China Construction:Railway infrastructure FAI update

November 2013 railway FAI updates. In the first eleven months of this year, RMB448b in railway infrastructure FAI has already been spent, that’s a 4% YoY increase. This leaves RMB82b left to be spent in December before the full-year target of RMB530b is reached. In November, railway infrastructure FAI was RMB65b, up 18% MoM but down 8% YoY.

Media reports 2014 railway infrastructure FAI to decline. According to local news outlets, 2014 railway infrastructure FAI is likely to come in below RMB500b, 6% below the RMB530b invested in 2013. According to the MOR, railway infrastructure investment will be RMB450b every year from 2013 to 2015. As RMB530b was spent in 2013, only RMB410b remains for 2014 and 2015. Even considering the railway construction has been favored by the government and the potential for the FAI to be revised up, the railway infrastructure FAI will not be above RMB500b.

Railway FAI upside surprise. Though a declining railway infrastructure FAI, we do think there is still possibility to have upside surprise, as (1) in recent years, the budget for railway FAI has been conservative and actual realized investment has invariably gone over what was budgeted at the beginning of the year, and (2) certain projects planned for the beginning of the year may be delayed to 2014.

Recommendations. We expect China’s railway FAI budget to be announced late this month or in early January. If recent media reports about the budget prove correct, China railway constructor share prices are likely to come under pressure. CRG (390 HK, Neutral) and CRCC (1186 HK, Outperform) have 35% and 39% revenue exposure to railway construction and are most likely to be hurt by the new policy. This news does not change our long-term positive view which is for growth in railway FAI. We believe FAI growth could produce an upside surprise in late-2014F and suggest investors accumulate CRCC on share price weakness.

Risks. Downside risks to our call include a significant reduction in transportation FAI, higher financing costs, and escalation in client defaults, and more stringent construction quality control and environmental requirements.