China Railway Construction Corporation:Buy at a bargain

Buy the cheap valuation. CRCC is trading at 0.7x 2014P/B and 5.7x 2014 P/E, which is cheap in our view. Weconsider the current valuation attractive and believe CRCCis a good investment proxy for China railway and urban railconstruction. CRCC holds a monopoly in railway andurban rail construction in China, with 40-50% and 30%market share in each market, respectively. We think thesector will enjoy steady growth in the long term as Chinarailway infrastructure is still under-developed and urbanrail is expected to be the next driver of transportation FAI.Our price target of HK$11.00 is based on 10x 2014F P/E.

FY13 results in line. CRCC reported net profit ofRMB10b, in line with consensus and our estimate.Revenue increased 21% and net profit increased 20% in2013. Gross margin declined slightly from 10.6% in 2012to 10.1% in 2013 but net margin remained the same. Wemaintain our 2014 earnings forecast of RMB11b.

Flat new contract growth. CRCC new contract growthwas 8% in 2013. We expect another 8% in 2014, moreconservative than management’s expectation of 10%growth.

Potential upside from 2014 railway investment. Webelieve there is potential upside to the 2014 railway FAItarget of RMB630b as: (1) the government might increasethe FAI budget to stimulate the economy should China’smacro economy slow down faster than expected; (2) Thelong anticipated railway development fund is expected tobe approved by the State Council in 2014. The financinghas been the bottleneck for China railway construction;and (3) In recent years, the budget for railway FAI hasbeen conservative and actual realized investment hasinvariably gone over what was budgeted at the beginningof the year. China railway FAI was raised 6% in July 2013

Risks. We believe the company faces two main risks:(1) Macro risk. Government policy, especially as it relatesto FAI, could have a significant detrimental impact onCRCC’s earnings for the next several years. (2) Defaultrisk. Delays in customer payments could hurt CRCC’sworking capital and cash flow. Failure to obtain sufficientfunding could also affect the company’s expansion plansand development prospects.