Stocks that play on Asia's infrastructure boom

By Gillian Livingston
Globe Investor Magazine Online, April 2, 2008

Asia is booming. Its population is ballooning and its cities are growing. Amid this phenomenon of urbanization, infrastructure stocks are the ones among those reaping the benefits.

As cities rise up, skyscrapers are built, which benefits cement, steel and metals firms. Urbanization fuels the need for power, and water and waste management. Next, avenues of communication and transportation need to be built. Manufacturers benefit as workers demand consumer products, and citizens with cash need financial services.

Although Asian markets have fallen sharply this year, it is an opportune time to invest long-term in Asian infrastructure stocks, analysts said.

"Demand in developing countries of Asia is booming, driven by huge infrastructure buildup," said Rakesh Arora, who covers Indian cement and metals companies for MacCap Securities in India, in an email from there. "Also, the stocks have corrected significantly so growth is available at huge value."

Harald Egger agrees. He's the chief investment officer of equities for Austrian investment firm Erste-Sparinvest, which runs the ESPA Stock Asia Infrastructure fund. The company is also part of the Erste Bank Group.

Mr. Egger said following the correction due to global market uncertainties these stocks offer "good earnings momentum."

"Investments in the infrastructure area should - however - be rather uncorrelated to economic swings," he said in an e-mail from Vienna. "Investments are planned long term in many countries and will be done regardless whether there is a recession in the U.S. or not."

Asian urbanization trends have been the focus of two Hong Kong-based UBS analysts, Simon Smiles and Bill Sohn, who have selected 20 top stocks they think will flourish as urbanization spreads over India, China, Indonesia, Pakistan, Thailand, Cambodia, Vietnam, Malaysia and Philippines over the next several decades.

Cement

A key element of construction is cement. Mumbai-based ACC Ltd. (ACC, India) is a top pick for UBS. It is 43-per-cent owned by Holcium group, India's largest cement manufacturer. Holcium is known around the world for operating cement plants with low energy costs, so the UBS analysts expect ACC's efficiency to improve under Holcium's leadership. ACC makes ready-mix concrete (RMC), and "as urbanization increases, we expect RMC use in India to increase rapidly," UBS said.

Mr. Arora also has a "buy" rating on ACC saiding it is "a premium cement sector company and is a beneficiary of strong demand and high cement prices."

Both Mr. Arora and UBS recommend Grasim Industries Ltd. (GRASIM, India), based in Mumbai. Mr. Arora call Grasim an "emerging cement leader in India." In 2007, Grasim, the second-largest cement maker in India, was selected as part of Forbes Asia's Fabulous 50 Award, which lists the best of Asia-Pacific's biggest listed companies. Grasim is part of the Aditya Birla Group, a $24-billion (U.S.) conglomerate.

Steel

Steel is another sector that benefits from construction growth. The Steel Authority of India Ltd. (SAIL, India) is a top pick for UBS. Owned 85 per cent by the state, SAIL is India's largest steel producer. By 2012, the company has plans to nearly double its hot metal output.

"Growth in urbanization should increase growth in the consumption of steel over the long term, and SAIL is highly leveraged to continued strong growth of the Indian economy, and build-out of Indian cities and related infrastructure," the UBS report said.

One of Mr. Arora's choices is JSW Steel Ltd. (JSTL, India). It's part of the Jindal Group, and has invested in the latest steel-making technology. It has plants that handle raw iron ore while other plants churn out everything from steel pellets to colour-coated steel. JSW has "huge volume growth," of about 250 per cent coming over the next two years, and is improving its raw material integration, he said.

Another top pick for Mr. Arora is Tata Steel Ltd. (TATA, India), the world's sixth-largest steel company, because of its "improving operating efficiency and increasing raw material integration."

Metals Mr. Arora expects other metals firms will benefit from the growing demand for infrastructure. Hindalco Industries Ltd. (HNDL, India), one of the biggest aluminum producers in Asia, is also part of the Aditya Birla Group. It will do well with "rising aluminum prices and the tripling of capacity over the next three years," he said.

Sterlite Industries India Ltd. (STLT, India), a leading producer of copper in India, is another pick from Mr. Arora. The company, a subsidiary of Vedanta Resources Group, has had "huge growth in its core base metals business" and has recently forayed into the power generation business, he said.

Energy

After the buildings and skyscrapers are erected, energy becomes a focus. UBS and Mr. Egger like Bharat Heavy Electricals Ltd. (BHEL, India), one of the largest suppliers of power generation equipment in India. It is 68-per-cent owned by the Government of India. A big driver in Bharat's growth is the fact India needs more power but doesn't have the supply. Its order book has soared to $20-billion (U.S.), about four times last year's sales. With earnings growth of about 25 per cent annually, and a recent sharp price correction "provides a good investment opportunity now for the stock," Mr. Egger said.

The UBS analysts and Mr. Egger also like Perusahaan Gas Negara PT (PGAS, Indonesia), which has a near monopoly in Indonesia's domestic gas industry and is set to expand its capacity.

"We believe PGAS will benefit from higher demand from urbanization, which in turn could allow prices to be raised, resulting in higher profitability," Mssrs. Smiles and Sohn said in their report. Mr. Egger adds that the company has "high earnings growth because the country plans to expand gas distribution to households" so citizens are cooking with gas instead of wood.

UBS also likes Yanzhou Coal Mining Co. Ltd. (1171, Hong Kong), a Chinese coal company with six mines in China and Australia. "We forecast 45 per cent, 23 per cent and 18 per cent year-over-year net profit growth in 2008, 2009 and 2010, respectively, driven by coal price increases and output growth from 2009 with the start of production at two new mines and other acquisitions in China and Australia," the report said.

In the energy sector, Mr. Egger also likes Korea Gas Corp. (036460, Korea), which is working with Russia's Gazprom and is the dominant gas importing company in Korea. GAIL India Ltd. (GAIL, India) is the largest gas transmission firm in the country, and is another choice of Mr. Egger.

Transport and communications

As more people move to the city for jobs, there's a built-in demand for transportation and communication. Rising to the top of the UBS list for transportation is PLUS Expressways Bhd (PLUS, Malaysia), one of the largest toll road operators in Asia, with roads in Malaysia, Indonesia, and India. "We believe PLUS Expressways has been, and will continue to be, highly geared to the Asian urbanization theme," the analysts said.

UBS also likes Indonesia's PT Astra International Tbk (ASII, Indonesia) because of the auto maker's top position in the country with about 50 per cent of the car market and 45 per cent of the motorcycle market. UBS estimates up to 25 per cent growth in the car market, and up to 20 per cent growth in the motorcycle market.

"Specifically, the company will likely benefit because in cities, people tend to use cars [or] motorcycles for transport," the analysts said. "This is especially true in Indonesia, as cities do not have decent public transport systems and it will take some time to rectify this problem."

For communications, UBS picks Bharti Airtel Ltd. (BHARTI, India), India's largest mobile phone operator with about 24 per cent of the market. They forecast five-year earnings growth of 24 per cent.

"We believe Bharti will be a major beneficiary of urbanization because as people move to cities to take up employment, one of their first consumer durable purchases is a mobile phone," the analysts said.

Another top telecom pick is China Mobile Ltd. (941, Hong Kong), the largest such carrier in the country with a 70-per-cent share of total subscribers. The analysts estimate a five-year profit growth of 10 per cent. "We view it as a key beneficiary of urbanization, in part due to its extremely strong rural coverage and market share," UBS said.

Other areas that benefit from urbanization are water treatment, consumer goods and financial services. Here's a list of other infrastructure picks from UBS, and one from Mr. Ebber.

Sembcorp Marine Ltd. (SMM, Singapore): a Singapore-based marine engineering group which builds ships and offshore rigs. (Mr. Ebber's choice)

Larsen & Toubro Ltd. (LT, India): India's largest engineering and construction company.

PNOC Energy Development Corp. (Philippine National Oil Company) (EDC, Philippines): one of the largest geothermal energy producers in the world.

Bio-Treat Technology Ltd. (BIOT, Singapore): which treats polluted water so it can be safely released into the environment.

IVRCL Infrastructures & Projects Ltd. (IVRC, India): which does engineering work and builds infrastructure projects in India.

Gome Electrical Appliances Holdings Ltd. (493, Hong Kong): the largest consumer electronics retailer in China.

Gree Electrical Appliance Inc. (000651, China): a Chinese air conditioner maker.

Bumiputra-Commerce Holdings Bhd (BCHB, Malaysia): has banking operations in Malaysia and Indonesia.

Kasikornbank PCL (KBANK, Thailand): Thailand's fourth-largest bank.

Bank Central Asia Tbk PT (BBCA, Indonesia): Indonesia's second-largest bank.

ICICI Bank Ltd. (ICICIBC, India): India's largest private bank.