China Railway Group (601390 CH) – Having its day in the sun
• Outperformance vs. market
• Further growth expected, supported by macro conditions and policies
• Renewed focus on highway-to-railway shift for cargo transportation
Outperformed market since last report – Since our last report on 1 September 2021, the stock price of China Railway Group-A (CRG) appreciated by about 10%, compared to a 5% fall for the CSI300 Index over the same period, based on the closing price on 4 February 2022. In comparison, China Communications Construction (CCCC-A) rose 24% while China Railway Construction (CRCC-A) appreciated by 6% over the same period.
Supportive macro backdrop and policies – Last year we saw outperformance of the China infrastructure stocks with the rotation to value/cyclicals, and we expect further interest in the sector due to 1) government stimulus in infrastructure, green investments, and 14th five-year national key projects, and 2) higher issuance of local government special bonds. As China seeks to safeguard the health of its economy, the pivot towards pro-growth may start to gain focus, and infrastructure capex is part of China’s countercyclical fiscal toolkit. We also see renewed focus on a highway-to-railway shift for cargo
transportation (first brought up in 2018), as China seeks to lower logistics costs and accelerate its decarbonization push.
Expected to achieve further growth – In CRG’s earlier 9M21 results, the group posted a 12% increase in revenue to RMB768b and a 13% rise in net profit to RMB20.6b New contracts secured in 9M21 amounted to RMB1,466b, up 8.3% YoY, and order backlog stood at RMB4.28tn, which was more than four times the group’s 2020 revenue. Indeed, CRG, along with its peer CRCC, have hardly lacked work over the years, as they support China’s infrastructure investment growth. However investor interest was earlier lacking due to the capital intensive nature of the projects and resulting draw on balance sheet, and style preferences which have leaned towards growth stocks. Last year, aided by the rotation to value/cyclicals, the stocks
of China infrastructure contractors have so far outperformed the market. We update our assumptions and our fair value estimate for CRG-A rises from CNY5.73 to CNY6.52.
ESG updates
ESG rating downgraded in Jul 2021 – CRG used to have the highest ESG rating among the four Chinese infrastructure contractors under coverage, but this changed when its rating was downgraded in Jul 2021. The company had an independent majority board, but with the recent board reshuffle (Jun 2021), the leadership is no longer independent and includes three executives, including the CEO. This may limit independent management oversight. There are also recurring related-party transactions (RPTs) with its controlling owner, China Railway Engineering Corporation, although its fully independent audit committee may help mitigate potential governance risks associated with RPTs for all investors. HOLD. (Research Team)