 1,615 (17)
1,826 (699) 1,127 (583) 544
1,899 (851) 1,048 (344) 704
1,598 (189) 1,409 1,409
2,168 (171) 1,997 (599) 1,398
2,469 (151) 2,318 (695) 1,623
18.3 31.7 29.6 1.9 20.2 2.8 15.5 17.8 9.6 4.9 4.2 2.7 16.2 51.7 3.7 5.9 14.6 8.3
15.5 26.9 28.1 1.3 13.3 3.1 14.6 16.9 9.8 4.9 4.2 2.3 18.2 32.9 2.6 3.9 11.1 8.1
22.6 39.3 25.7 12.1 2.5 14.7 17.7 10.0 4.8 4.0 3.3 20.1 1.2 1.4 13.8 6.3
16.3 28.2 17.6 2.0 15.0 2.2 9.6 11.2 10.4 5.7 4.9 4.2 20.0 30.0 1.7 2.1 15.8 7.9
13.8 23.9 14.7 2.4 13.3 1.8 7.6 8.9 10.7 5.9 5.0 4.3 20.0 30.0 1.5 1.8 16.2 8.8
71.8 100.5 97.2 107.7 107.7
8.0 8.8 7.8 7.9 7.9
(7.0) (8.8) (12.7) (35.2) (35.2)
11.7 33.2 38.5 35.6 35.6
12.5 15.2 15.1 13.9 13.9
0.08 0.13 0.13 0.78 0.04
0.08 0.14 0.14 0.67 0.03
0.08 0.09 0.09 0.78 -
0.11 0.12 0.12 0.90 0.04
0.13 0.14 0.14 1.01 0.05
Nomura
188
29 September 2010
Gome Electrical Appliances
Candy Huang
FY07 2,068 (368) (46) 1,654 (1,578) 75 (1,520) (766) (173) 2,125 (258) (364) 1,432 (429) 4,528 (90) 5,077 4,818 1,452 6,270 (2,786)
FY08 2,250 (267) 238 2,220 (1,180) 1,041 (3,350) (927) (2) 2,979 (259) (661) (2,068) (130) (101) (2,960) (3,219) 6,270 3,051 688
FY09 2,051 1,363 (412) 3,002 (500) 2,502 (3,163) 25 (423) (1,059) 1,245 180 (641) 3,253 4,037 2,978 3,051 6,029 (324)
FY10F 2,731 1,777 (2,157) 2,351 (800) 1,551 1,814 3,364 (300) (300) 3,065 6,029 9,094 (3,389)
FY11F 3,148 (189) (392) 2,566 (800) 1,766 (0) 17 1,783 (647) (647) 1,136 9,094 10,230 (4,525)
FY07 6,270 98 5,383 10,587 22,338 3,144 3,343 144 869 29,837 300 13,557 2,324 16,180 3,184 80 19,445 90 344 9,959
FY08 3,051 45 5,473 9,913 18,483 3,720 3,363 134 1,795 27,495 170 12,918 2,059 15,147 3,570 78 18,795 140 332 8,228
FY09 6,029 54 6,532 10,657 23,273 3,392 4,015 125 4,958 35,763 2,530 15,815 2,337 20,682 3,175 103 23,961 382 11,420
FY10F 9,094 62 7,407 9,394 25,957 3,810 4,015 116 4,958 38,856 2,530 16,862 2,686 22,078 3,175 103 25,357 382 13,117
FY11F 10,230 72 8,470 9,990 28,762 4,165 4,015 107 4,958 42,007 2,530 18,034 2,994 23,558 3,175 103 26,837 382 14,788
Net cash position
10,303 29,837
8,560 27,495
11,802 35,763
13,500 38,856
15,171 42,007
1.38 na
1.22 na
1.13 na
1.18 na
1.22 na
net cash net cash
0.31 8.0
net cash net cash
net cash net cash
net cash net cash
0.7 48.8 124.4 (74.9)
0.6 48.0 117.1 (68.5)
0.4 57.0 136.5 (79.1)
0.4 59.6 139.7 (79.6)
0.5 60.5 133.0 (72.1)
Nomura
189
29 September 2010
Jiangsu Expressway 1 7 7 H K
TR AN S P O R T/ L O G I S TI C S | C H I N A
Maintained
Jim Wong Shirley Lam
+852 2252 2195 +852 2252 2196
jim.wong@nomura.com shirley.lam@nomura.com
BUY
Cl osing pri ce on 21 Sep Price target Upside/downside Di fference from consensus FY11F net profi t (RMBmn) Di fference from consensus
Source: Nom ura
Action
Jiangsu Expressway is Chinas largest toll-road operator by market capitalisation and earnings. In view of this and its strong historical EPS and DPS growth, we believe it deserves to trade at a premium to peers. We expect it to maintain a high dividend payout given its significant free operational cashflow. With the overhang of rail competition in the past, we reaffirm BUY with a raised PT of HK$11.95.
HK$8.04
HK$11.95
(f rom HK$10.90)
48.6% 42.9% 2,863 9.3%
Catalysts
A flight to quality and the potential for stronger-than-expected 2H10 results (negative impacts from rail competition is likely to be less severe than expected) could be positive share price catalysts. Anchor themes Expressways remain high-quality investments, providing sustainable earnings and dividend growth. Past and current data confirm growth in expressway traffic volumes is largely independent of growth in other modes of transport.
Nomura vs consensus
Our estimates are higher than consensus because we expect less of a negative impact from new rail openings. We also believe Jiangsu should trade at a premium to peers.
Leader of the pack

Strong growth despite the opening of a new rail line
Despite the opening of the competing Shanghai-Nanjing high speed rail line on 1 July 2010, Jiangsu Expressways main asset ShanghaiNanjing Expressway still achieved toll revenue growth of 16.0% y-y in July and 12.9% y-y in August. Alongside a better-than-expected 1H10 result (1H10 profit up 31.5%), we raise our FY10 and FY11 profit estimates by 18.9% and 28.3%, respectively.

31 Dec (RMBmn)
Revenue Reported net profit Normalised net profit Normalised EPS (RMB) Norm. EPS growth (%) Norm. P/E (x) EV/EBITDA (x) Price/book (x) Dividend yield (%) RO E (%) Net debt/equity (%) Earnings revisions Previous norm. net profit Change from previous (%) Previous norm. EPS (RMB)

5,587 2,052 2,052 0.41 28.9 17.3 11.0 2.3 4.4 13.6 47.0 6,459 2,561 2,561 0.51 24.8 13.7 8.7 2.1 5.6 16.0 28.3 2,153 18.9 0.43 7,033 2,863 2,863 0.57 11.8 11.7 7.5 1.7 6.5 16.9 16.6 2,231 28.3 0.44 7,779 3,254 3,254 0.65 13.7 9.8 6.1 1.4 7.8 18.2 7.1 na na na
High dividend yields easily sustainable, in our view

We believe Jiangsu Expressways current dividend payout ratio of 76% (resulting in forward dividend yields of over 5.6%) is likely to be sustained given the groups low capex requirements. As of 1H10, Jiangsu Expressways budgeted capital commitment was just RMB14mn. While investors may be concerned about the groups diversification into properties, Jiangsu Expressway has been very cautious in this new business, having invested just RMB1.6bn (or less than one year of profit) in land investment to date.

(HK$) 8.4 7.9 7.4 6.9
Pri ce Rel MSCI China
Market leader premium well deserved

As the largest toll-road operator in China by market capitalisation and earnings, and with a record of delivering the strongest EPS and dividend pay-out among peers (an EPS CAGR of 14.8% and average dividend pay-out of 76% over 1997-2009), we think Jiangsu Expressway can maintain its leadership position. In our view, Jiangsu Expressway deserves to trade at a premium to peers.
6.4 5.9 May10 Oct09 Mar10 Jan10 Apr10 Jun10 Nov09 Dec09 Sep09 Aug10 3m 11.5 11.7 8.6 Feb10 Jul10
125 120 115 110 105 100 95 90
Absolute (HK$) Absolute (US$) Relative to Index Market c ap (US$mn) Estimated free float (%) 52-week range (HK$) 3-mth avg daily turnover (US$mn) Stock borrowability Major shareholders (%) Jiangsu Communication Holding Co Hujian Transportation Ec onomic Dev Centre
1m 6.1 6.2 2.2
6m 12.8 12.7 11.3 5,218 27.2 8.04/6.13 3.75 Easy 55.2 11.9
Our price target increases to HK$11.95

On the back of our earnings upgrade, we lift our price target to HK$11.95 (from HK$10.90, methodology unchanged), which is standard deviation above its historical mid-cycle PE of 15.7x.
Nomura
190
29 September 2010
Jiangsu Expressway
Jim Wong
Outlook
Strong growth despite the opening of new rail

The opening of Shanghai-Nanjing high-speed rail on 1 July 2010 had been an overhang on Jiangsu Expressways shares, given uncertainties on potential traffic diversion as a result of the competition. However, Shanghai-Nanjing Expressway, the companys main asset, still managed to achieve toll revenue growth of 16.0% y-y in July 2010 and 12.9% y-y in August 2010. As such, we believe this overhang is likely to disappear.
Double-digit growth maintained even after the opening of a competing rail line
Exhibit 197. Jiangsu Exp: Attributable toll revenue trend (y-y chg %)
2Q08 SN XC GJ NS Class 2 Ninglian Jiangyin bridge Sujiahang Total
3Q08 (12.6) 19.2 27.2 0.5 (37.4) 40.4 18.3 (6.7)
4Q08 (10.0) (8.4) (17.8) (11.1) (43.3) (14.9) 19.4 (9.6)
1Q09 2.7 (10.1) (13.1) (33.2) (38.4) (15.6) 23.9 (1.1)
2Q09 0.5 (10.2) (10.4) (21.5) (27.0) (10.5) 10.7 (1.9)
3Q09 16.2 4.7 10.6 (29.1) 12.3 3.9 17.0 12.7
4Q09 24.9 12.1 20.3 (16.3) 47.0 12.7 15.2 21.3
1Q10 24.4 13.5 16.2 (8.7) 48.7 12.6 15.2 21.5
2Q10 21.6 15.0 16.3 (6.0) 43.8 12.1 16.3 19.6
Jun-10 21.2 16.5 17.0 (8.1) 48.9 12.0 15.8 19.4
Jul-10 16.0 14.7 12.3 (2.9) 27.3 14.5 11.2 15.0
Aug-10 12.9 12.4 10.2 (8.6) 16.7 11.9 7.3 11.9
1.5 3.1 (1.0) (3.2) (24.6) (1.2) 15.4 1.4
Exhibit 198. Jiangsu Exp: Attributable toll revenue trend (RMBmn)

2Q08 SN XC GJ NS Class 2 Ninglian Jiangyin bridge Sujiahang Total
3Q08 818 79 42 48 10 46 62 1,104
4Q08 771 74 39 41 8 43 62 1,037
1Q09 784 72 40 32 8 44 56 1,036
2Q09 854 78 43 35 9 46 65 1,129
3Q09 950 83 46 34 11 48 72 1,244
4Q09 963 82 46 34 12 49 71 1,258
849 86 47 45 12 52 58 1,150
1Q10 976 81 47 30 11 49 65 1,258
2Q10 1,038 89 49 33 13 52 75 1,350
Jun-10 335 29 16 10 4 16 24 434
Jul-10 355 31 17 11 4 18 26 461
Aug-10 354 31 17 10 4 18 26 460
Exhibit 199. Jiangsu Expressway (177 HK): toll revenue trend on the Shanghai-Nanjing Expressway a) Long-term trend
(RMBmn/day 14 12 10 8 6 4 2 0 Jan-00 Daily toll revenue (LHS) Growth rate (RHS) (% 270 220 170 120 70 20 (30) (80) (130) Jan-02 Jan-04 Jan-06 Jan-08 Jan-10
b) Short-term trend
(RMBmn/day) 14 12 10 8 10 6 4 2 0 Jan-09 Feb-09 Mar-09 Apr-09 May-09 Jun-09 Jul-09 Aug-09 Sep-09 Oct-09 Nov-09 Dec-09 Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Aug-10
Daily toll revenue (LHS) Growth rate (RHS)
(%) 40 30 20
0 (10) (20)
Nomura
191
29 September 2010
Jiangsu Expressway
Jim Wong
The companys double-digit growth rates in July and August were especially impressive in our view because beyond the opening of the new high-speed railway 2H09 was a high base for comparison (recall that Jiangsu Exps toll revenues benefited from a rate increase effective July 2009). On such strong sustained growth combined with a better-than-expected 1H10 result (1H10 profit up 31.5%), we raise our FY10 and FY11 profit estimates by 18.9% and 28.3%, respectively. Additional potential positive catalysts for the group include a possible toll rate hike on passenger vehicles (an application for an increase of 11% to RMB0.50/km from RMB0.45/km has already been made but approval is still pending) and the successful development and sales of its slowly expanding property business (albeit no contribution is expected until beyond 2011F).
Forward earnings estimates revised up with additional upside possible
High dividends easily sustainable, we believe

We believe Jiangsu Expressway is likely to maintain its current dividend payout ratio of 76% (resulting in forward dividend yields of over 5.6%), given its low capex requirements. As shown below, Jiangsu Expressway already passed its peak capex cycle in FY04 and FY05 (when it doubled capacity with the expansion of Shanghai-Nanjing Expressway) and only had a cash outflow from investing activities of RMB140mn in 2009. As of 1H10, its budgeted capital commitment was only RMB14mn. Given such minimal scheduled capital outflow requirements compared to an estimated operating cash inflow of more than RMB3.0bn per annum, we see Jiangsu Expressways current high dividend payout as easily sustainable with the possibility of increases.
High dividends easily sustainable given low capex
Exhibit 200. Jiangsu Exps cash outflow from investing activities

(RMBmn) 2001 2002 2003 2004 2005 2006 2007 2008 2009
Source: Company data; Nomura research
(369) (646) (1,325) (5,334) (3,848) (1,082) (638) (898) (140)
Although some may be concerned about the groups diversification into properties, we note that Jiangsu Expressway has been very cautious in this new business, having only invested RMB1.6bn (or less than one year of profit) in land investment to date. While the groups developable land currently covers an area of 534,696 square metres (with lots in the core business district of Huaqiao, Kunshan, on Xinshi Road, Canglang District, Suzhou, and in Hongyan Community, Baohua Town, Jurong City), most are still in the planning and design stage.
Market leader deserves a premium, in our view

As the largest China expressway operator by market capitalisation and earnings, having delivered the strongest EPS growth and dividend payout among peers historically (EPS CAGR of 14.8% over 1997-2009, dividend payout averaging 76%), we think it can continue to deliver the highest EPS and DPS growth among peers. In our opinion, Jiangsu Expressway deserves to trade at a premium to peers.
Market leader with a record of delivering the strongest EPS growth among peers
Nomura
192
29 September 2010
Jiangsu Expressway
Jim Wong
Exhibit 201. Comparative net profit and EPS growth trend

Jiangsu Exp (RMBmn) FY97 FY98 FY99 FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10F FY11F FY12F EPS growth (%) FY09/FY97 CAGR (%) FY10F (%) FY11F (%) FY12F (%) FY12/FY09 CAGR (%) DPS growth (%) FY12/FY09 CAGR (%) 16.6 7.5 (5.8) 3.5 20.2 3.2
Source: Company data; Nomura estimates, *YE June
Zhejiang Exp (RMBmn) 296 404 570 647 760 890 1,009 1,226 1,431 1,653 2,416 1,893 1,795 1,839 2,080 2,233
Sichuan Exp (RMBmn) 159 181 169 166 175 210 208 216 248 293 488 544 827 1,132 1,422 1,415
Hopewell Highway* (HK$mn) 519 601 532 533 733 901 1,128 1,349 1,997 1,059 956 1,054 1,016
Shenzhen Exp (RMBmn) 212 307 338 363 421 360 899 419 553 579 674 503 540 646 778 946
Anhui Exp (RMBmn) 140 165 206 227 270 309 349 487 686 931 471 671 667 730 791 912
335 566 629 688 841 854 1,006 997 668 1,174 1,642 1,592 2,052 2,561 2,863 3,254
14.8 24.8 11.8 13.7 16.6
14.9 2.4 13.1 7.3 7.5
14.0 23.8 25.6 (0.5) 15.7
4.5 10.2 (3.6) 3.1
6.4 19.6 20.5 21.5 20.5
12.4 9.4 8.4 15.3 11.0
Exhibit 202. Comparative dividend pay-out ratio trend

Jiangsu Exp FY97 FY98 FY99 FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10F FY11F FY12F Average pay-out FY98-09 Average pay-out FY10-12 51.7 62.2 64.0 74.9 76.6 72.6 73.2 109.0 81.5 82.8 85.4 76.1 76.1 76.1 76.1 75.8 76.1 Zhejiang Exp 20.6 39.5 43.7 61.6 56.0 65.0 65.0 67.3 66.8 71.0 55.7 71.1 75.0 75.0 75.0 75.0 61.5 75.0 Sichuan Exp 24.2 42.4 45.5 46.2 44.1 36.6 39.5 47.6 41.2 34.8 21.0 18.8 64.9 35.0 35.0 35.0 40.2 35.0 Hopewell Highway* 86.2 73.5 73.4 77.0 96.6 333.1 99.1 100.0 100.0 123.3 99.7 Shenzhen Exp 31.8 39.5 35.7 55.6 47.8 70.6 46.3 57.9 47.4 49.0 51.7 52.0 48.4 48.0 48.0 48.0 50.2 48.0 Anhui Exp 20.2 17.1 27.4 12.4 31.3 36.5 28.4 34.0 67.6 44.5 70.4 56.9 49.7 40.0 40.0 40.0 39.7 40.0
Source: Company data; Nomura estimates, *YE June
Price target lifted to HK$11.95/shr

On the back of our earnings upgrade, we lift our price target to HK$11.95/shr (from HK$10.90/shr previously) based on one standard deviation above the stocks historical mid-cycle PE of 15.7x. This is equivalent to an estimated 2011 PE of 17.5x and 2012 PE of 14.6x.
Price target lifted to HK$11.95/shr with significant upside even to historical mid-cycle levels
Nomura
193
29 September 2010
Jiangsu Expressway
Jim Wong

The main risk to our price target is if the diversion impact (from new competition and/or maintenance works) varies substantially from our estimates.
Exhibit 203. Jiangsu Expressway: P/E trend

(x) 35 Max=30.1x 30 25 20 15 10 5 0 Dec-97 Min=5.7x Mean=15.6x P/E (LHS) ROE (%) (RHS) (%) 18 16 14 12 10 8 6 4 2 0 Mar-00 May-02 Jul-04 Sep-06 Nov-08 Feb-11
Source: Datastream, Nomura estimates
Nomura
194
29 September 2010
Jiangsu Expressway
Jim Wong
1H10 Results Review
1H10 results
In its most recent set of results, Jiangsu Exp reported 1H2010 net profit of RMB1,296mn (EPS of RMB0.257/shr), up 31.5% y-y, slightly ahead of our initial expectation for 1H10 net profit of RMB1,162mn.
Stronger-than-expected 1H10 results
Exhibit 204. Jiangsu Expressway: Financial summary

1H10 Turnover Shanghai-Nanjing Expressway Road 312 (Jiangsu) North Approach - Guangjing Exp South Approach - Xicheng Exp Nanjiang-Lianyungang Others Business tax Net revenue Operating cost Amortization & Depn Administrative expenses Total costs Write-offs Other operating income Operating profit Financial income/(cost) Associated company PBIT Taxation MI Net profit EPS (RMB) DPS (RMB)
1H09 1,636 66 98 177 17 685 (71) 2,608 (785) (370) (48) (1,204) 0 14 1,419 (197) 91 1,312 (301) (26) 985 0.196 0.000
Chg (%) 23.2 (8.5) 15.6 13.7 41.4 24.7 20.5 22.0 23.7 7.7 (4.5) 17.7 129.3 26.8 (6.3) 23.6 31.6 32.9 17.2 31.5 31.5
1H10 2,015 61 113 202 24 854 (86) 3,183 (971) (399) (46) (1,416) 0 32 1,799 (185) 112 1,726 (401) (30) 1,296 0.257 0.000
2H09 1,917 67 108 197 24 750 (83) 2,979 (971) (389) (73) (1,433) (15) 23 1,553 (195) 83 1,441 (349) (25) 1,067 0.212 0.310
1H09 1,636 66 98 177 17 685 (71) 2,608 (785) (370) (48) (1,204) 0 14 1,419 (197) 91 1,312 (301) (26) 985 0.196 0.000
2H08 1,590 87 96 168 19 720 (109) 2,571 (961) (391) (65) (1,417) (1) 24 1,176 (282) 79 974 (224) (22) 728 0.144 0.270
2,015 61 113 202 24 854 (86) 3,183 (971) (399) (46) (1,416) 0 32 1,799 (185) 112 1,726 (401) (30) 1,296 0.257 0.000
The better-than-expected 1H10 results were due to lower-than-expected costs (up 17.7% y-y compared to revenue growth of 22.0% y-y) with administrative expenses actually declining 4.5% y-y. Toll revenue of 21.1% y-y (boosted by the implementation of the toll rate hike in trucks effective 2H2009) was what drove the groups solid 1H10 results.
Nomura
195
29 September 2010
Jiangsu Expressway
Jim Wong
FY08 5,095 (2,607) 2,488 2,488 3,299 (811) 2,488 (543) 151 43 2,140 (502) 1,638 (45) 1,592 1,592 (1,360) 232
FY09 5,587 (2,652) 2,934 2,934 3,694 (760) 2,934 (386) 174 31 2,753 (650) 2,103 (50) 2,052 2,052 (1,562) 490
FY10F 6,459 (2,966) 3,493 3,493 4,320 (827) 3,493 (345) 229 34 3,410 (795) 2,615 (54) 2,561 2,561 (1,949) 612
FY11F 7,033 (3,207) 3,826 3,826 4,692 (866) 3,826 (312) 258 37 3,810 (888) 2,922 (59) 2,863 2,863 (2,178) 684
FY12F 7,779 (3,499) 4,280 4,280 5,187 (907) 4,280 (281) 289 40 4,329 (1,010) 3,319 (64) 3,254 3,254 (2,477) 778
Toll revenue increased significantly in FY10 partly driven by the toll rate hike for trucks in July 2009
23.0 34.2 23.0 3.7 15.2 2.4 12.8 16.7 48.8 64.7 48.8 31.2 23.5 85.4 16.7 1.1 11.0 11.4
17.3 25.7 17.3 4.4 23.8 2.3 11.0 13.7 52.5 66.1 52.5 36.7 23.6 76.1 4.7 0.3 13.6 13.3
13.7 20.3 13.7 5.6 10.7 2.1 8.7 10.7 54.1 66.9 54.1 39.6 23.3 76.1 2.3 0.2 16.0 16.2
11.7 17.5 11.7 6.5 9.3 1.7 7.5 9.0 54.4 66.7 54.4 40.7 23.3 76.1 2.1 0.2 16.9 17.8
9.8 14.6 9.8 7.8 7.9 1.4 6.1 7.3 55.0 66.7 55.0 41.8 23.3 76.1 1.9 0.2 18.2 18.9
0.5 (8.0) (10.0) (3.1) (3.1)
9.6 12.0 17.9 28.9 28.9
15.6 16.9 19.0 24.8 24.8
8.9 8.6 9.5 11.8 11.8
10.6 10.6 11.9 13.7 13.7
0.32 0.32 0.32 2.91 0.27
0.41 0.41 0.41 3.07 0.31
0.51 0.51 0.51 3.27 0.39
0.57 0.57 0.57 3.84 0.43
0.65 0.65 0.65 4.34 0.49
Nomura
196
29 September 2010
Jiangsu Expressway
Jim Wong
FY08 3,299 (768) (115) 2,416 (853) 1,563 (6) (159) (201) (0) 207 1,404 (1,383) (689) (2,072) (668) 1,129 461 7,103
FY09 3,694 (1,492) (711) 1,491 (260) 1,232 (239) 4 19 3 202 1,220 (1,385) 222 (1,163) 57 461 518 7,274
FY10F 4,320 145 (1,193) 3,272 (150) 3,122 127 42 (169) 3,122 (1,562) (172) (1,733) 1,388 518 1,906 4,651
FY11F 4,692 92 (1,168) 3,617 (150) 3,467 42 (42) 3,467 (1,949) (1,553) (3,501) (34) 1,906 1,872 3,204
FY12F 5,187 122 (1,274) 4,035 (150) 3,885 42 (42) 3,885 (2,178) (264) (2,443) 1,442 1,872 3,314 1,550
Capex cycle completed, enabling a sustainable high level of subsequent dividend payout
FY08 461 40 240 741 14 19,716 2,971 23,442 2,852 279 524 3,655 4,712 1 8,368 439 5,038 232 1,360 8,005 14,635 23,442
FY09 518 127 1,422 2,067 165 19,019 2,952 24,204 3,278 129 365 3,771 4,514 4 8,289 450 5,038 692 1,562 8,173 15,464 24,204
FY10F 1,906 1,422 3,329 165 17,710 2,910 24,114 3,482 129 510 4,121 3,075 4 7,200 450 5,038 999 1,949 8,478 16,463 24,114
FY11F 1,872 1,422 3,294 165 17,311 1,965 2,867 25,603 2,212 129 602 2,943 2,864 4 5,810 450 1,965 5,038 914 2,178 9,247 19,343 25,603
FY12F 3,314 1,422 4,737 165 16,897 3,432 2,825 28,057 2,159 129 724 3,012 2,705 4 5,721 450 3,432 5,038 1,076 2,477 9,863 21,886 28,057
0.20 4.6
0.55 7.6
0.81 10.1
1.12 12.3
1.57 15.3
2.15 48.5
1.97 47.0
1.08 28.3
0.68 16.6
0.30 7.1
85.5 (85.5)
28.1 (28.1)
15.9 (15.9)
14.7 (14.7)
13.5 (13.5)
Nomura
197
29 September 2010
O-Net Communications Group 8 7 7 H K

TE L E C O M S | C H I N A
Initiation
Leping Huang, PhD Danny Chu, CFA
+852 2252 1598 +852 2252 6209
leping.huang@nomura.com danny.chu@nomura.com
BUY
Source: Nomura
Action
We initiate coverage of O-Net Communications (O-Net) with a BUY rating and PT of HK$7.50. We like the companys position as a pure play in the optical network supply chain. We believe it can capitalise on business opportunities arising from the governments new network convergence policy by leveraging its leadership in manufacturing, technology and customer relations.
HK$5.18
HK$7.50
44.8% 39.7% 266.7 19.8%
Catalysts
Positive catalysts include new fibre optical network construction projects announced by operators. Anchor themes Network convergence will form an important part of Chinas 12 FYP, in our view. The convergence of telecom, TV and Internet will not only improve the quality of existing broadband and television services, but will also generate lots of innovative next generation IT services in the future.
Nomura vs consensus
We are more confident on the sustainability of O-Nets high gross margin and revenue growth given a strong new product pipeline.
A bright future
Pure player in fibre optical network supply chain
O-Net Communications is a China-based passive optical component vendor. It designs, manufactures and sells optical network components to optical network system vendors such as Huawei, Alcatel-Lucent and ZTE. The company ranked as the fifth largest passive optical component vendor globally and the second largest in China by revenue in 1H10.

31 Dec (HK$mn)
Revenue Reported net profit Normalised net profit Normalised EPS (HK$) Norm. EPS growth (%) Norm. P/E (x) EV/EBITDA (x) Price/book (x) Dividend yield (%) RO E (%) Net debt/equity (%) Earnings revisions Previous norm. net profit Change from previous (%) Previous norm. EPS (HK$)

338 79.2 79.2 0.14 244.2 37.9 39.9 15.9 0.0 659 186.9 186.9 0.26 88.8 20.1 13.9 4.5 0.0 858 266.7 266.7 0.35 33.8 15.0 9.3 3.4 0.0 1,111 348.0 348.0 0.45 30.5 11.5 7.2 2.7 0.0
The effect of network convergence

We forecast total wireline capex from telecom and cable TV will grow from RMB104bn in 2009 to RMB173bn in 2012 on the governments network convergence policy. On our estimates, this will create an incremental market of RMB5bn for passive optical makers annually.
53.7 34.5 26.0 26.1 net cash net cash net cash net cash na na na na na na na na na
Core competence: flexible process and technology

The optical component industry is technology-driven and is characterised by high-mix, low-volume production. O-Net has an efficient manufacturing and quality control process, and is one of the market leaders in the technological development of next generation high-speed (40Gbps) optical network components. Further, by leveraging strong customer relations, including those with Huawei and ZTE, which are based in the same city, we believe the company will deliver a 30% CAGR in revenue over 2010-12F.

(HK$) 5.7 5.2 4.7 4.2 3.7 3.2 2.7 Jun10 Apr10 Aug10
150.000 130.000 110.000 90.000 70.000 50.000 30.000 10.000 -10.000
1m Absolute (HK$) 10.2 10.4 6.0 Absolute (US$) Relative to Index Market c ap (US$mn) Estimated free float (%) 52-week range (HK$) 3-mth avg daily turnover (US$mn) Stock borrowability Major shareholders (%) Kaifa Technology (Hong Kong) O-Net Holdings (BVI)
3m 37.0 37.2 33.8
6m na na na 516 31.0 5.37/2.95 2.58 Hard 32.7 36.2
Valuation: PT HK$7.50, based on 22x P/E

We forecast EPS growth of 34% for 2011F and 31% for 2012F, driven by strong demand for optical network devices, O-Nets market share expansion among customers by leveraging technology, and price leadership. Considering robust earnings growth prospects underpinned by the network convergence story, we apply 22x 2011F EPS to reach our PT. Our target multiple is 10% lower than the 24x we apply to peer ZTE to reflect O-Nets lower stock liquidity.
For the full version of this company report, see our Telecom Equipment Anchor Report, published 29 September, 2010.
Nomura
198
29 September 2010
O-Net Communications Group
Leping Huang, PhD
Income statement (HK$mn) Year-end 31 Dec Revenue Cost of goods sold Gross profit SG&A Employee share expense Operating profit EBITDA Depreciation Amortisation EBIT Net interest expense Associates & JCEs Other income Earnings before tax Income tax Net profit after tax Minority interests Other items Preferred dividends Normalised NPAT Extraordinary items Reported NPAT Dividends Transfer to reserves Valuation and ratio analysis FD normalised P/E (x) FD normalised P/E at price target (x) Reported P/E (x) Dividend yield (%) Price/cashflow (x) Price/book (x) EV/EBITDA (x) EV/EBIT (x) Gross margin (%) EBITDA margin (%) EBIT margin (%) Net margin (%) Effective tax rate (%) Dividend payout (%) Capex to sales (%) Capex to depreciation (x) ROE (%) ROA (pretax %) Growth (%) Revenue EBITDA EBIT Normalised EPS Normalised FDEPS Per share Reported EPS (HK$) Norm EPS (HK$) Fully diluted norm EPS (HK$) Book value per share (HK$) DPS (HK$)
FY08 285 (178) 107 (75) 32 43 (11) 32 (7) 25 (2) 23 -
FY09 338 (185) 153 (64) 90 100 (10) 90 (1) 89 (9) 79 -
FY10F 659 (327) 332 (119) 213 245 (32) 213 (4) 209 (22) 187 -
FY11F 858 (421) 438 (140) 298 363 (65) 298 0 298 (32) 267 -
FY12F 1,111 (556) 556 (167) 389 438 (49) 389 0 389 (41) 348 -
23 23 23
79 79 79
187 187 187
267 267 267
348 348 348
Gross margin around 50% owing to strong technology leadership and efficient manufacturing process
130.6 189.1 130.6 433.0 28.2 93.7 126.3 37.5 15.0 11.1 8.1 7.5 4.5 1.2 24.9 14.5
37.9 54.9 37.9 85.5 15.9 39.9 44.4 45.3 29.4 26.5 23.4 10.6 1.8 0.6 53.7 35.9
20.1 29.1 20.1 28.5 4.5 13.9 16.0 50.4 37.1 32.3 28.3 10.6 13.3 2.7 34.5 56.4
15.0 21.7 15.0 15.5 3.4 9.3 11.3 51.0 42.3 34.7 31.1 10.6 26.5 3.5 26.0 51.5
11.5 16.7 11.5 13.1 2.7 7.2 8.1 50.0 39.4 35.0 31.3 10.6 6.3 1.4 26.1 51.6
23.9 23.9 23.6 13.3 13.3
18.9 133.3 182.4 244.2 244.2
94.9 145.7 137.7 88.8 88.8
30.2 48.2 40.1 33.8 33.8
29.5 20.8 30.5 30.5 30.5
0.04 0.04 0.04 0.18 -
0.14 0.14 0.14 0.32 -
0.26 0.26 0.26 1.16 -
0.35 0.35 0.35 1.50 -
0.45 0.45 0.45 1.95 -
Nomura
199
29 September 2010
O-Net Communications Group
Leping Huang, PhD
FY08 43 (29) (7) 7 (13) (6) -
FY09 100 (64) (0) 35 (6) 29 -
FY10F 245 (86) (27) 132 (88) 44 -
FY11F 363 (73) (31) 258 (228) 30 -
FY12F 438 (92) (41) 305 (70) 235 -
0 (6) (36) 52 17 11 12 23 (0)
0 29 (23) (3) (25) 4 23 27 (27)
44 519 1 520 564 27 590 (590)
30 0 0 30 590 621 (621)
235 235 621 856 (856)
FY08 23 89 46 158 38 29 1 227 23 42 55 120 120 107 107 227
FY09 27 170 56 252 40 28 1 322 69 65 134 134 188 188 322
FY10F 590 234 100 924 96 28 1 1,050 90 65 155 155 894 894 1,050
FY11F 621 281 130 1,032 259 28 1 1,320 94 65 159 159 1,161 1,161 1,320
FY12F 856 332 168 1,356 279 28 1 1,665 91 65 156 156 1,509 1,509 1,665
Robust balance sheet
1.32 4.6
1.88 85.3
5.95 53.8
6.49 na
8.69 na
net cash net cash
net cash net cash
net cash net cash
net cash net cash
net cash net cash
97.2 105.0 99.4 102.7
139.3 101.3 109.6 130.9
111.5 87.2 88.8 110.0
109.3 100.0 79.9 129.3
100.8 98.3 60.9 138.2
Nomura
200
29 September 2010
PetroChina 8 5 7 H K
O I L & G AS / C H E M I C AL S | C H I N A
Maintained
Cheng Khoo Gordon Wai
+852 2252 6180 +852 2252 6176
cheng.khoo@nomura.com gordon.wai@nomura.com
BUY
Source: Nomura
Action
PetroChina is our long-term top sector pick. We believe it will likely be the major beneficiary of the governments plans to increase the usage of natural gas based on the 12th Five Year Plan. We reiterate BUY and our PT of HK$13.7, based on an average FY10-11F ROACE/WACC (13%/8%), implying potential upside of 58%.
HK$8.67
HK$13.70
(set on 5 May 10)
58.0% 28.6% 174,135 20.1%
Catalysts
As the refining sector has been a drag on the companys earnings, the next catalyst should materialise when the government improves the oil product pricing mechanism, which we believe is likely towards end-2010F. Anchor themes Tightening fundamentals over the next two years, a weak US dollar, lax CFTC trading rules, abundant money supply and potentially higher inflation expectations could fuel higher oil prices. We believe prices could cross the US$100/bbl level next year.
Nomura vs consensus
Our FY11F earnings estimates are above consensus owing to our high crude oil price forecast of US$95/bbl for 2010F.
Becoming bigger and stronger

Natural gas to boost growth
For the 12th Five Year Plan (2011-15) , the government plans to promote the use of clean energy such as natural gas, renewable energy and nuclear energy, thereby, increasing the share of these fuels while reducing the dependence on coal and crude oil. The share of natural gas within the energy pie should increase from the current 4% to 8% by 2015F, with volumes surging from the current 85bcm to 260bcm during the same period based on government estimates. We expect PetroChina to be a major beneficiary of the governments plans to increase the usage of natural gas, as it dominates the upstream, midstream and downstream natural gas sector in China. The company owns the largest natural gas reserves in China and aims for double-digit production growth over the next five years. At the same time, it also dominates the distribution of natural gas, with its extensive pipeline infrastructure which it plans to keep expanding. Furthermore, the company has started the high-margin business of distributing natural gas to end users. Lastly, it also stands to benefit from the expected increase in natural gas well-head prices which will likely be brought in line with imported prices over the next few years.

31 Dec (RMBmn)
Revenue Reported net profit Normalised net profit Normalised EPS (RMB) Norm. EPS growth (%) Norm. P/E (x) EV/EBITDA (x) Price/book (x) Dividend yield (%) RO E (%) Net debt/equity (%) Earnings r evisions Previous norm. net profit Change from previous (%) Previous norm. EPS (RMB)
FY09
FY10F
FY11F
FY12F
1,019,275 1,281,203 1,397,673 1,582,816 103,387 141,562 174,135 205,324 103,387 0.56 (9.7) 13.8 6.6 1.7 3.3 12.6 17.4 141,562 0.77 36.9 9.9 5.0 1.5 4.6 15.9 21.2 141,562 0.77 174,135 0.95 23.0 8.0 4.6 1.3 5.6 17.7 27.2 174,135 0.95 205,324 1.12 17.9 6.8 4.1 1.2 6.6 18.7 29.6 205,324 1.12

(HK$) 11 10 10 9 9 8 8 May10 Mar10 Feb10 Jun10 Oct09 Apr10 Jul10 Sep09 Nov09 Dec09 Aug10 Jan10
110 105 100 95 90 85 80
Absolute (HK$) Absolute (US$) Relative to Index Market cap (US$mn) Estimated free float (% ) 52-week range (HK$) 3-mth avg daily turnover (US$mn) Stock borrowability Major shareholders (%) China National Petroleum Corporation
1m 0.2 (3.8)
3m (6.0) (5.8) (8.9)
6m (6.0) (6.0) (7.5) 204,412 13.7 10.48/7.97 80.7 Easy 86.3
Nomura
201
29 September 2010
PetroChina
Cheng Khoo
Exhibit 205. Natural gas reserves (2009)
Exhibit 206. Natural gas production (2009)

Sinopec, 12% CNOOC, 6%
Sinopec, 9% CNOOC, 6%
Petrochina, 85% Petrochina, 82%

Source: Company data, Nomura research Source: Company data, Nomura research
Efficiency gains downstream

In the past, during industry restructuring, PetroChina mostly inherited small and inefficient refineries and petrochemical plants in the western and northern parts of the country. However, over the past few years, the company has been expanding and upgrading these facilities. Over the next five years, we believe, the companys upgrading/expansion activities will likely intensify as super refining and petrochemical complexes are encouraged by the government. Its downstream businesses will likely improve with scale and competitiveness. In addition, we believe the government will further improve the oil product pricing mechanism. Based on our calculations, over the past three quarters, domestic refining margins were just above break-even levels. We see potential upside to margins when the government improves on the current oil product pricing mechanism. As for petrochemicals, even though the ethylene cycle is entering a downturn, we think it should recover by end-2011.
Upgrade its refining and petrochemical capacities over the next five years
Development of unconventional energy sources

PetroChina owns an estimated 50% of the countrys coal bed methane. As a leading player in the industry, we believe, the government will support the company in the development of coal bed methane and shale gas technologies. Its recent acquisition of Arrow Energy, Australia and its collaboration with Shell in this regard should, in our view, provide PetroChina with advanced know how for extracting these unconventional energy sources.
Unconventional energy sources: Coal Bed Methane and Shale Gas

We maintain our BUY rating on the stock as we believe its long-term growth is intact. Our 12-month price target of HK$13.7 is based on a ROACE/WACC (13%/8%). The stock is currently trading at an undemanding 8.0x FY11F P/E, a discount to its historical average (FY06-08) of 13x. On P/BV, it is trading at 1.3x FY11F vs. an ROACE of 13.8% below its three-year historical trading range of 2-2.8x P/BV. The dividend yield is 5.6% for FY11F, on our numbers. Risks to our view include (i) lower-than-expected oil product prices; (ii) chemical downcycle; (iii) government regulatory risks. Sinopec valuation: our price target of HK$8.20 is derived from FY10-11F ROACE/WACC (12.3%/9.2%). Risks to our view include (i) rising inflation, ii) chemical downcycle and iii) resource tax.
Nomura
202
29 September 2010
PetroChina
Cheng Khoo
CNOOCs valuation: our price target of HK$16.50 is derived from FY10-11F ROACE/WACC (28.6%/10%). Risks to our view include 1) rising operating costs; 2) lower-than-budgeted production; and 3) acquisition risks.
Exhibit 207. Select company valuations

Share price (21 Sep) Ticker Rating Petrochina Sinopec CNOOC 857 HK 386 HK 883 HK BUY BUY BUY (local curr) HK$8.67 HK$6.61 HK$14.70 Price target HK$13.70 HK$8.20 HK$16.50 Upside/ Mark. cap 58 24 12 263.7 97.6 84.7 P/E (x) 9.9 7.8 12.2 8.0 7.2 10.4 P/BV (x) 1.5 1.2 2.8 1.3 1.1 2.4 ROE (%) 16 16 25 18 16 25 Yield (%) 4.6 3.5 2.7 5.6 3.7 3.2
(local curr) Downside (%)
(US$mn) 2010F 2011F 2010F 2011F 2010F 2011F 2010F 2011F
Exhibit 208. China energy consumption, 2009 (2.2bn tonnes of oil equivalent)
Renewable energy, 6.4% Nuclear, 0.7% Gas , 3.7%
Exhibit 209. China energy consumption, 2015 (2.6bn tonnes of oil equivalent)
Hydropower, 8.6% Nuclear, 1.9% Oil , 17.2%
Oil , 18.6%
Gas , 8.0%
Coal, 64.4%
Coal, 70.6%
Source: BP, Nomura Research.
Source: CEIC, OGP, Nomura Research.
Exhibit 210. China natural gas demand/supply

280 260 240 220 200 180 160 140 120 100 80 60 40 20 0 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006
Consumption CAGR: 20% Import: 112bcm
bcm
Production CAGR: 10% 2007 2008 2009 2010E 2011E 2012E 2013E 2014E 2015E
Source: CEIC, OGP, Nomura Research
Nomura
203
29 September 2010
PetroChina
Cheng Khoo
FY08 1,072,604 (853,416) 219,188 (59,617) 159,571 254,330 (94,759) 159,571 (1,848) 4,290 162,013 (35,211) 126,802 (12,349)
FY09
FY10F
FY11F
FY12F
1,019,275 1,281,203 1,397,673 1,582,816 (810,408) (1,002,221) (1,072,290) (1,202,925) 208,867 278,982 325,383 379,891 (65,423) (80,908) (86,564) (97,110) 143,444 235,703 (92,259) 143,444 (4,596) 1,184 140,032 (33,473) 106,559 (3,172) 198,074 312,169 (114,096) 198,074 (7,132) 4,734 195,676 (44,582) 151,094 (9,532) 238,819 360,891 (122,072) 238,819 (7,154) 5,855 237,519 (51,594) 185,925 (11,790) 282,781 419,725 (136,944) 282,781 (9,278) 7,124 280,626 (60,958) 219,668 (14,344)
114,453 114,453 (51,494) 62,959
103,387 103,387 (46,524) 56,863
141,562 141,562 (63,703) 77,859
174,135 174,135 (78,361) 95,774
205,324 205,324 (92,396) 112,928
13.7 21.6 13.7 3.3 9.1 2.0 6.4 10.1 20.4 23.7 14.9 10.7 21.7 45.0 20.1 2.3 15.0 15.2
13.8 21.8 13.8 3.3 5.4 1.7 6.6 10.9 20.5 23.1 14.1 10.1 23.9 45.0 25.3 2.8 12.6 11.4
9.9 15.6 9.9 4.6 4.9 1.5 5.0 7.9 21.8 24.4 15.5 11.0 22.8 45.0 22.1 2.5 15.9 14.1
8.0 12.7 8.0 5.6 5.0 1.3 4.6 6.9 23.3 25.8 17.1 12.5 21.7 45.0 21.1 2.4 17.7 15.1
6.8 10.8 6.8 6.6 4.0 1.2 4.1 6.0 24.0 26.5 17.9 13.0 21.7 45.0 20.5 2.4 18.7 15.8
Compelling valuations
28.2 (5.1) (20.5) (23.4) (22.0)
(5.0) (7.3) (10.1) (9.7) (9.7)
25.7 32.4 38.1 36.9 36.9
9.1 15.6 20.6 23.0 23.0
13.2 16.3 18.4 17.9 17.9
0.63 0.63 0.63 4.32 0.28
0.56 0.56 0.56 4.63 0.25
0.77 0.77 0.77 5.10 0.35
0.95 0.95 0.95 5.67 0.43
1.12 1.12 1.12 6.32 0.50
Nomura
204
29 September 2010
PetroChina
Cheng Khoo
FY08 254,330 (21,206) (60,659) 172,465 (215,610) (43,145) (1,966) (14,421) (2,846) 3,222 19,877 (39,279) (52,835) 59,249 (2,637) 3,777 (35,502) 68,652 33,150 93,372
FY09 235,703 52,059 (25,790) 261,972 (257,562) 4,410 318 (22,087) (3,956) 18,671 3,342 698 (50,092) 104,297 (1,128) 53,077 53,775 33,150 86,925 147,397
FY10F 312,169 15,397 (40,746) 286,821 (282,527) 4,294 (4,734) 1,512 3,222 4,294 (54,915) 46,864 (8,051) (3,757) 86,925 83,168 198,018
FY11F 360,891 (31,410) (47,819) 281,662 (294,667) (13,005) (5,855) 1,436 4,419 (13,005) (70,863) 84,356 13,493 488 83,168 83,656 281,886
FY12F 419,725 (12,574) (58,795) 348,356 (324,328) 24,028 (7,124) 1,364 5,759 24,028 (85,216) 65,798 (19,419) 4,609 83,656 88,265 343,075
FY08 33,150 21,129 90,685 79,982 224,946 30,884 900,424 13,701 26,280 1,196,235 93,670 156,780 15,201 265,651 32,852 49,892 348,395 56,930 183,021 378,473 52,835 176,581 790,910 1,196,235
FY09 86,925 33,053 114,781 59,624 294,383 30,566 1,075,467 19,636 30,236 1,450,288 148,851 204,739 34,963 388,553 85,471 68,563 542,587 60,478 183,021 424,067 50,092 190,043 847,223 1,450,288
FY10F 83,168 32,650 105,784 63,864 285,465 35,300 1,232,931 21,148 28,724 1,603,568 178,621 214,976 34,963 428,560 102,565 68,563 599,688 70,010 183,021 510,713 54,915 185,220 933,869 1,603,568
FY11F 83,656 39,026 139,107 66,324 328,112 41,155 1,394,596 22,584 27,288 1,813,736 232,208 225,725 34,963 492,895 133,335 68,563 694,793 81,800 183,021 613,986 70,863 169,272 1,037,142 1,813,736
FY12F 88,265 42,144 152,101 74,071 356,582 48,279 1,570,539 23,948 25,924 2,025,271 274,005 237,011 34,963 545,979 157,335 68,563 771,877 96,144 183,021 734,094 85,216 154,919 1,157,250 2,025,271
Lower gearing ratio

0.85 86.3 0.76 31.2 0.67 27.8 0.67 33.4 0.65 30.5
0.37 11.8
0.63 17.4
0.63 21.2
0.78 27.2
0.82 29.6
7.6 38.4 64.8 (18.8)
9.7 46.3 81.4 (25.4)
9.4 40.2 76.4 (26.9)
9.4 41.7 75.0 (24.0)
9.4 44.3 70.4 (16.7)
Nomura
205
29 September 2010
SJM Holdings 8 8 0 H K
G AM I N G , H O T E L S & L E I S U R E | C H I N A
Maintained
Charlene Liu
+852 2252 6134
charlene.liu@nomura.com
BUY
Source: Nomura
Action
Over 40 years of experience, a long-standing brand and strategically located casinos in Macau have helped SJM increase its high-margin mass market exposure, a business segment that can better benefit from the enhanced internal consumption growth and infrastructure development supported by 12 FYP, in our view. Trading at 9x FY10F EBITDA with 3% yield, SJMs inexpensive valuation and net cash position make it one of the most defensive names in the sector in case of a downturn.
HK$8.35
HK$9.00
(set on 10 Aug 10)
7.8% 50.0% 3,725 4.4%
Catalysts
Strong monthly gaming revenue, good 3Q results and a potential turnaround of its mass market focused property, Oceanus, are some near-term catalysts. Anchor themes We favour mass market focused plays, which we think would benefit proportionally more from enhanced internal consumption power and infrastructure upgrades. Our top pick has inexpensive valuation and resilient qualities in a downturn.
Nomura vs consensus
Our estimates are almost in line with the street.
Seasoned mass market leader

Sits on 40%-plus mass market share
With more than 40 years of experience, SJM is a well-seasoned gaming operator with the highest mass market exposure in Macau by gaming revenue. Unlike the low-margin, volatile and credit-driven VIP business, mass market customers are sticky and more resilient to economic cycles. The gradual ramp up of its Oceanus casino (opened in December 2009), should further strengthen SJMs mass market leadership in Macau.

31 Dec (HK$mn)
Source: Company, Nomura estim ates

34,408 906 1,106 0.22 10.1 55,458 2,862 2,872 0.55 150.2 62,681 3,725 3,735 0.70 25.5 71,744 4,610 4,620 0.86 23.7
37.7 15.1 12.0 9.7 18.0 8.8 6.9 5.3 4.9 3.6 3.0 2.6 1.1 3.2 4.2 5.1 11.5 27.4 27.4 28.6 net cash net cash net cash net cash 2,872 0.55 3,735 0.70 4,620 0.86
Enjoy upside, but shield from downside

SJMs strong presence in the mass market business suggests it would benefit more from the potential enhancement in internal consumption in China through urbanisation and infrastructure upgrades as supported by the 12th FYP. More importantly, we like the name since it has the strongest balance sheet among all operators. It is the only operator in net cash, whose value and earnings are not subject to any project risks. As the only dividend payer at 3% yield, we believe SJM should be relatively resilient in a downturn.

(HK$) 9.1 8.1 7.1 6.1 5.1 4.1 3.1 Nov09 Oct09 Dec09 Sep09
Price R el MSCI China
May10
Feb10
Mar10
Jun10
Jan10
Apr10
Jul10
Trading at 9x FY10F EBITDA, versus its peers 12-14x, we believe valuation remains attractive. As we believe its earnings performance will continue to deliver in subsequent quarters this year, we think this valuation gap could narrow further. We reiterate BUY with a price target of HK$9.

Potential downside risks include: 1) regulatory changes in China that could harm the gaming industry, 2) underperformance of Oceanus casino, 3) weaker-than-expected performance for its legacy casinos and 4) uncertainty over the health of Dr Stanley Ho, SJMs chairman.
Absolute (HK$) Absolute (US$) Relative to Index Market cap (US$mn) Estimated free float (%) 52-week range (HK$) 3-mth avg daily turnover (US$mn) Stock borrowability Major shareholders (%) STDM Stanley Ho
Source: Company, Nomura estim ates
1m 13.1 13.3 8.9
3m 19.3 19.5 16.0
Aug10 6m 82.7 82.7 80.8 5,605 25.0 8.38/3.65 13.11 Hard 61.0 8.0
Valuation discount to peers can still improve
180 160 140 120 100 80 60
Nomura
206
29 September 2010
SJM Holdings
Charlene Liu
Valuation and investment risks
Valuation
Our 12-month price target of HK$9 is based on a sum-of-the parts valuation. The valuation consists of: 1) Grand Lisboa valued at 12x FY11F EBITDA, 2) Legacy casinos and Old Lisboa continue to be valued at 5x FY11F EBITDA; 3) Oceanus is valued at 12x FY11F EBITDA; and 4) hotel rooms at 12x FY11 EBITDA.
Exhibit 211. SJM: target price derivation

FY11F NAV Divisions Gaming Grand Lisboa Legacy casinos Oceanus Hospitality Grand Lisboa Other corporate income Gross asset value Add: Net cash Target valuation end-FY11 Target valuation June-2011
Per share (HK$) 4.96 2.11 0.94
Valuation methodology 12x FY11F EBITDA 5x FY11F EBITDA 12x FY11F EBITDA
(HK$mn) 26,633 11,365 5,073
12x FY11F EBITDA 5x FY11F EBITDA
843 309 44,224 6,952 51,175 48,356
0.16 0.06 8.23 1.29 9.52 9.00
FY11 year-end forecast
Exhibit 212. SJM's one year forward EV/EBITDA

(HK$) 9 8 7 6 5 4 3 2 1 0 Apr-09 May-09 Apr-10 May-10 Nov-08 Dec-08 Feb-09 Mar-09 Nov-09 Dec-09 Aug-08 Sep-08 Oct-08 Aug-09 Sep-09 Oct-09 Feb-10 Mar-10 Jul-08 Jan-09 Jun-09 Jul-09 Jan-10 Jun-10 Jul-10 Aug-10 Sep-10 0 2 Historical average of 5.2x 8 6 4 Price (LHS) 1-yr forward EV/EBITDA (RHS) (x) 10
Source: Bloomberg, Nomura estimates

Potential downside risks include: 1) regulatory changes in China that could harm the gaming industry, 2) underperformance of Oceanus casino, 3) weaker-than-expected performance for its legacy casinos and 4) uncertainty over the health of Dr Stanley Ho, SJMs chairman.
Nomura
207
29 September 2010
SJM Holdings
Charlene Liu
Incom e statement (HK$mn) Year-end 31 Dec Revenue Cost of goods sold Gross profit SG&A Employee share expense Operating profit EBITDA Depreciation Amortisation EBIT Net interest expense Associates & JCEs Other income Earnings before tax Income tax Net profit after tax Minority interests Other items Preferred dividends Normalised NPAT Extraordinary items Reported NPAT Dividends Transfer to reserves Valuation and ratio analysis FD normalised P/E (x) FD normalised P/E at price target (x) Reported P/E (x) Dividend yield (%) Price/cashflow (x) Price/book (x) EV/EBITDA (x) EV/EBIT (x) Gross margin (%) EBITDA margin (%) EBIT margin (%) Net margin (%) Effective tax rate (% ) Dividend payout (%) Capex to sales (%) Capex to depreciation (x) ROE (%) ROA (pretax %) Growth (%) Revenue EBITDA EBIT Normalised EPS Normalised FDEPS Per share Reported EPS (HK$) Norm EPS (HK$) Fully diluted norm EPS (HK$) Book value per share (HK$) DPS (HK$)
FY08 28,211 28,211 (27,398) 814 1,600 (769) (18) 814 (75) 5 2 745 (17) 729 141
FY09 34,408 34,408 (33,245) 1,163 2,318 (1,109) (46) 1,163 (147) (8) 4 1,012 (18) 995 112
FY10F 55,458 55,458 (52,475) 2,983 4,286 (1,289) (13) 2,983 (71) 0 2,912 (20) 2,892 (20)
FY11F 62,681 62,681 (58,956) 3,724 5,047 (1,310) (13) 3,724 51 0 3,775 (20) 3,755 (20)
FY12F 71,744 71,744 (67,263) 4,481 5,814 (1,322) (12) 4,481 180 0 4,660 (20) 4,640 (20)
We expect 85% EBITDA growth in FY10
869 (74) 796 (3,800) (3,004)
1,106 (201) 906 (450) 456
2,872 (10) 2,862 (1,431) 1,431
3,735 (10) 3,725 (1,863) 1,863
4,620 (10) 4,610 (2,305) 2,305
41.6 44.8 45.4 9.1 58.0 5.7 27.3 53.6 100.0 5.7 2.9 2.8 2.2 477.7 7.0 2.6 11.7 6.7
37.7 40.7 46.1 1.1 10.3 4.9 18.0 36.0 100.0 6.7 3.4 2.6 1.7 49.7 3.9 1.2 11.5 8.4
15.1 16.3 15.1 3.2 12.9 3.6 8.8 12.6 100.0 7.7 5.4 5.2 0.7 50.0 1.1 0.5 27.4 21.1
12.0 12.9 12.0 4.2 9.7 3.0 6.9 9.3 100.0 8.1 5.9 5.9 0.5 50.0 0.2 0.1 27.4 27.9
9.7 10.5 9.7 5.1 8.1 2.6 5.3 6.9 100.0 8.1 6.2 6.4 0.4 50.0 0.2 0.1 28.6 36.5
(12.5) (19.6) (42.1) (50.7) (50.7)
22.0 44.9 42.9 10.1 10.1
61.2 84.9 156.5 150.2 150.2
13.0 17.8 24.8 25.5 25.5
14.5 15.2 20.3 23.7 23.7
0.18 0.20 0.20 1.46 0.76
0.18 0.22 0.22 1.69 0.09
0.55 0.55 0.55 2.32 0.27
0.69 0.70 0.70 2.74 0.35
0.86 0.86 0.86 3.26 0.43
Nomura
208
29 September 2010
SJM Holdings
Charlene Liu
FY08 1,600 (1,542) 564 623 (1,978) (1,355) (11) (207) 265 (226) (1,534) (3,500) 3,850 936 (442) 844 (690) 6,538 5,847 362
FY09 2,318 1,458 286 4,063 (1,344) 2,719 (8) 80 184 (2,773) 201 (300) (702) 3,891 2,889 3,090 5,847 8,937 (1,878)
FY10F 4,286 (806) (115) 3,365 (600) 2,765 (7) (31) 40 (2) 2,765 (450) (940) (1,390) 1,375 8,937 10,312 (5,797)
FY11F 5,047 (418) 8 4,637 (120) 4,517 (7) (33) 42 (3) 4,517 (1,431) (840) (2,271) 2,246 10,312 12,558 (8,899)
FY12F 5,814 (408) 137 5,543 (120) 5,423 (7) (34) 45 (3) 5,423 (1,863) (1,350) (3,213) 2,211 12,558 14,769 (12,474)
SJM has the strongest balance sheet among all six gaming operators in Macau
FY08 5,847 930 525 7,302 127 10,422 52 1,017 18,921 1,020 4,583 69 5,671 5,189 624 11,484 149 5,000
FY09 8,937 1,233 1,092 11,263 135 10,985 46 938 23,367 1,040 6,895 85 8,020 6,019 807 14,847 65 5,000
FY10F 10,312 1,295 1,134 12,740 142 10,287 41 969 24,179 1,040 6,206 72 7,318 3,475 848 11,640 85 5,374
FY11F 12,558 1,360 1,177 15,094 149 9,089 36 1,002 25,370 1,550 5,895 72 7,517 2,109 890 10,516 105 5,374
FY12F 14,769 1,428 1,223 17,419 156 7,879 32 1,036 26,522 537 5,600 72 6,210 1,757 935 8,901 125 5,374
2,287 7,287 18,921
3,455 8,455 23,367
7,081 12,455 24,179
9,375 14,749 25,370
12,123 17,496 26,522
1.29 10.8
1.40 7.9
1.74 41.8
2.01 na
2.81 na
0.23 5.0
net cash net cash
net cash net cash
net cash net cash
net cash net cash
11.2 na na na
11.5 na na na
8.3 na na na
7.7 na na na
7.1 na na na
Nomura
209
29 September 2010
Tencent Holdings 7 0 0 H K
M E D I A & I N TE R N E T/ I N TE R N E T & N E W M E D I A | C H I N A
Maintained
Jin Yoon
+852 2252 6204
jinkyu.yoon@nomura.com
BUY
Sourc e: Nomura
Action
Tencent set to remain the key Chinese Internet consumption story in the foreseeable future due to the stickiness of its platform. Its broad reach and largest user base in China allow the company to be a key competitor in every segment. Driven by continued growth in advertising and gaming, our price target remains HK$200, equivalent to an FY11F PEG valuation of 0.75. Reaffirm BUY.
HK$159.8
HK$200.0
(set on 11 Nov 09)
25.2% 9.6% 13,027 22.8%
Catalysts
Momentum in online advertising owing to increased spending in fast-moving consumer goods, coupled with continued strength in gaming, should drive growth. Anchor themes Shielded from the slowing global economy (minimal revenue from outside China) and with low Internet penetration, Chinese online gaming stocks offer defensive and growth components for a China portfolio, given their countercyclical business model and high cashflow generation.
Nomura vs consensus
We remain bullish on the stock, as we believe Tencent continues to generate significant traction, not only in gaming but also in advertising.
Internet consumption story

Sticky platform
We believe Tencent will remain the key Chinese Internet consumption story. Its broad reach and largest user base in China stretching 500mn+ active accounts allow the company to be a key competitor in every segment of Internet consumption, from online gaming to social networking to advertising. Tencent is the potential winner in the networking impact. Social networking and instant messaging are highly monopolistic products where first-mover advantage and networking impact is the key. We remain positive on Tencent because of the monopolistic nature of its business model. With the Chinese governments initiatives to drive internal consumer spending, we continue to believe that the company will benefit not only from growth in Internet penetration but also from low pricing barriers of its item-based transactions. Given the low pricing levels, we believe Tencent users and gamers will have lower price elasticity as we believe that the RMB5-50 the company charges for its premium products and games is relatively low, which is particularly important as the largest new base is coming from Central and Western China.

31 Dec (RMBmn)

12,440 5,798 5,477 2.97 85.4 47.1 36.2 20.5 0.2 19,815 9,385 8,925 4.80 61.7 29.0 20.9 12.3 0.3 27,877 13,027 12,548 6.75 40.6 20.6 14.5 7.9 0.4 35,410 16,480 16,091 8.66 28.2 16.1 10.7 5.4 0.6
59.7 57.0 49.5 41.9 net cash net cash net cash net cash 8,925 4.80 12,548 6.75 16,091 8.66

(HK$) 180 170 160 150 140 130 120 110 S e p0 9
Price Rel MSCI Chi na
140 130 120 110 100
N o v0 9
M a r1 0
O c t0 9
M ay 10
Maintain BUY and PT at HK$200

Driven by continued growth in advertising and gaming, we maintain our price target for Tencent at HK$200, equivalent to an FY11F PEG of 0.75, largely in line with the peer group average of 0.76.
Absolute (HK$) Absolute (US$) Relative to Index Market cap (US$mn) Estimated free float (%) 52-week range (HK$) 3-mth avg daily turnover (US$mn) Stock borrowability Major shareholders (%) Naspers Huateng Ma
1m 7.5 7.7 3.3
3m 20.9 21.0 17.6
A u g1 0
De c0 9
Ja n 1 0
Fe b 1 0
J un 1 0
A pr 10
J u l1 0
90
6m 2.4 2.4 0.6 38,265 50.7 175.4/122.3 84.9 Easy 34.5 10.9
Nomura
210
29 September 2010
Tencent Holdings
Jin Yoon
Internets consumer story
Playing the consumer

We believe Tencent will remain the key Chinese Internet consumption story. Why? The companys broad reach and largest user base in China stretching 500mn+ active accounts allow the company to be a key competitor in every segment of Internet consumption, from online gaming to social networking to advertising. Three years ago in 2007, Tencent had a 7% market share in online gaming behind leaders such as Shanda, Netease and even Perfect World, but now, the company has a stronghold as the largest gaming company in China with its market share expected to exceed 35% in 2010, according to our estimates. In fact, we expect the online gaming sector to grow 20% y-y this year, with only Tencent and Netease (through the acquisition of WoW) to gain market share while everyone else is expected to lose. The companys online advertising business is tracking in line with its gaming business. Back in 2007, the company was a distant fourth among portals, trailing Sina, Sohu and Netease with a 4% market share. However, in 2Q10, the company surpassed Sohu in advertising revenues for the first time, and we expect the market share gains to continue in the foreseeable future and really challenge Sina over the next couple of years for the top spot. We expect that in 2010, Tencents market share for online advertising will be 5.3%, compared to Sinas 7%, Sohus 5% and Neteases 2%.
Exhibit 213. Online gaming market share (2007)

NCTY 13% Tencent 8% CYOU 3%
Exhibit 214. Online gaming market share (2010F)

NCTY 1% CYOU 8% GA 5% Kingsoft 3% Net Dragon 2% NTES 19%
GA 15% Kingsoft 4% Net Dragon 6%

Tencent 35%
SNDA 26% PWRD 6%

Source: Nomura
NTES 19%
SNDA 18%
Source: Nomura Estimates
PWRD 9%
What is the Tencent secret?

The true value of the business lies not within the companys gaming portfolio or its social networking site or even its portal. In fact, when we look at Tencents individual business lines, we believe that more times than not, many of the companys offerings are inferior to that of its competitors. We believe that game offerings from peers such as Netease and even Shanda are superior to those of Tencent. We also believe that for social networking, renren.com, which is a Facebook-type product is superior in terms of user functionality than that to Tencents Qzone. Sina and Sohus portal offer more diversified content then that of Tencents qq.com, now with Sinas Weibo miniblog and Sohus video portfolio gaining traffic momentum. However, Tencent is the winner in the networking impact. Social networking and instant messaging are highly monopolistic products where first-mover advantage and networking impact are key. Many new users (Tencent largest new user accounts are coming from Central and Western China) are often attracted to Tencent and QQ IM, largely because their friends are on there. Furthermore, because of that, its often very difficult to move users from one network to another despite a competing site having a superior gaming portfolio or SNS offerings. The motivation for users to move is that all their contacts and friends are on a single platform like Tencents.
Nomura
211
29 September 2010
Tencent Holdings
Jin Yoon
Why we like Tencent

We remain positive on Tencent because of the monopolistic nature of its business model. Typically IM and SNS sites are very sticky and certainly Tencent is proving that to be true. With the Chinese governments initiatives to drive internal consumer spending, we continue to believe that the company will benefit not only growth in Internet penetration but low pricing barriers of its item-based transactions. Given the low pricing levels, we believe Tencent users and gamers will have lower price elasticity as we believe that the RMB5-50 the company charges for its premium products and games is relatively low, which is particularly important as the largest new base is coming from Central and Western China. Furthermore, we believe that Tencents top line is growing faster on the ARPU growth rather than new traffic growth as the company is faster in monetizing its unique users, which we estimate to be 350mn. Eventually even Tencent will run out of new users to add, however, the company is currently monetizing only 15% of its user base, and we expect this number to ramp faster than the new user growth. The companys key games such as Dungeon n Fighter and Crossfire are relatively low in ARPU (RMB75-110 per quarter), largely due to the dilution impact of a large user base, but with that, we also see room for continued increases in ARPU as some of the low spenders ramp. We believe that ARPU will continue to ramp as traffic levels continue to be in place. Tencents large use base provides monetization opportunities across gaming, SNS, and advertising. We expect Tencent to be more active in search and e-commerce as well. With Internet growth in China, we expect spending and consumption to grow as well with Tencent likely to be a key beneficiary.
Valuations
On the valuation front, Tencent shares are trading at a premium to most Internet portals on P/E terms, but we believe the companys strong EPS growth prospects and relatively low exposure to the slowing global economy support such a premium. For FY10-12F, we pencil in a non-GAAP (i.e., excluding share-based compensation) EPS CAGR of 34.3% for Tencent, second only to our estimate of a 45.7% CAGR for Baidu. For FY09-11F, the non-GAAP CAGR of Tencent is 50.8% per our estimates, while for Baidu it is 86.4%. The premium P/E valuation relative to its domestic peers also reflects Tencents high traffic volumes and continued monetisation of its user base, which are evident in its continuously refreshed slate of gaming products. We consider Baidu as Tencents only direct comparable, given its: 1) market leadership in its respective segments; 2) superior growth compared with peers, and; 3) size and economy of scale. Both companies, in our view, have comparable growth prospects, yet Tencent is trading at a marked discount unjustified in our view to Baidu. Tencent is trading on an FY11F PEG of 0.60, while Baidu is trading at 0.86. Given that the two have similar growth and profitability rates over the next two years on our reading, we consider the variance in PEG unjustified. Furthermore, Tencent is trading at an FY11F P/E of 20.6x versus Baidus 39.4x. Does Tencent merit a discount because it is a gaming company? While gaming companies tend to trade at a discount to media companies, we do not believe the company should be penalised for being good at what it does. Moreover, we do not view Tencent as a gaming company, but rather as one benefiting from games and doing so better than its peers. When it comes to the Internet in China, companies typically monetise their involvement in two ways: through online gaming or online advertising. In this context and in view of the companies similar growth profiles, we believe Tencent is still undervalued.
Nomura
212
29 September 2010
Tencent Holdings
Jin Yoon
Exhibit 215. Valuation comparison for Tencents peer

EV/Revenue Investment rating Baidu Sina Sohu NetEase Tencent Average Note: Pricing as of 21 Sept, 2010. Source: Bloomberg, Nomura estimates BUY BUY NEUTRAL BUY BUY Ticker BIDU US SINA US SOHU US NTES US 700 HK Current price US$91.19 US$51.35 US$59.55 US$38.25 HK$159.80 Mkt cap (US$mn) 31,837 3,367 2,325 4,985 38,079 2010F 26.3 6.4 2.9 4.5 12.4 10.0 2011F 15.4 5.2 2.4 3.7 8.8 6.7 EV/EBITDA 2010F 50.4 21.8 6.6 8.6 21.5 21.8 2011F 30.4 17.5 5.5 6.9 15.8 15.1 P/E 2010F 64.5 29.2 15.1 15.5 29.0 31.1 2011F 39.4 24.2 12.4 12.4 20.6 22.1 P/E excl. cash 2010F 66.5 23.3 11.3 13.1 27.5 28.5 2011F 40.6 19.1 9.2 10.4 19.6 19.8 EPS PEG CAGR 10-12F FY11F 45.7% 23.9% 20.9% 17.7% 34.3% 27.1% 0.86 1.01 0.59 0.70 0.60 0.79
Valuation methodology. We maintain our PT for Tencent at HK$200, equivalent to an FY11F PEG of 0.75, largely in line with the peer group average of 0.79. We believe this is justified compared with Baidus PEG, considering the similarities between the two companies. Our price target for Tencent represents 25.2% potential upside. Our PT for Baidu is US$90, equal to an FY11F PEG of 0.85 versus the current FY11F PEG of 0.86.
Exhibit 216. Tencent versus Baidu

Key metrics 2Q10 Rev. growth (q-q) 2Q10 Rev. growth (y-y) Revenue growth (FY10F) Revenue growth (FY11F) Revenue CAGR (10-12) Operating margin (2Q10) Operating margin (FY10F) Operating margin (FY11F) Net margin (2Q10) Net margin (FY10F) Net margin (FY11F) EPS CAGR (10-12)
Tencent 10.5 62.2 59.3 40.7 33.7 53.3 52.9 52.0 43.6 45.0 45.0 34.3
Baidu 48.0 74.4 81.2 70.3 52.3 51.9 47.1 45.4 44.9 41.6 39.9 45.7
Note: All metrics are non-GAAP based, excluding share-based compensation expenses.
Risks. Downside risks to our call on Tencent include: 1) a faster-than-expected slowdown in online advertising; 2) rapid migration of SNS/gaming users to competing sites, and; 3) renegotiations with mobile operators. For Baidu, downside risks to our price target include: 1) slower-than-expected economic growth that would slow search market growth; 2) weaker-than-expected operational leverage may lead to lower margins, and; 3) new entrants or smaller players in the search market that attract customers and constitute competition.
Nomura
213
29 September 2010
Tencent Holdings
Jin Yoon
FY08 7,155 (2,170) 4,984 (1,578) 3,406 3,767 (360) 3,406 (141) (0) 3,265 (289) 2,976 (31)
FY09 12,440 (3,889) 8,550 (2,209) 6,342 6,880 (538) 6,342 (2) 22 6,362 (819) 5,543 (66)
FY10F 19,815 (6,318) 13,497 (3,021) 10,476 11,407 (931) 10,476 (10) 47 10,513 (1,554) 8,959 (34)
FY11F 27,877 (9,115) 18,762 (4,265) 14,497 15,505 (1,007) 14,497 (12) 21 14,507 (1,958) 12,548 -
FY12F 35,410 (10,692) 24,718 (6,338) 18,380 19,555 (1,175) 18,380 (12) 21 18,389 (2,299) 16,091 -
Online advertising contributes more revenue growth going forward
2,945 160 3,105 (258) 2,848
5,477 321 5,798 (555) 5,244
8,925 460 9,385 (649) 8,736
12,548 478 13,027 (1,089) 11,938
16,091 390 16,480 (1,531) 14,949
87.9 110.1 83.4 0.1 61.1 35.5 68.2 75.5 69.7 52.6 47.6 43.4 8.9 8.3 18.6 3.7 50.3 83.1
47.1 59.0 44.5 0.2 21.3 20.5 36.2 39.2 68.7 55.3 51.0 46.6 12.9 9.6 6.3 1.5 59.7 114.5
29.0 36.3 27.6 0.3 17.8 12.3 20.9 22.7 68.1 57.6 52.9 47.4 14.8 6.9 4.8 1.0 57.0 155.2
20.6 25.8 19.9 0.4 14.0 7.9 14.5 15.5 67.3 55.6 52.0 46.7 13.5 8.4 4.8 1.3 49.5 169.2
16.1 20.1 15.7 0.6 12.0 5.4 10.7 11.4 69.8 55.2 51.9 46.5 12.5 9.3 4.8 1.5 41.9 172.3
87.2 97.6 98.9 78.0 78.0
73.9 82.7 86.2 85.4 85.4
59.3 65.8 65.2 61.7 61.7
40.7 35.9 38.4 40.6 40.6
27.0 26.1 26.8 28.2 28.2
1.69 1.60 1.60 3.97 0.14
3.14 2.97 2.97 6.84 0.31
5.05 4.80 4.80 11.35 0.36
7.01 6.75 6.75 17.64 0.60
8.87 8.66 8.66 25.65 0.84
Nomura
214
29 September 2010
Tencent Holdings
Jin Yoon
FY08 3,767 (49) 523 4,240 (1,333) 2,907 (229) (17) 26 604 (1,565) 1,725 (258) (298) (292)
FY09 6,880 2,432 2,831 12,142 (789) 11,353 (516) (0) 10 (1) (3,729) 7,117 (555) 59 202
FY10F 11,407 1,635 1,471 14,513 (960) 13,553 (249) (317) 382 (3,038) 10,330 (649) -
FY11F 15,505 1,787 1,148 18,440 (1,351) 17,089 (243) (347) 417 (3,168) 13,749 (1,089) -
FY12F 19,555 1,670 284 21,509 (1,716) 19,793 (228) (324) 390 (2,663) 16,968 (1,531) -
(848) 877 3,853 4,730 (4,730)
(293) 6,823 4,730 11,554 (11,352)
(649) 9,681 11,554 21,235 (21,032)
(1,089) 12,661 21,235 33,895 (33,693)
(1,531) 15,437 33,895 49,332 (49,130)
FY08 4,730 983 5 776 6,496 303 2,142 370 545 9,856 245 1,847 2,092
FY09 11,554 1,229 374 13,157 819 2,726 269 535 17,506 202 697 3,664 4,563
FY10F 21,235 1,958 595 23,788 1,068 2,856 219 852 28,783 202 1,109 5,837 7,149
FY11F 33,895 2,755 837 37,488 1,311 3,285 203 1,198 43,486 202 1,561 8,211 9,974
FY12F 49,332 3,500 1,064 53,895 1,539 3,910 209 1,522 61,076 202 1,983 10,430 12,615
645 2,736
644 5,207
1,026 8,174
1,443 11,418
1,833 14,448
345 5,941 833 7,119 9,856
640 10,542 1,117 12,299 17,506
1,035 18,358 1,215 20,609 28,783
1,456 29,339 1,273 32,068 43,486
1,867 43,509 1,252 46,628 61,076
3.11 24.2
2.88 3,247.2
3.33 999.1
3.76 1,217.8
4.27 1,544.0
net cash net cash
net cash net cash
net cash net cash
net cash net cash
net cash net cash
38.9 0.6 30.5 9.0
32.5 0.3 44.2 (11.4)
29.4 52.2 (22.8)
30.9 53.5 (22.6)
32.3 60.6 (28.3)
Nomura
215
29 September 2010
Zhuzhou CSR Times Electric 3 8 9 8 H K

I N D U S TR I AL S / C AP I T AL G O O D S | C H I N A
Maintained
Yankun Hou Paul Gong
+852 2252 6234 +852 2252 6177
yankun.hou@nomura.com paul.gong@nomura.com
BUY
Source: Nomura
Action
With railway vehicle investments likely to stay high for longer than expected and increasing traction for the companys power semi business, Zhuzhou CSR should see solid revenue growth over the next few years, in our view. Export opportunities set to be a mid- to long-term positive. Zhuzhou CSR is our top pick in the China railway and rolling stock universe. We reiterate our BUY call and PT of HK$25.40.
HK$21.60
HK$25.40
(s et on 11 Aug 10)
17.6% 41.2% 1,149 -0.8%
Catalysts
Potential upward revision of the companys gross margin guidance. Anchor themes We expect the railway and metro subway rolling stock market in China to grow rapidly over the next few years. Zhuzhou CSR is likely to be a major beneficiary.
Nomura vs consensus
We believe the IGBT business has great potential and may become a future earnings growth driver.
Technology makes it different

Top pick in railway equipment and construction sector
As we expect Chinas railway vehicle investments to remain high during the 12th FYP period, Zhuzhou CSR Times, as a leading Chinese train component supplier, could be a major beneficiary. In the railway construction and equipment universe, we believe Zhuzhou CSR is best positioned for the longer and fatter tail effect of high investments; in addition, it has the highest gross and operating margin among the railway sector stocks we cover.

31 Dec (RMBmn)
Revenue Reported net profit Normalised net profit Normalised EPS (RMB) Norm. EPS growth (%) Norm. P/E (x) EV/EBITDA (x) Price/book (x) Dividend yield (%) RO E (%) Net debt/equity (%) Earnings r evisions Previous norm. net profit Change from previous (%) Previous norm. EPS (RMB)

3,326 531 531 0.49 25.8 36.7 29.2 5.2 1.1 4,968 879 879 0.81 65.6 22.2 16.8 4.4 1.4 6,672 1,149 1,149 1.06 30.7 17.0 12.6 3.8 1.8 8,547 1,475 1,475 1.36 28.4 13.2 9.6 3.1 2.3
14.8 21.5 23.9 25.8 net cash net cas h net c as h net cash 879 0.81 1,149 1.06 1,475 1.36
Technological advances make it competitive

High-end equipment manufacturing is among the seven key strategic emerging industries the government intends to develop. We believe Zhuzhou CSR Times would be a key beneficiary of this incentive. The company is gradually increasing capacity for its IGBT (insulated gate bipolar transistor) business, one of its future earnings growth drivers, aiming to be a top three player in Chinas IGBT market in three to five years. With such world-leading technological capability, we believe it would eventually be competitive in the global market not only in terms of cost, but also technology. Therefore, we consider exports to be a mid- to long-term growth story for the company. Zhuzhou CSR Times does not actively pursue export opportunities, but sells its products overseas through its parent, CSR. Management has targeted generating 20% of its total revenue from overseas in mid-term.

(HK$) 25 23 21 19 17 15 13 11 Oct09 Sep09 Nov09 Dec09 Jan10
190 170 150 130 110 90 J ul10 May10 Aug10 3m 28.0 28.1 25.0
Mar10
Feb10
Valuation: reiterate BUY and PT of HK$25.40

We reiterate BUY on this stock, and maintain our 12-month PT at HK$25.40. Our PT is derived by applying 20x multiple (based on sector relative positioning) on our FY11F EPS estimate of RMB1.06 (FY11F FX assumption: RMB1=HK$1.20). Risks include any adverse policy change in the railway sector and in localisation requirements for rolling stock-related products in China.
Absolute (HK$) Absolute (US$) Relative to Index Market cap (US$mn) Estimated free float (% ) 52-week range (HK$) 3-mth av g daily turnover (US$mn) Stock borrowability Major shareholders (%) Mirae Asset Global JP Morgan Chase
1m 0.9 1.1 (2.9)
J un10
Apr10
6m 51.9 51.9 50.4 3,017
42.0 22.90/12.84 5.00 Hard 7.2 6.1
Nomura
216
29 September 2010
Zhuzhou CSR Times Electric
Yankun Hou
Drilling down
Exhibit 217. Zhuzhou CSR: financial statement overview

2009A H1A 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 Turnover % chg yoy COGS Gross Profit SG&A Operating income % chg yoy Finance cost Equity income Pretax income % chg yoy Taxes Minority adjustments Net income % chg yoy EPS (RMB, cents) DPS (RMB, cents) CFPS (RMB, cents) Outstanding shares (m) Capex Depreciation R&Ds Ratios (%) Gross margin Operating Profit margin Pretax income / revenue Tax rates Net income margin 1,314 29.5% 832 482 246 248 26.1% 5 3 246 -3% 37 2 207 7% 19.1 n.a 96.4 1,084 198 37 65 36.6% 18.9% 18.7% 15.2% 15.7% H2A 2,012 82.2% 1,286 726 421 368 55.6% 3 12 378 56% 52 2 324 41% 29.9 n.a 105.0 1,084 352 40 110 36.1% 18.3% 18.8% 13.9% 16.1%
2010E
H1A 2,652 101.8% 1,563 1,089 477 602 142.4% 3 11 610 148% 92 2 516 149% 47.6 0 100.8 1,084 n.a 49 121 41.1% 22.7% 23.0% 15.0% 19.4% H2E 2,316 15.1% 1,666 650 287 438 19.0% 9 4 433 15% 65 5 363 12% 34 24.3 100.2 1,084 n.a 67 128 28.1% 18.9% 18.7% 15.0% 15.7% 2008A 2,119 37.4% 1,332 787 412 489 47.0% 1 9 497 44.1% 74 1 422 21% 38.9 15.5 73.5 1,084 700 60 127 37.1% 23.1% 23.5% 14.9% 19.9% 2009A 3,326 56.9% 2,118 1,207 667 617 26.1% 8 16 624 25.6% 90 4 531 26% 49.0 19.5 105.0 1,084 797 77 175 36.3% 18.5% 18.8% 14.4% 16.0% 2010E 4,968 49.4% 3,229 1,739 764 1,040 68.7% 12 15 1,043 67.0% 156 7 879 66% 81.1 24.3 100.2 1,084 1,139 116 248 35.0% 20.9% 21.0% 15.0% 17.7% 2011E 6,672 34.3% 4,390 2,282 981 1,361 30.8% 14 17 1,363 30.7% 204 9 1,149 31% 106.0 31.8 114.4 1,084 1,086 152 334 34.2% 20.4% 20.4% 15.0% 17.2% 2012E 8,547 28.1% 5,598 2,949 1,256 1,747 28.4% 17 18 1,748 28.3% 262 11 1,475 28% 136.1 40.8 144.3 1,084 1,240 188 427 34.5% 20.4% 20.5% 15.0% 17.3% 2010E Variance 5,099 53.3% 2.6%
Consensus 2011E Variance 6,800 33.4% 1.9% 2012E Variance 8,647 27.2% 1.2%
882 43.0%
-15.2%
1,128 27.9%
-17.1%
1,348 19.5%
-22.8%
919 47.2%
-11.9%
1,203 30.9%
-11.7%
1,516 26.0%
-13.3%
788 48.4% 72.6 23.3 40.3
-10.4% -10.5% -4.2% -59.8%
1,027 30.3% 94.8 29.3 72.0
-10.6% -10.6% -7.9% -37.0%
1,278 24.4% 118.2 32.8 98.3
-13.4% -13.1% -19.7% -31.9%
17.3% 18.0% 15.5%
-3.6% -3.0% -2.2%
16.6% 17.7% 15.1%
-3.8% -2.7% -2.1%
15.6% 17.5% 14.8%
-4.9% -2.9% -2.5%
Source: Company data, consensus from Bloomberg estimates, Nomura estimates
Exhibit 218. Zhuzhou CSR: Forward P/E chart
Exhibit 219. Zhuzhou CSR: Forward P/B chart
Nomura
217
29 September 2010
Yankun Hou
FY08 2,119 (1,332) 787 (412) (5) 370 435 (60) (5) 370 (1) 9 119 497 (74) 423 (1) 422 422 (168) 254
FY09 3,326 (2,118) 1,207 (667) (12) 528 617 (77) (13) 528 (8) 16 89 624 (90) 534 (4) 531 531 (211) 320
FY10F 4,968 (3,229) 1,739 (764) (20) 955 1,089 (116) (18) 955 (12) 15 85 1,043 (156) 886 (7) 879 879 (264) 615
FY11F 6,672 (4,390) 2,282 (981) (20) 1,281 1,451 (152) (18) 1,281 (14) 17 80 1,363 (204) 1,158 (9) 1,149 1,149 (345) 804
FY12F 8,547 (5,598) 2,949 (1,256) (20) 1,672 1,877 (188) (17) 1,672 (17) 18 75 1,748 (262) 1,486 (11) 1,475 1,475 (443) 1,033
Strong growth from MU demand
48.4 56.9 48.4 0.8 80.0 6.0 44.2 51.8 37.1 20.5 17.5 19.9 14.9 39.8 33.0 11.7 12.9 13.8
36.7 43.2 36.7 1.1 43.2 5.2 29.2 34.0 36.3 18.6 15.9 16.0 14.4 39.8 16.5 7.2 14.8 14.2
22.2 26.1 22.2 1.4 99.6 4.4 16.8 19.1 35.0 21.9 19.2 17.7 15.0 30.0 9.1 3.9 21.5 20.6
17.0 20.0 17.0 1.8 40.7 3.8 12.6 14.2 34.2 21.7 19.2 17.2 15.0 30.0 6.7 3.0 23.9 22.7
13.2 15.6 13.2 2.3 26.3 3.1 9.6 10.7 34.5 22.0 19.6 17.3 15.0 30.0 5.3 2.4 25.8 24.3
37.4 46.3 49.6 21.4 21.4
56.9 41.8 42.7 25.8 25.8
49.4 76.5 80.9 65.6 65.6
34.3 33.2 34.2 30.7 30.7
28.1 29.4 30.5 28.4 28.4
0.39 0.39 0.39 3.14 0.15
0.49 0.49 0.49 3.49 0.20
0.81 0.81 0.81 4.06 0.24
1.06 1.06 1.06 4.80 0.32
1.36 1.36 1.36 5.75 0.41
Nomura
218
29 September 2010
Yankun Hou
FY08 435 (456) 276 255 (700) (445) (98) (26) 36 713 179 (168)
FY09 617 125 (290) 452 (550) (98) 72 (25) 12 388 348 (211)
FY10F 1,089 (688) (205) 196 (450) (254) 2 (15) 472 204 (264)
FY11F 1,451 (677) (294) 479 (450) 29 2 (17) 472 486 (345)
FY12F 1,877 (741) (395) 741 (450) 291 2 (18) 476 750 (443)
(725) (893) (714) 1,511 797 (772)
205 (6) 342 797 1,139 (1,014)
8 (256) (52) 1,139 1,086 (942)
12 (333) 153 1,086 1,240 (1,070)
16 (426) 324 1,240 1,564 (1,360)
FY08 797 100 712 523 782 2,914 74 933 48 88 113 4,170 21 610 71 702 4 36 742 19 1,084 2,157 168 3,409 4,170
FY09 1,139 742 889 930 3,700 102 1,313 53 95 138 5,401 121 1,203 146 1,471 3 48 1,522 98 1,084 2,485 211 3,780 5,401
FY10F 1,086 1,089 1,048 1,295 4,518 101 1,313 53 88 153 6,226 140 1,371 161 1,673 4 48 1,725 105 1,084 3,048 264 4,396 6,226
FY11F 1,240 1,462 1,408 1,729 5,839 99 1,313 53 82 170 7,555 166 1,841 181 2,188 5 48 2,241 115 1,085 3,770 345 5,200 7,555
FY12F 1,564 1,873 1,803 2,206 7,447 97 1,313 53 77 188 9,175 198 2,359 206 2,763 5 48 2,816 126 1,085 4,705 443 6,233 9,175
4.15 370.0
2.52 65.9
2.70 76.9
2.67 88.9
2.70 98.3
net cash net cash
net cash net cash
net cash net cash
net cash net cash
net cash net cash
104.8 132.2 141.4 95.7
79.8 121.6 156.2 45.2
67.3 109.5 145.5 31.2
69.8 102.1 133.5 38.3
71.4 105.0 137.3 39.1
Nomura
219
29 September 2010
Strategy | China
Henry Wu, CFA
Selected China research
Further reading
For more on China, please see the following reports.
Global Weekly Economic Monitor Chinas development juggernaut, 20 August, 2010 China Consumption outlook: Surprises from consumers, 20 May, 2009
Please go to http://www.nomura.com/research/getpub.aspx?pid=387910 to view the full report
Please go to http://www.nomura.com/research/GetPub.aspx?pid=323411 to view the full report
China Investment Outlook: Not just an investment boom, 3 November, 2009
China Strategy: New dawn for Central and Western China, 14 April, 2010
Please go to http://www.nomura.com/research/GetPub.aspx?spid=2943 to view the full report
China Banks: If it catches mice, it's a good cat! (30 July, 2010)
China Industrials: The story is still young, 19 July, 2010
China Foods and Beverage: Two sides to the cost story, 14 July, 2010
Global Alternative Energy: Green light for value, 2 July, 2010
Nomura
220
29 September 2010
Strategy | China
Henry Wu, CFA
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221
29 September 2010
Strategy | China
Henry Wu, CFA
Nomura
222
29 September 2010
Strategy | China
Henry Wu, CFA
Nomura
223
29 September 2010
Strategy | China
Henry Wu, CFA
Nomura
224
29 September 2010
Strategy | China
Henry Wu, CFA
Any Authors named on this report are Research Analysts unless otherwise indicated ANALYST CERTIFICATIONS
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Conflict-of-interest disclosures
On August 2, 2010, Hyflux Ltd. (Hyflux) and Mitsui & Co., Ltd. (Mitsui) announced the signing of a joint venture agreement to develop water projects in China. A newly formed 50:50 joint venture company, Galaxy NewSpring Pte. Ltd. (JV Company) will serve as the partners vehicle for investing, developing, and managing projects in Chinas water sector. The JV Company will acquire four water treatment plants from Hyfluxs subsidiary Spring China Utility Ltd. for US$53.1 million. The JV Company has also submitted a delisting proposal for Hyflux Water Trust (HWT) and intends to make an exit offer to acquire all of the HWT units not controlled by the JV Company, Hyflux, Mitsui, Hyflux Asset Management Pte. Ltd., Hyflux Water Projects Ltd or the trustee-manager of HWT (collectively the JV Parties) for S$0.78/unit. The Offer is subject to 1) the approval of a delisting resolution by HWTs unitholders, and 2) the JV Company receiving valid acceptances in respect of such number of units that, when taken together with the units owned, controlled or agreed to be acquired by the JV Parties, will comprise not less than 75% of the total voting rights of HWT at the close of the exit offer. Nomura acted as financial adviser to Mitsui in connection with the joint venture and for both Hyflux and Mitsui in connection with the delisting proposal and exit offer. Important disclosures may be accessed through the following website: http://www.nomura.com/research/pages/disclosures/disclosures.aspx . If you have difficulty with this site or you do not have a password, please contact your Nomura Securities International, Inc. salesperson (1-877865-5752) or email grpsupport@nomura.com for assistance.
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Nomura
225
29 September 2010
Strategy | China
Henry Wu, CFA
Explanation of Nomura's equity research rating system in Europe, Middle East and Africa, US and Latin America for ratings published from 27 October 2008
The rating system is a relative system indicating expected performance against a specific benchmark identified for each individual stock. Analysts may also indicate absolute upside to price target defined as (fair value - current price)/current price, subject to limited management discretion. In most cases, the fair value will equal the analyst's assessment of the current intrinsic fair value of the stock using an appropriate valuation methodology such as discounted cash flow or multiple analysis, etc.
STOCKS A rating of 'Buy', indicates that the analyst expects the stock to outperform the Benchmark over the next 12 months. A rating of 'Neutral', indicates that the analyst expects the stock to perform in line with the Benchmark over the next 12 months. A rating of 'Reduce', indicates that the analyst expects the stock to underperform the Benchmark over the next 12 months. A rating of 'RS-Rating Suspended', indicates that the rating and target price have been suspended temporarily to comply with applicable regulations and/or firm policies in certain circumstances including when Nomura is acting in an advisory capacity in a merger or strategic transaction involving the company. Benchmarks are as follows: United States/Europe: Please see valuation methodologies for explanations of relevant benchmarks for stocks (accessible through the left hand side of the Nomura Disclosure web page: http://www.nomura.com/research);Global Emerging Markets (exAsia): MSCI Emerging Markets ex-Asia, unless otherwise stated in the valuation methodology. SECTORS A 'Bullish' stance, indicates that the analyst expects the sector to outperform the Benchmark during the next 12 months. A 'Neutral' stance, indicates that the analyst expects the sector to perform in line with the Benchmark during the next 12 months. A 'Bearish' stance, indicates that the analyst expects the sector to underperform the Benchmark during the next 12 months. Benchmarks are as follows: United States: S&P 500; Europe: Dow Jones STOXX 600; Global Emerging Markets (ex-Asia): MSCI Emerging Markets ex-Asia.
Explanation of Nomura's equity research rating system for Asian companies under coverage ex Japan published from 30 October 2008 and in Japan from 6 January 2009
STOCKS Stock recommendations are based on absolute valuation upside (downside), which is defined as (Price Target - Current Price) / Current Price, subject to limited management discretion. In most cases, the Price Target will equal the analyst's 12-month intrinsic valuation of the stock, based on an appropriate valuation methodology such as discounted cash flow, multiple analysis, etc. A 'Buy' recommendation indicates that potential upside is 15% or more. A 'Neutral' recommendation indicates that potential upside is less than 15% or downside is less than 5%. A 'Reduce' recommendation indicates that potential downside is 5% or more. A rating of 'RS' or 'Rating Suspended' indicates that the rating and target price have been suspended temporarily to comply with applicable regulations and/or firm policies in certain circumstances including when Nomura is acting in an advisory capacity in a merger or strategic transaction involving the subject company. Securities and/or companies that are labelled as 'Not rated' or shown as 'No rating' are not in regular research coverage of the Nomura entity identified in the top banner. Investors should not expect continuing or additional information from Nomura relating to such securities and/or companies. SECTORS A 'Bullish' rating means most stocks in the sector have (or the weighted average recommendation of the stocks under coverage is) a positive absolute recommendation. A 'Neutral' rating means most stocks in the sector have (or the weighted average recommendation of the stocks under coverage is) a neutral absolute recommendation. A 'Bearish' rating means most stocks in the sector have (or the weighted average recommendation of the stocks under coverage is) a negative absolute recommendation.
Explanation of Nomura's equity research rating system in Japan published prior to 6 January 2009 (and ratings in Europe, Middle East and Africa, US and Latin America published prior to 27 October 2008)
STOCKS A rating of '1' or 'Strong buy', indicates that the analyst expects the stock to outperform the Benchmark by 15% or more over the next six months. A rating of '2' or 'Buy', indicates that the analyst expects the stock to outperform the Benchmark by 5% or more but less than 15% over the next six months. A rating of '3' or 'Neutral', indicates that the analyst expects the stock to either outperform or underperform the Benchmark by less than 5% over the next six months. A rating of '4' or 'Reduce', indicates that the analyst expects the stock to underperform the Benchmark by 5% or more but less than 15% over the next six months. A rating of '5' or 'Sell', indicates that the analyst expects the stock to underperform the Benchmark by 15% or more over the next six months. Stocks labeled 'Not rated' or shown as 'No rating' are not in Nomura's regular research coverage. Nomura might not publish additional research reports concerning this company, and it undertakes no obligation to update the analysis, estimates, projections, conclusions or other information contained herein.
SECTORS A 'Bullish' stance, indicates that the analyst expects the sector to outperform the Benchmark during the next six months. A 'Neutral' stance, indicates that the analyst expects the sector to perform in line with the Benchmark during the next six months. A 'Bearish' stance, indicates that the analyst expects the sector to underperform the Benchmark during the next six months. Benchmarks are as follows: Japan: TOPIX; United States: S&P 500, MSCI World Technology Hardware & Equipment; Europe, by sector Hardware/Semiconductors: FTSE W Europe IT Hardware; Telecoms: FTSE W Europe Business Services; Business Services: FTSE W Europe; Auto & Components: FTSE W Europe Auto & Parts; Communications equipment: FTSE W Europe IT Hardware; Ecology Focus: Bloomberg World Energy Alternate Sources; Global Emerging Markets: MSCI Emerging Markets ex-Asia.
Nomura
226
29 September 2010
Strategy | China
Henry Wu, CFA
STOCKS Stock recommendations are based on absolute valuation upside (downside), which is defined as (Fair Value - Current Price)/Current Price, subject to limited management discretion. In most cases, the Fair Value will equal the analyst's assessment of the current intrinsic fair value of the stock using an appropriate valuation methodology such as Discounted Cash Flow or Multiple analysis etc. However, if the analyst doesn't think the market will revalue the stock over the specified time horizon due to a lack of events or catalysts, then the fair value may differ from the intrinsic fair value. In most cases, therefore, our recommendation is an assessment of the difference between current market price and our estimate of current intrinsic fair value. Recommendations are set with a 6-12 month horizon unless specified otherwise. Accordingly, within this horizon, price volatility may cause the actual upside or downside based on the prevailing market price to differ from the upside or downside implied by the recommendation. A 'Strong buy' recommendation indicates that upside is more than 20%. A 'Buy' recommendation indicates that upside is between 10% and 20%. A 'Neutral' recommendation indicates that upside or downside is less than 10%. A 'Reduce' recommendation indicates that downside is between 10% and 20%. A 'Sell' recommendation indicates that downside is more than 20%. SECTORS A 'Bullish' rating means most stocks in the sector have (or the weighted average recommendation of the stocks under coverage is) a positive absolute recommendation. A 'Neutral' rating means most stocks in the sector have (or the weighted average recommendation of the stocks under coverage is) a neutral absolute recommendation. A 'Bearish' rating means most stocks in the sector have (or the weighted average recommendation of the stocks under coverage is) a negative absolute recommendation.
Explanation of Nomura's equity research rating system for Asian companies under coverage ex Japan published prior to 30 October 2008
Price targets
Price targets, if discussed, reflect in part the analyst's estimates for the company's earnings. The achievement of any price target may be impeded by general market and macroeconomic trends, and by other risks related to the company or the market, and may not occur if the company's earnings differ from estima.
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Nomura
227
29 September 2010
Strategy | China
Henry Wu, CFA
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Strategy | C H I N A

NOMURA INTERNATIONAL (HK) LIMITED

Henry Wu, CFA

+852 2252 2122

Twelfth Five Year Plan a healthy push

Stocks for action

14.4 17.0 8.0 11.95

* Initiating coverage; Price target up

Consumption a new growth driver Industry consolidation/upgrades/central and western China

Henry Wu, CFA

+852 2252 2122

Stocks for action

Twelfth Five Year Plan a healthy push

Industry consolidation/upgrade/central and western China

Energy saving for long-term sustainable growth

10 stocks most geared to the 12th FYP

Henry Wu, CFA

Sustainable growth the key objective Consumption, consumption, consumption

Industry consolidation and upgrade to sustain long-term investment growth 21

Central and western China: still plenty of opportunities

Energy consumption cuts Appendix: development of FYPs

Five-Year Plans: development maps

Boosting household consumption

Promoting regional development

Improving energy efficiency and protecting the environment

Henry Wu, CFA

China sector views

China stock picks

Henry Wu, CFA

Henry Wu, CFA

Exhibit 1. Historical FYPs and 12th FYP outlook

Industry Return - A share listed companies

Tertiary--Whole & retail trading ROE (%) Five-year average

Exhibit 2. Quarterly GDP growth vs H share EPS growth (4Q95-2Q10)

Exhibit 3. Quarterly GDP growth vs A share EPS growth (1Q04-2Q10)

(50) 4 8 12 GDP growth (%) 16

(40) 4 8 12 GDP growth (%) 16

Source: Bloomberg, WIND, CEIC, Nomura research

Source: Bloomberg, WIND, CEIC, Nomura research

Henry Wu, CFA

Our key conclusions

Exhibit 4. Stock valuation

14.3 netcash netcash netcash

0.9 netcash netcash

Henry Wu, CFA

Exhibit 5. Stock performance

Henry Wu, CFA

Exhibit 6. Top-10 share price performance during each FYP period

Henry Wu, CFA

Exhibit 7. Economic development cycle for every FYP

Asia finanical crisis

Source: WIND, Nomura research

Henry Wu, CFA

Exhibit 8. HSCEI index performance vs GDP growth

Source: Bloomberg, CEIC, WIND, Nomura research

Exhibit 9. SHCOMP index performance vs GDP growth

Source: Bloomberg, CEIC, WIND, Nomura research

Exhibit 10. HSCEI index P/E vs quarterly GDP growth

24 Average GDP growth of 10% 16 Average PE of 14x 8

Source: Bloomberg, CEIC, WIND, Nomura research

Henry Wu, CFA

Five-Year Plan major themes

Sustainable growth the key objective