Railway-related sector takes beating
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Shanghai Daily, June 30, 2011
China's decision to reduce its investment in railways in the next five years has been quick to ripple through capital markets.
Shares of companies such as CSR Corp and China CNR Corp - two major builders of national rail cars - have been tumbling since the Ministry of Railways announced it will cut its rail investment target to 2.8 trillion yuan (US$432.8 billion) from 3.5 trillion yuan over the next five years. Spending in 2011 alone will shrink 14 percent to 600 billion yuan.
The cutbacks reflect mounting debt associated with railway construction, concerns about profitability of new rail lines and a ministry budget deep in deficit.
It's a far cry from last year, when China's multi-trillion-yuan plans to build 16,000 kilometers of high-speed rail track that crisscross the country was a showpiece of the country's economic growth strategy.
In May, investment in railway infrastructure declined 16.9 percent, the first drop since 2008. Combined investment in the first five months totaled 198.6 billion yuan. That was up 13.4 percent from a year earlier but down from 25.7 percent growth five months ago.
CNR shares have lost 14.5 percent so far this year, closing at 6.67 yuan yesterday. For the year to date, China Railway Construction Co is down 12.3 percent and China Railway Group has lost 10.7 percent. CSR shares have tumbled 14.8 percent since the start of this year.
The Shanghai Composite Index has dropped 4.4 percent so far this year.
So what's behind the rail sector's slowing engine.
UBS said in a report this month that the slash in government investment may cast a shadow over prospects for railway-related firms as orders for new rolling stock drop drastically, hurting corporate earnings.
Under its revised budget plans, the ministry will give top priority to projects under construction and will proceed cautiously in giving the green light to new projects, the Swiss-based investment bank said.
Rail-related profits this year and next will be underpinned by orders already placed and likely to be filled with the scaled-back funding, UBS added.
However, starting in 2013, many rail-related companies will begin to feel the squeeze on revenue and profit, the bank warned.
Ominous signs are already emerging.
For the first quarter, China Railway Construction said it signed contracts valued at 3.3 billion yuan, compared with nearly 90.6 billion yuan in the same period a year earlier. China Railway Group reported new deals sealed in the first quarter declined by 39 percent.
UBS forecast that new contracts landed by China Railway Construction this year are expected to drop 50 percent to 220 billion yuan. China Railway Group is expected to see a more than 20 percent decline.
China Railway Construction also suffered a blow from overseas markets, failing to recover investments of 686 million yuan on projects in Libya following the start of a military conflict there more than three months ago. Overseas deals in the first quarter plummeted 83 percent, the company said.
For China Railway Group, its recent 100 billion yuan deal with Myanmar may give it a breather, but the company's serious debts suggest it may be a short one.
China Railway Group said cash flow from operational activities in the first quarter were in the red to the tune of nearly 2.2 billion yuan. China Railway Construction reportedly borrowing almost 4.3 billion yuan to handle its cash flow.
CNR's cash flow was 6.9 billion yuan in the red, while CSR owed 7.1 billion yuan, according to their reports.
The Ministry of Railways is the biggest client of the two rail-car makers, which means budget cuts make a big difference to the firms.
So what kinds of investment prospects does China's rail sector hold for stock market players?
Analysts at Shenyin Wanguo Securities suggest investors stick with railway operators whose main business is freight.
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