China H-Share Strategy
MSCI China 2014 results preview – benign results
to help H-shares catch up with A-shares
MSCI China earnings to grow about 7.0-7.5% in 2014E
We expect MSCI China's constituent companies to grow their net income by about 7.0-
7.5% YoY in 2014E, slightly ahead of the market's forecast of 6.3%. We think the
analysts' forecasts do not fully reflect raw material cost deflation. And, EBIT growth
should outpace the estimated revenue growth of 6-7% in 2014E. Given the H-share
market's fair valuation (10x 12m fwd PER vs. A-share's 13x), we expect the market to
respond positively to earnings results and the A/H-share premium to narrow.
A-share alerts suggest resilient profitability in discretionary consumer sectors
Based on the results alerts of around 1,800 A-share stocks, 64% of corporates are
profitable or have become more profitable (Figure 1 ). We believe the household
products, TMT and healthcare sectors will probably report the strongest results. We
think the strong job market and about 10% household income growth still underpins
the resilient demand of mass market consumers. In the H-share universe, UBS analysts'
forecasts suggest the largest misses could appear in the energy, environment services,
real estate and telecom sectors (Figure 2).
Watch for the evidence of SOE reform
We expect annual results to provide some early evidence that SOE reform is taking
effect, in terms of capex reduction, cost saving, financial de-leveraging and cash flow
improvement. On our calculations, capex growth in H-share non-financial companies
could slow from 12% in 2013 to -0.8% in 2014E, reducing the net gearing from 41%
to 38%, and lifting cash flow per share by 9% from October 2014's recent trough.
Possible capital raising plans to favour H- over A-shares
The monetary policy easing and A-share rally have completely reshaped the corporate
financing landscape (see details in our earlier note Butterfly effect of funding cost
decline, 27 January 2015). During the results season, company management will likely
bring forward various capital raising plans. Companies with large A/H-share price
premiums will likely guide for A-share placement, which should bode well for H-share
investors especially if the proceedings are used to repay debts or acquire good assets.