the new chinese landscape a chance for europe
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The new Chinese landscape : a chance for EuropeAn explosion in consumer demand in China.Source : http://www.sgresearch.com/p/en/2/33374/0/435DF433C77F42C9C125785C005967B6.html?sid=8355ad3e673dde7a9c65615e0a61440bTRANSCRIPT
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Macro Commodities Forex Rates Equity Credit Derivatives
23 March 2011
Economy
Beyond the cycle
www.sgresearch.com
The new Chinese landscape: a chance for Europe
An explosion in consumer demand in China The size of the urban Chinese middle class by 2015, i.e. double the
level observed in 2008.
Anticipated growth in demand for household goods and services by
2015, with +222% for durable goods.
The rise in Chinese household consumption between 2008 and 2015,
with +71% for food.
At the current rate, China will become the largest export market for all
European countries by 2020.
Weaker competition: EMU export prices to China rose by 45% from
2004 to 2010, and prices of imported Chinese products went up 41%.
Portion of European exports represented by China by 2020
Source: SG Cross Asset Research
Main sector positioning relative to new Chinese landscape Beneficiaries* Protected* At risk*
Automotive (high/mid-range) Automotive (premium) Telecoms equipment
Clothing Luxury Electrical equipment
Agri-food/Beverages Chemicals Industrial equipment
Pharmaceuticals Basic materials Renewable energies
media
Banking/Insurance * Strong demand and easing
competition * Strong demand and low exposure to competition * Strong demand but increasing
competition
x 3.3
x 3.3
x 2.3 x 4.5x 2.5 x 3.3
x 3.1x 3.5
x 1.9
0%
4%
8%
12%
16%
Germany France Italy Ndls Belgium Spain EMU 6 UK Sweden
2009 2020
400 million
+204%
+94%
Opportunities
Pricing power
Project leader
Véronique Riches-Flores (33) 1 42 13 84 04 vé[email protected]
With contributions from Philippe Barrier, Adrien de Susanne, Marie-Line Fort, Joseline Gaudino, Didier Laurens, Jean-Baptiste Roussille
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The new Chinese landscape: a chance for Europe
23 March 2011 2
Contents
3 The new Chinese landscape: a chance for Europe
3 Industrial revival in Europe after thirty years of decay
4 Industrials: heading for a sustainable rerating?
8 China: from an export machine to a consumption machine
9 Chinese middle class set to double by 2015
12 Sharp rise in demand
14 Auto… market set to double in size by 2020
17 Danone… or the westernisation of dietary lifestyles
19 China is losing grip – the unprecedented level of competition of the past decades has now gone
19 From international hyper-competition to an asymmetrical demand shock
20 European industry: a good deal has survived!
22 Seb… The Chinese experience from one decade to the next
24 Shift in Chinese demand: from yesterday’s champions to the beneficiaries of tomorrow
24 Exports to China rose by 20% per annum between 2001 and 2009
26 China set to become Europe s leading export market by 2020
27 A story about consumption rather than capital goods
29 Rail equipment: shattered dreams
30 Renewable energies: Chinese manufacturers in front!
31 ABB, Siemens, yesterday’s major beneficiaries of the Chinese demand boom…
34 Outlooks in terms of growth and profitability are now becoming more mixed
37 Gains should be more evenly balanced between the different sectors and European countries
38 What are the risks?
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The new Chinese landscape: a chance for Europe
23 March 2011 3
The new Chinese landscape: a chance for Europe
Industrial revival in Europe after thirty years of decay China’s transition from an export-performance-based model to a consumption-based model
paves the way for an industrial revival in Europe. The relative positioning of the lower value-
added industries has improved and the potential gains are more evenly distributed between the
various European economies.
The Chinese transition, a factor that should support European growth. That the
emerging markets are having an increasing influence on the earnings of European companies
is old news. SG Cross Asset Research has released various reports on this subject, the most
recent having just been published (on Emerging markets, the benefit for small & mid-caps).
While these changes now seem to be factored into company valuations, few economists seem
to have considered the extent to which this factor could support European industry and
economic growth in the future.
China is becoming less and less of a rival but more a vast market. The acceleration of
the Chinese transition from an export-performance-based model to a consumption-based
model is totally changing the global rules of play. Not only has China become a source of
unparalleled levels of growth in a new type of demand, that of consumer goods rather than
capital goods, but this growth is being accompanied by a substantial easing in international
price competitiveness.
Opportunities and profitability. Having been hit hardest by Chinese competition over the
last two decades, European industry, which accounts for 40% of global trade in manufactured
goods, is now best placed to take advantage of these changes. Europe is set to benefit in
terms of both opportunities and profitability. The structural outlook for exports has
significantly improved, as consequently has the outlook for Europe’s economic health in
general.
Valuations impacted in different ways depending on the industry. After years of relative
underperformance, industry should see a substantial improvement in market conditions as a
result of this new environment. In contrast, to past trends, the valuation of the traditional
consumer industries, automotive, clothing, food and pharmaceuticals, should benefit from an
unprecedented source of demand and a much easier competitive environment. Conversely,
progress made by China in the most strategic high tech industrial, energy, transport and
telecoms equipment sectors will probably make these areas of the Chinese market harder to
penetrate than they have been up until now. The best of the China story may well be ending
for these industries, which have up until now been the strongest performers, and their
valuations look set to suffer.
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The new Chinese landscape: a chance for Europe
23 March 2011 4
Industrials: heading for a sustainable rerating? In 2010 the European industrial stocks were trading at close to 20x earnings, a record high
level not seen since 1973. The hardcore industrials aerospace, transport, industrial
equipment and chemicals put in an even stronger performance, with median P/E touching a
high of 22 over the course of the year, bringing the gap in valuation vs the overall market to an
exceptional level of six points.
Europe - Difference in performance of industrial stocks vs the market
Source: SG Cross Asset Research
Though clearly boosted by the performance of the German industrials, a significant
improvement in the valuations of industrial companies can be observed across most European
countries. At a P/E of more than 20 in the second half of 2011, hardcore French industrials, for
example, were trading at their highest multiple since the mid-1980s.
France:-P/E of industrial stocks
Source: Datastream, SG Cross Asset Research
8
6
4
2
0
2
4
6
8
Q11973
Q11976
Q11979
Q11982
Q11985
Q11988
Q11991
Q11994
Q11997
Q12000
Q12003
Q12006
Q12009
Core
Overall ind.
5
7
9
11
13
15
17
19
21
23
25
Q11973
Q11976
Q11979
Q11982
Q11985
Q11988
Q11991
Q11994
Q11997
Q12000
Q12003
Q12006
Q12009
Overall ind.
Core
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The new Chinese landscape: a chance for Europe
23 March 2011 5
In the near term, there is every chance that this trend will slow down. Not only is the
consolidation of the economic recovery leading to more diversified investment opportunities,
notably in services, insurance and banking, but also high input prices continue to weigh on the
margins at this stage, for both the industrials as well as the other sectors.
Business sentiment on input prices Implicit margins in services and industry
Sources : SG Cross Asset Research, PMI Market data
Nevertheless, in the longer term, the outlook for industry has improved enough to justify
a structural rerating of many sections of the European industrial landscape with,
however, significant sector rotation in comparison to past results.
Current P/E of the European industry, long-term average (1973-2010) and anticipated effects of the Chinese transition on the valuation in the medium term (3-5 years)
Source: SG Cross Asset Research
0.0
5.0
10.0
15.0
20.0
25.0
30.0
Inds
Eng
Person
alPrd
Eltro/Elec
Eq
Hab
il.&
access.
S/W
&Co
mpSvs
TchH/W
&Eq
Aero/Defence
Beverages
Inds
Tran
spt
Chem
icals
GeneralInds
Auto
&Pa
rts
Gen
Retailers
Airlines
BasicResource
Semicon
ductors
Food
Rtl&
W
H/H
Gds,Hom
eCo
n
FdProd
ucers
Paper
Toba
cco
Con&Mat
Pharm
Utilities
Tot.mkt
44.8
Long-termaverage
Q1 2011
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The new Chinese landscape: a chance for Europe
23 March 2011 6
Chinese transition Following a period of more than two decades, during which the Chinese economy has been
catching up with the developed nations, the transition from an export-led growth model to a
domestic growth model driven by private consumption is likely to have profound
consequences on the global
environment. Because we
are talking about China, and
therefore an industrial
competitor of unparalleled
proportions, whose entry
onto the global marketplace
has strongly influenced the
international competitive
environment for more than
20 years, the effects of this
transition are likely to be of
an unprecedented nature.
Aside from an incalculable
source of growth in
demand for industrial goods, the change in the Chinese growth model is likely to be
accompanied by a significant easing in the global competitive environment which is likely
to relieve producers in the rest of the world of the strain of the hyper-competition that has
weighed on them in the years that China s global market share was sky-rocketing. European
industry, which still accounts for a large portion of global production capacity, is
probably best placed to benefit from this radical change in environment characterised
by a sharp rise in opportunities and stronger profitability.
Thirty years of widespread industrial decline As the world s leading exporter of manufactured goods, Europe had the highest exposure to
increased competition from Asia in general, and China in particular, over the last three
decades. In conjunction with the extremely unfavourable currency conditions seen between
2002 and 2008 when the euro gained some 50% against the Asian currencies in real terms,
this competition ate away at the low value-added and low-technology industries that
continued to characterise various sectors of European activity. With the exception of Germany
which has been protected by a particularly high degree of specialisation in the capital
equipment sector which has accounted for half of the growth in global demand for
manufactured products in the 10 years leading up to the crisis, Europe has been heavily hit by
this situation. Since the beginning of the nineties, the portion of GDP contributed by industry
has decreased by between 5% and over 10%, depending on the country, while per-capita
growth in the value-added of the industrial sector has collapsed across the board.
While the most diversified economies have been able to partly compensate for these losses
through the development of services or through construction, particularly during the 15 years
of exuberant growth in the financial sector, Europe s structural growth potential has
substantially declined since the beginning of the 1980s, a trend that has become even more
worrying after the financial crisis, when the possibility of compensating these industrial losses
through tertiary activities looks to be largely compromised. This has understandably led to
growing pessimism over the outlook for Europe, as is reflected almost daily in downbeat
economic forecasts.
Chinese market share in global exports of manufactured goods, % in dollars
Source: SG Cross Asset Research
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The new Chinese landscape: a chance for Europe
23 March 2011 7
Contribution of the manufacturing industry to GDP, current prices in %
Contribution of finance and corporate services to GDP, current prices, %
Source: SG Cross Asset Research
However, the change in China’s influence on the international scene could be strong
enough to pull European industry away from a trajectory that has up until now been
considered unavoidable. After more than two decades of industrial decay during which the
developed countries came to rely on a single services sector as their main source of value
creation, the changes that are currently under way on the international scene are overturning
the established order.
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The new Chinese landscape: a chance for Europe
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China: from an export machine to a consumption machine
The development of
Chinese consumption has
absorbed all the efforts of
the ruling class since the
crisis erupted with
implications that are so
profound that they are
difficult to anticipate. With
the Chinese economy being
ripe for such a change,
economic policy momentum
is producing rapid and
spectacular effects on many
levels. Thus the Chinese
automotive market, barely
the size of the French
market 10 years ago, is now
nine times larger than the French market, and growing at a rate of more than 19 million
vehicles per annum, according to the latest figures. Today, the world’s largest automotive
market, China looks set to become the largest market for an increasingly large range of
products.
This new environment is already having very significant effects on the global climate.
According to our estimates, growth in consumer spending in emerging countries exceeded
the level recorded by the developed countries by 40% in 2010, with Chinese consumer
demand alone estimated to have equalled that of the US in terms of contributions to global
consumption growth.
Breakdown of global consumption in 2010, current $ Contribution to annual consumption growth in constant $ of 2008
Source: SG Cross Asset Research
Unsurprisingly, in this hierarchy we are once again struck by the export performance of the
European countries over the last 24 months of economic recovery, during which exports to
Otheradvanced
EMU
USA
Jap.
Brazil
India
China
Other EM
250
50
150
350
550
750
950
1150
1990 1995 2000 2005 2010
650
China
otherEM
USA
otherindus.
475
Car registrations
Source: SG Cross Asset Research
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The new Chinese landscape: a chance for Europe
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China have constituted the biggest almost the sole contributor to export growth in the
eurozone.
Extra EMU export breakdown of the eurozone
Source: SG Cross Asset Research
Chinese middle class set to double by 2015 Despite the progress already made, this rebalancing of Chinese consumption is probably still
only in its early stages. The increase in revenues, combined with relentless urbanisation and
major changes in the demographic structure of the country in recent years, has led to a
considerable rise in the Chinese middle class, and all indications suggest that this trend will
accelerate over the coming years (see report by Wei Hao Prosperity for the Proletariat or
Inflation for the Nation , published in October 2010).
Investigations on the subject carried out by the major research institutes mostly indicate a rise
to around 500 to 650 million people by 2020/25. However, with the definition of middle class
varying quite considerably, and verging on fantasy in some cases, we have tried to define the
income threshold at which changes in consumer behaviour become most marked. The
analysis we have carried out on the annual surveys conducted by the Chinese national bureau
of statistics (NBS) suggests that the most significant changes occurred when per-capita
income exceeded 16,000/18,000 yuan p.a. in 2008, which is equal to $2,450-2,650 at present.
When expressed in terms of purchasing power parity, based on an exchange rate of
3.8 yuan/USD in 2008 according to the IMF, this threshold equates to income of $4,200-4,700.
In 2008, 40% of the Chinese population fell into this category, characterised by average
disposable income of 27,000 yuan and average consumption expenditure of 17,900 yuan,
which is respectively 72% and 60% higher than the urban population as a whole. The
difference in the behaviour of the middle income category, compared with the low-
income population, is considerable, both in terms of savings and consumption.
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The new Chinese landscape: a chance for Europe
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The middle classes account for 75% of Chinese household savings… The propensity to save is much higher among the more well-off segments of the population,
than among the lower income categories, with the apparent savings rate ranging from less
than 5%, among the poorest urban households, to more than 38% for the wealthiest 10%.
Thus a large part of the steady rise in the Chinese household savings rate over recent years
can be explained by changes in demographic structure and the improvement in living
standards.
…and 60% of urban consumer spending Consumer spending patterns vary significantly across the different revenue brackets. Above
the threshold that we consider to be middle class, the level of household equipment
ownership (e.g. refrigerator, colour television, telephone, etc.) is generally 50% higher than for
the lower income categories. Meanwhile, vehicle ownership is 30 times higher and air
conditioning/heating system ownership is 8 to 10 times higher, etc. (see overleaf). Aside from
the changes highlighted by the analysis of mass expenditure studies which essentially point to
a reduction in the proportion of the household budget devoted to food, in favour of transport
and telecommunications, the growth of the middle class has brought about a
considerable increase, as well as diversification, in demand for consumer goods and
services, which is fundamentally changing the needs of the Chinese economy and the
way in which it functions.
Breakdown of consumer spending for the less well-off urban households (1st decile) - 2008
Breakdown of consumer spending for the wealthiest 40% of urban households - 2008
Source: SG Cross Asset Research
Food48%
Clothing9%
Residence12%
HouseholdFacil ities,Articles andServices
4%
Health CareandMedicalServices
7%
TransportandCommunication
s8%
Education,CultureandRecreationServices
9%
MiscellaneousGoods andServices
3%
Food34%
Clothing10%
Residence10%
HouseholdFacil ities, Articles
and Services7%
Health Care andMedical Services
7%
TransportandCommunications
15%
Education,CultureandRecreationServices13%
MiscellaneousGoods andServices
4%
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The new Chinese landscape: a chance for Europe
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Urban households’ per capita living expenditure breakdown by income group relative to average, in yuan (bars) and as % of total expenditure (RHS)
Source: SG Cross Asset Research
4,533 6,195 7,99410,345
13,31717,888
26,982
0
5000
10000
15000
20000
25000
30000
Firstdecile Seconddecile
secondquintile
Third quintile Fourthquintile
Ninth decile Tenth decile
Total consumptionexpenditure,yuan
0
20
40
60
2000
4000
6000
8000Food
0
5
10
15
0
500
1000
1500
2000
2500Clothing
0
5
10
15
0
1000
2000Residence
0
2
4
6
8
0
1000
2000HH facilities, articles and services
0
5
10
0
1000
2000Health care andmedical services
0
5
10
15
20
0
500
1000
1500
2000
2500Transport& communication
0
5
10
15
20
0
1000
2000Education, culture, recreational
This chart is based on survey results published by the Chinese National Statistics Bureau showing the breakdown of household spending by income group. The x axis shows average per capita spending for the entire population while the bars show the breakdown by income category. For example, transport & communication spending averages 1,358 yuan per capita per year for urban households as a whole, 424 yuan for the 10% lowest income category and 3,959 yuan for the wealthiest 10%. The right hand scale shows the percentage of total household spending represented by each item for each income group, amounting to respectively 8% (lowest income group) and 18%(highest) in the transport & communication example.
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The new Chinese landscape: a chance for Europe
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A middle class of four hundred million consumers by 2015 Based on the revenue growth projections and the expected development of the urban
population (from 600 million today to 700 million in 2015, assuming an inflexion in the
urbanisation trend in line with current government objectives), the middle class population is
expected to grow considerably over the next few years. According to our estimates, this
category will double between now and 2015, from 180-210 million people in 2008, to 380-
420 million. It is therefore expected to account for more than 60% of the urban
population within five years.
Annual growth in disposable income/cap, % Urban population repartition by income levels, 2008 and 2015 projections
Source: SG Cross Asset Research The above chart shows the estimated proportion of the middle class as a % of overall urban population. The shift to the right of the crossing point between the different areas and the grey line (between lower income population and middle class indicates the increasing share of the middle class.
Sharp rise in demand The implications of these anticipated developments are considerable.
Increase in savings capacity First and foremost the Chinese household savings rate should continue to be driven up by the
progression of an increasing proportion of the population towards the categories that have a
particularly high propensity to save.
Alongside the rapid increase
in the retired population
whose appetite for assets is
generally very high, this
trend should, all else being
equal, continue to fuel very
robust growth in demand for
savings instruments which,
in the event of inadequate
supply, is likely to turn
excessively towards other
available (reachable) assets,
particularly real estate.
3
1
1
3
5
7
9
11
13
15
78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 12 14
Known
High Hyp.
Low hyp.
0
10000
20000
30000
40000
50000
60000
70000
80000
10095907050302010
low income class
upper income class
% of urban population
Annual income range/cap., yuan
2015
2008
High hyp.
Low hyp.
Population of 45-65 year olds as % of total
Source: SG Cross Asset Research
10
12
14
16
18
20
22
24
26
28
30
1950 1960 1970 1980 1990 2000 2010 2020 2030 2040 2050
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The new Chinese landscape: a chance for Europe
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Breakdown of savings and consumer spending by income bracket – 2008-2015
Source: SG Cross Asset Research
Doubling of consumption, tripling of demand for household equipment Nevertheless, the most significant impact these changes are expected to have is on consumer
demand. Assuming expenditure remains constant in relation to standard of living, we estimate
that urban consumption would grow by 80% to 100% in real terms between now and 2015.
The increase will however be a lot more significant in certain specific categories of goods. The
progression of an increasing proportion of the population towards the levels of revenues that
correspond to the middle class should in particular lead to a considerable increase in demand
for household equipment, with our estimates suggesting an increase of 140% to 180% per
head, which corresponds to a potential increase of 180-220% on a national level. While
growth in expenditure on clothing, healthcare, education and leisure looks likely to be less
spectacular, at around 50-80% per head based on our preferred scenario, it nevertheless still
looks set to grow by 80-100% overall by 2015. Finally, while the food sector and transport and
communications look likely to see the least growth, they should nevertheless still record
increases of 70% and c. 50% respectively, based on current prices.
Growth in revenues and consumer spending of the urban population per capita and in total between 2008 and 2015, % Projections based on the SG central scenario* Risk scenario
Source: * see SG Monthly Country Notes – Staggered Policy Exits; SG Cross Asset Research
0
20000
40000
60000
80000
100000
120000
140000
2008 2015 2008 2015
10th dec.
9th dec.
4thQ.
3rdQ.
2ndQ.
2nd dec.
1stdec.
Savings
Consumption
0 50 100 150 200 250
Average Disposable income
Total Consumption Expenditures (yuan)
Food
Clothing
Residence
Household Facilities, Articles and…
Of which DurableConsumer Goods
Health Care andMedical Services
Transportand Communications
Education, Culture and Recreation…
Population
Ofwhich urban
Per cap.
Total urban
%
0 50 100 150 200 250
Average Disposable income
Total Consumption Expenditures (yuan)
Food
Clothing
Residence
Household Facil ities, Articles and…
Of which DurableConsumer Goods
Health Care andMedical Services
Transportand Communications
Education, Culture and Recreation…
Population
Ofwhich urban
Per cap.
Total urban
%
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The new Chinese landscape: a chance for Europe
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Auto… market set to double in size by 2020 As living standards have improved, the Chinese auto market
has enjoyed spectacular growth in recent years. At 19 million
vehicles, it has become the world s largest market in less than
10 years, and is now significantly larger than the American or
European markets. However, despite this growth, the market
is still a lot smaller than can be envisaged long term. With a
fleet of 125 million vehicles, according to our estimates, or a
vehicle ownership rate of 70 for every 1,000 inhabitants, the
Chinese market is still well away from achieving a level that
can be considered as the start of standardisation. By
comparison, having been at a similar level as China today in
the early 1990s, vehicle ownership in South Korea and Brazil
had risen to 250 and 200 respectively per 1000 inhabitants by
2007.
If we assume that the increase in the vehicle ownership rate
observed over the last 10 years were to continue to 2020, an
assumption that is probably over-conservative, the number of
vehicles for every 1000 inhabitants would reach 170, which
implies a doubling in the market (260 million) and corresponds
to average annual growth of 18 million vehicles, a level already
achieved in 2010. Under a more optimistic scenario that
extends the trend seen over the last five years, the Chinese
automotive market would exceed 300 million by 2020, to
reach a vehicle ownership rate of 270/1000.
Change in vehicle ownership rate
Source: SG Cross Asset Research
Chinese capacity is far from being developed enough to cope
with this explosion in demand. While capacity was believed to
be in excess prior to the crisis, the recent acceleration in sales
leaves no doubt: the existing and planned production capacity
cannot match the anticipated demand. In 2009 the OECD
estimated that the sector would be 45% short of the required
capacity by 2015.
Emerging market demand now represents the auto
market’s only growth source
The rapid development of car sales in the emerging market
represents a genuine growth opportunity for the entire auto
sector. In the medium term, with the outlook for the mature
markets being as it is, growth will depend mainly on the
development of new markets, justifying the production and
commercial capacity that is being established in the emerging
markets by the major auto manufacturers.
Already in 2010, 53% of light passenger vehicle sales were
generated outside of the mature countries, compared with
38% in 2006. The portion represented by China stands at
24%, compared with 10% five years ago. Based on 7%
growth per annum over 2010-2020, with more buoyant growth
of 10% per annum over 2011-2015, the emerging markets
should account for close to two-thirds of global demand by
2020, with China representing 35%, well ahead of North
America (17%) and western Europe (20%).
Growth is being driven by the emerging markets – sales registered by the European automotive market, 000s
Source: SG Cross Asset Research
If we take a closer look we can see that the luxury market,
driven by the development of the middle classes, is likely to
remain stronger. The portion of total sales represented by the
luxury car segment remains low in comparison to mature
countries, and the catch-up effect is likely to continue. In
China for example, the luxury car market accounts for around
5% of the total, compared with 15% to 20% in the rest of the
world. A partial catch-up would justify growth more than 50%
higher than the level realised by the auto market as a whole in
the medium term, with the German manufacturers remaining
the best positioned in this niche.
0
50
100
150
200
250
97 99 00 01 02 03 04 06 07 08 09 10 11 13 14 15 16 17 18 20
Vehicles /1000 inhabitants
Trend observedover last 10 years
Trend observed overlast 5 years 0
20 000
40 000
60 000
80 000
100 000
120 000
North America
Western Europe
Japan
ROW
of which China
TOTAL
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The new Chinese landscape: a chance for Europe
23 March 2011 15
Proportion of premium models in total sales
Source: SG Cross Asset Research
There are two main risks to this scenario:
Political decisions or economic policy measures, which
could be introduced to rapidly slow consumption. Although
such measures could trigger a temporary decline, they
probably wouldn t change the 5-10 year growth outlook.
Stronger local competition in China. Local players are
currently focused on entry-range models. The risk is that they
will enter the mid-range hence the need to rapidly
consolidate positions. As usual, the real luxury market
(German cars) is beyond the reach of new entrants.
Structural change in margins (profitability)
The results achieved in these regions are generally high
following the initial start-up phase, a trend which tends to
increase the long-term profitability of the car makers.
Maintaining high margins in the emerging markets should lead
to better long-term results.
Financial analysis needs to play close attention to the various
levels of results here. Note that in China the carmakers cannot
own more than 50% of a Chinese company. This means that
they are obliged to set up joint ventures with local partners
and that they cannot fully consolidate this business in their
accounts. It is therefore necessary to look for their
contributions:
At the EBIT level, for exported vehicles and also parts sent
over for local assembly. BMW generates nearly 13% of its
volumes in China, i.e. 187,000 vehicles, and around 18% of
its revenues (SGe) which are largely derived from the export
of assembled vehicles (two-thirds in 2010) with a very high
product mix and a significant amount of parts sent over for
assembly. We estimate that China accounts for at least a
third of the group s EBIT, whereas the result posted by the
local joint venture currently seems very low.
In the equity associates line of the results (portion of net result
of local companies) which can be very high. For example,
Volkswagen sells 27% of its volumes in China, i.e. 1.9 million
vehicles, through two joint ventures that are very well
integrated locally (VW, Audi and now Skoda brands). Although
the group announced that it exports 600,000 engines and
gearboxes to China, the bulk of the earnings are generated by
the joint ventures. The portion of operating income retained by
VW was reported at 1.9bn, based on a double-digit margin in
2010.
Overall, for the German companies which are the most directly
exposed, the Chinese contributions have exceeded all targets,
going a long way to explaining why the 2010 results were
much higher than expected. Aside from local volume-price
effects alone, emerging market demand has helped to
saturate production units in a cost-cutting environment, and to
reinforce the pricing power of the better players. Thus in 2010
the published results were in line with previous cycle peak
levels before the traditional markets had even seen revenues
return to normal.
French brands gradually more visible
The performance of the French car manufacturers has also
significantly improved. China accounted for 376,000 units
sold by PSA in 2010, i.e. over 10% of total volumes,
representing an increase of 38%. The contribution of the
Chinese JV to the PSA s net income rose from 57m to
159m (14% of the total). As part of its strategy to reinforce
its presence in China, PSA plans to open a third production
unit in 2013 and has signed an agreement for a second joint
venture. Meanwhile, Renault has a limited direct presence in
China, barring a few exports from Korea. While Renault s
results remained weak in 2010 (operating margin of 2.8%),
43%-owned Nissan s contribution to the group s net income
rose from a loss of 0.9bn to a profit of 1.1bn. Over the last
12 months, Nissan generated a quarter of its sales, nearly
one million units (+40%) in China, while achieving a strong
margin of more than 8%.
0.0
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0
9.0
0
200
400
600
800
1000
1200
1400
1600
1800
2009 2010 2011 2012 2013 2014 2015
Premium segment ('000 units)
part of total market (%)
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The new Chinese landscape : a chance for Europe
23 March 2011 16
Market development, 2006-2020
Source: SG Cross Asset Research
Portion of the major carmakers’ results derived from China
(€m) Revenues EBIT Net income
Volkswagen 2010 estimates (March 2010)
106,300 2,570 1,575
In reality 128,675 7,141 6,835
BMW 2010 estimates (March 2010)
54,300 1600 1010
In reality 60,477 5,094 3,224
Daimler 2010 estimates (March 2010)
82,450 2,970 1,700
In reality 97,761 7,274 4,500
PSA 2010 estimates (March 2010)
51,770 905 605
In reality 56,060 1,736 1,134
Renault 2010 Estimates (March 2010)
34,550 730 620
In reality 38,971 1,099 1,420
Source: SG Cross Asset Research
Only a partial rerating has occurred so far
Thanks to the frequent earnings forecast upgrades, the auto
sector gained 50% in 2010, with the best players
(Volkswagen, BMW) up close to 90%.
Revenue multiples (EV/sales) have hardly risen above the
levels observed in March 2010 for the full-year estimates. They
merely take into account the current data. Meanwhile the
sector continues to trade at a low level in terms of earnings
multiples (P/E, EV/EBIT, EV/EBITDA), below the historical
averages of the companies concerned. We see two reasons
for the market caution:
On the one hand, the multiples applied to the emerging
markets have returned to normal levels (e.g. P/Es of around
10x) after having reached levels of 14x to 20x in the past.
On the other hand, investors are worried about the strength
of the results achieved in the new markets, which are less
cyclical than the mature markets but more volatile and more
sensitive to political decisions. The market seems be applying
an informal discount to the reported numbers.
Overall, after a period of scepticism the growth that we project
for these regions should convince the market that the results
currently being achieved are sustainable. In this context, our
preferred stocks remain Volkswagen and BMW, and then
Peugeot SA with the management making efforts to step up
expansion outside Europe (China, Russia and South America).
Philippe Barrier (33) 1 42 13 84 42
2006
N. AmericaW. EuropeJapanROW
2010 2020
N. AmericaW. EuropeJapanROW
N. AmericaW. EuropeJapanROW
B33374
a chance for Europe
23 March 2011 17
Danone… or the westernisation of dietary lifestyles
While China featured in the group s top three markets in 2007
(more than 10% of sales), problems with Wahaha
considerably reduced its exposure. The group has now
successfully recovered on its own in each of its segments. In
2010 China represented the 10th largest market (4% of
sales).
With a very old-fashioned approach to health, China is almost
a perfect market for Danone whose aim is to bring health to
the masses through better eating. Danone is present in China
in all three of its businesses: dairy products, water and infant
nutrition. Urban Chinese consumers, whose purchasing
power is steadily growing, and especially the under-30s and
the only-child generation, are increasingly favouring high
value-added products.
In terms of consumer behaviour and taste, China represents
a whole mosaic of different markets. The country is made
up of 30 autonomous regions and provinces with
populations sometimes exceeding 90 million (equivalent to a
country the size of Germany). Today more than 110 towns
have more than a million inhabitants. All in all, this calls for
powerful distribution networks, especially with traditional
retailers (small family-owned stores) still accounting for 70-
75% of sales.
Having built up 22 years of experience in the country, Danone
has adopted a step-by-step approach and adapted to the
specific features of each of these markets.
Danone s strategy in China is symbolised by three brands:
Dumex is China s leading super-premium brand of baby milk.
Twenty million children are born each year in china. The only-
child status elevates these children to the king of the family
which demands only the best products. The super premium
baby milk segment is the largest (40% of the market) and it is
this segment which drives the market. Following the recent
melamine scandal involving Chinese milk (2008), Chinese
mothers now tend to favour foreign products which were not
affected by the scandal. This is Danone s largest business in
China (>60% of sales).
The success of Dumex can be attributed to a dynamic sales
team but also to the independent distributors which reach out
to the 550 million urban Chinese people. The group is
extending its presence in the premium segment with its
Bébélac brand which has been launched in eight provinces.
Mizone (flavoured and vitamin enriched water) is driving the
group s growth in the Chinese bottled water market (35% of
sales). In a country where bottled water is still mostly
consumed outside the home, Danone has chosen to focus on
execution quality (marketing policy with campaigns on local
television channels). The group has so far only reached 600
million Chinese people, covering 14 provinces with a
presence in 300,000 points of sales. Its portfolio includes
Health and Evian (mineral water), Robust (purified water) and
Aquarius (HOD, Shanghai).
Consumption of food products, kg/person/year (red 2005, grey 2009)
Sources : Euromonitor, SG Cross Asset Research
Danone: geographical breakdown of sales (2009)
Source: SG Cross Asset Research
0
10
20
30
40
China Rus. USA Ita. Fra. NL
Yoghurt
0
20
40
60
80
100
120
China Rus. USA Ita. Fra. NL
Baby f ood
0
10
20
30
40
50
60
China Rus. USA Ita. Fra. NL
Milk powder (6 -36 months)
France11%
Other westernEurope9%
Spain8%
Germany5%UK
5%US8%
OtherAmericas
2%
Russia11%
Mexico5%
Indonesia5%
China4%
Argentina4%
Otheremerging
21%
Other developedcountries
2%
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The new Chinese landscape: a chance for Europe
23 March 2011 18
Bio (Activia in Europe) carries the flag for the fresh dairy
products, in a country where milk consumption is strongly
encouraged by the authorities. This government initiative is
aimed at getting Chinese people to grow. It is true that eating
habits have a direct impact on the height of an individual. In a
Japanese family living in the United States it only takes a
single generation for family members to achieve a similar
height to the Americans. However, milk does not feature
heavily in Chinese cuisine. Children stop drinking milk at a
very young age when their digestive systems are not yet fully
grown. Thus, given that most adults are unable to digest milk
(lactose intolerance), dairy products (fermented milk
products) represent the best solution for increasing milk
consumption. Danone s development potential is very strong.
Based on its experience with Bright Dairy, the group started
out in the Shanghai and Canton regions. Bio is positioned in
the health niche (publication of a clinical study showing the
benefits of Bio for women suffering from constipation); while
it is estimated that 70% of Chinese people suffer from
digestive problems. Through its R&D centre in Shanghai, the
first to be opened by the group in Asia, Danone s researchers
are adapting the products to local tastes. The Bio range
therefore includes a variety of different flavours vanilla, nut,
aloe vera, etc and is altering the way in which yoghurt is
eaten in China, i.e. with a spoon, as opposed to with a straw
which is how it is traditionally consumed in the country. Bio is
the most dynamic brand in the digestive comfort segment,
which by itself accounts for 30% of the market, thanks to
considerable investment in advertising.
Danone has also expanded its presence in clinical nutrition,
its fourth business. The group has begun with enteral feeding
systems (nutrition delivered directly into the stock via a tube,
48% market share). The group s teams are working in close
partnership with the scientific community and the medical
profession to respond to consumer needs in this domain.
There is little doubt that Danone will continue to achieve
strong growth in this market.
Joseline Gaudino (33) 1 42 13 84 32
B33374
The new Chinese landscape: a chance for Europe
23 March 2011 19
China is losing grip – the unprecedented level of competition of the past decades has now gone
These changes are nothing new. We have ourselves largely anticipated them and detailed
their potential consequences for global consumption in the medium term. What is new is the
speed at which this transition is taking place. There is no doubt that neither China nor all of the
Asian countries combined would have the capacity to respond to such an increase in demand
at the rate at which it is taking shape. The faster the improvement in the standard of living, the
higher consumer demand is for quality and the higher the appetite is for branded products.
Thus the additional Chinese demand, which we had previously expected to be of limited
benefit to the developed nations, offers new opportunities based on the current
conditions.
From international hyper-competition to an asymmetrical demand shock Refocusing of Chinese manufacturers on their own market With a thriving domestic economy, Chinese companies no longer need to look beyond their
own borders to grow and seem to have already started to refocus on the home market. In
order to prevent bottlenecks the Chinese government has also recently eliminated a certain
number of export subsidies that were previously granted to companies. Their capacity to
conquer new market share in the developed countries has also gradually eroded as a result of
the increase in production costs and the rising quality requirements set by western
consumers. The period in which each new day brought consumers the world over a host
of new low priced products to replace their existing ones has now gone, and with it the
hyper-competitive conditions that came to characterise the last two decades.
The boom in Chinese demand seems to have already triggered a significant reduction in
international competitive pressure on European companies, a trend reflected both in the
export markets and on the domestic market.
EU 27 export prices of manufactured goods, indices EU 27 import prices of manufactured products by origin
Source: SG Cross Asset Research
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The new Chinese landscape: a chance for Europe
23 March 2011 20
Thus, not only did global trade of manufactured products become tight between 2005 and
2008, but also, in spite of the impact of the crisis on demand, prices returned to their upward
trend very soon after the crisis. In this respect, the recovery in EU27 import prices of
manufactured products, regardless of whether they were of American, Japanese or Chinese
origin, is quite surprising. Another unexpected trend is the price increases implemented by
exporters on most of their markets, notably the Chinese market, which indicates a very
marked recovery in pricing power.
China’s grip has already weakened, and so too has the extraordinary level of
competitiveness that has characterised the global trade environment for the last 20
years. This constitutes an unexpected opportunity for European industry which still
accounts for a large portion of global manufacturing capacity.
European industry: a good deal has survived! In 2009 the eurozone still represented 35% of global manufactured goods exports. Europe as
a whole, including the Scandinavian countries and the UK, supplied up to 40% of international
demand.
Breakdown of the global manufactured goods market, 2009, %
Source: SG Cross Asset Research
Regardless of the business sector, eurozone manufacturers still hold prominent positions in all
regions in terms of world trade, representing:
More than 30% of global exports of industrial equipment, a sector that itself accounts for
more than 50% of global trade in manufactured goods;
More than 50% of the global chemicals market the weight of which was equal to more
than a sixth of all manufacturing exports in 2009;
More than 40% of all international automotive exports and over 35% of the global iron
and steel markets, with each recording considerable rates of expansion;
Others: 9.9
Brazil: 0.8Russia: 0.8
India: 1.4
ChinaMainland: 14.9
Hong Kong: 4.0
Jap.: 6.7
S. Korea: 4.3Ger.: 12.8
Fra.: 5.1
Ndl: 4.1
Bel.: 3.8Ire.: 1.3
Ita.: 4.5Spa.: 2.1
Por.: 0.4
Fin.: 0.7
Swe.: 1.4Den.: 0.8
UK: 3.4
USA: 10.6
Canada: 2.1
EMU : 34.8%
B33374
The new Chinese landscape: a chance for Europe
23 March 2011 21
25% of global textiles and clothing exports, sectors that have been by far the hardest hit
by increasing competition from new Asian producers since the beginning of the 1980s, in
which the positioning of certain countries, Spain in particular, has nevertheless improved over
recent years.
Thus the European countries could actually be far better positioned than is generally
perceived, to benefit from a new economic order which should bring an increase in
opportunities and a simultaneous easing of competitive pressure, to allow stronger
profitability and a recovery in market share, both at export and in the domestic markets.
Market shares in the main global manufactured products sectors (weight of the sector in terms of global exports of manufactured goods as a % in 2009)
Source: SG Cross Asset Research, EMU5
0%
5%
10%
15%
20%
25%
30%
35%
40%
1995 2000 2005
Machinery & transport eqmt (52%)
0%
5%
10%
15%
20%
25%
30%
35%
40%
45%
1995 2000 2005
Textile (2%)
0%
5%
10%
15%
20%
25%
30%
35%
40%
45%
50%
1995 2000 2005
Clothing (4%)
0%
5%
10%
15%
20%
25%
30%
35%
40%
45%
50%
1995 2000 2005
Auto (10%)
0%5%
10%15%20%25%30%35%40%45%50%55%60%
1995 2000 2005
EMU ow ger.
USA BRICs
Jap. S. Korea
Chemicals (16%)
0%
5%
10%
15%
20%
25%
30%
35%
40%
45%
1995 2000 2005
EMU ow Ger.USA BRICsJap. S. Korea
Iron & steel (3%)
B33374
The new Chinese landscape: a chance for Europe
23 March 2011 22
Seb The Chinese experience from one decade to the next Seb provides a good illustration of the change in the
functioning and influence of the Chinese economy vis-à-vis its
competitors. The small electrical household appliance market
was hit hard by competition from China and the enormous
number of 5 products that swamped the market at the
beginning of the 2000s. In 2003 the group mentioned in its
annual report that the weakness of the dollar had penalised
its competitiveness on the international level and favoured
growth in entry-range products manufactured essentially in
Asia .
Seb: Gross margin and $/€ trends
Sources: Seb, Datastream
Various companies found different ways of dealing with this
new competition. Most American and some European
companies chose to outsource their production and negotiate
with the Chinese manufacturers for their finished products. By
contrast, Seb decided to concentrate on the core and
upmarket segments where innovation rather than price is the
differentiating factor. Nevertheless the group was still forced
to conduct a major restructuring programme in its
manufacturing activities. Between 2002 and 2009, Seb
devoted 65m in revenues p.a. to restructuring or asset
depreciation.
This policy enabled the group to retain a large proportion of
its production in Europe (40% of total production) based on
highly satisfactory profitability conditions (the Rumilly
production unit manufactures 40 million saucepans, frying
pans and casserole dishes each year). This European
production aspect allows the group to stand out in the
industry as the last of the Mohicans as its chairman, Thierry
de la Tour d Artaise, likes to say.
Seb nevertheless also reinforced its presence in China when
the opportunity arose. The acquisition of Supor, negotiated in
August 2006 and finalised in August 2007, ranks as one of the
group s major transforming deals, alongside Rowenta, Arno,
Moulinex and All Clad. The Chinese cookware company has
market leading positions in the local small electric household
appliance market (no.4 in 2007, no.2 today) and has seen its
revenues triple since 2007. Supor still offers various synergies
as the Chinese middle class develops, generating new
consumer needs.
Seb: production capacity by region
Source: SG Cross Asset Research
Currently the second most important market in terms of
revenues (13% behind France which accounts for 19%),
China will most probably become the group s largest market
before long. Small electric household appliance penetration is
still very low in China, at 10 times lower than the level
observed in the developed countries. In China and in the
emerging markets in general, the sector is on the verge of a
very strong surge in development, similar to that seen in the
developed countries in the 1960s (growth of 11% p.a. in the
French market between 1959 and 1973). The Chinese small
0.50
0.60
0.70
0.80
0.90
1.00
1.10
1.20
1.30
1.40
38.0%
39.0%
40.0%
41.0%
42.0%
43.0%
44.0%
45.0%
46.0%
Gross margin $/€
Sourced products; 30%
Europe; 40%
China; 20%
SouthAmerica; 8% US; 2%
Sales of small household electricals, France
Source: INSEE
-15%
-10%
-5%
0%
5%
10%
15%
20%
25%
30%
-1000
-500
0
500
1000
1500
2000
1959 1966 1973 1980 1987 1994 2001 2008
Consumption: small hhold elecs (€m in € 2000 terms), LH scale% change, RH scale
+5% p.a.+3% p.a.+11% p.a.
B33374
The new Chinese landscape: a chance for Europe
23 March 2011 23
electrical household appliance market currently consists of
rice cookers, pressure cookers and soya milk extractors but,
with Seb s help, Supor is gradually expanding its offering into
kettles and blenders, and hopes in time to introduce irons and
vacuum cleaners.
The development of the Chinese subsidiary has led the group
to invest heavily in its production capacity. We estimate that
the group has invested around 60m in its production sites in
China and effectively doubled its production capacity. By
2012 the Chinese production sites should have reached a
capacity of 70 million units (vs 100 million for the European
sites), which means that the proportion of total production
represented by China (currently 20%) is expected to steadily
grow.
Aside from the period in which the company was rocked by
emerging market crisis, Seb stands out for its good record in
terms of underlying EBIT (see graph on next page), having
recorded steady growth of 7.9% p.a. on average, compared
with 6.7% growth at the top-line, between 1995 and 2010. In
our view this growth reflects the group s capacity to generate
value added through innovation regardless of competitive
pressure, changing consumer spending trends, currency
movements and rising raw materials costs.
By contrast, EBIT, excluding restructuring charges and other
non-current charges, has been rather erratic, with growth
(+2.3% p.a. on average between 1995 and 2010) falling short
of the level recorded at the top line.
Meanwhile Seb s valuation multiples over this period have
tended to track the volatile EBIT trend, rather than the
underlying EBIT trend. The stock performance has therefore
reflected the market s fears surrounding the industrial
challenges faced by the group as a result of competition
from China.
Between 2006 and 2007, after the announcement of the
Supor acquisition, the stock entered a rerating phase, but
this was quickly reduced to nothing by the crisis and fears
over consumer spending.
In 2010 the group exceeded all initial estimates, recording
15% growth in revenues and 9.6% growth at constant
exchange rates.
The group s emerging market exposure (44% of 2010
revenues) currently represents a growth driver, with the
emerging countries generating top-line growth of 18% like-
for-like, compared with 4% for the developed nations. China
is recording growth of around 32%, Brazil 13% and Russia
12%. In 2010 the group improved its margins despite having
implemented price reductions on certain markets and a very
high level of investment in R&D, advertising and commercial
development.
Seb s valuation multiples have therefore risen back to their
2006/2007 levels, but they are still not at the levels observed
prior to the 2001 era.
Marie-Line Fort (33) 1 42 13 85 21
Seb: historical valuation multiples
Source: JCF-Factset
Seb: overview of long-term financial performance
Source: Seb
0.5
0.7
0.9
1.1
1.3
1.5
1.7
4.0
6.0
8.0
10.0
12.0
14.0
16.0
95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10
EV/EBIT (LH scale) EV/EBITDA (RH scale) EV/sales (RH scale)
Emerging market crisis Competition from Asian products Acquisition
of Supor
“Emerging market”rerating
0.050.0100.0150.0200.0250.0300.0350.0400.0450.0
0.0
500.0
1000.0
1500.0
2000.0
2500.0
3000.0
3500.0
4000.0
1995199619971998199920002001200220032004200520062007200820092010
Sales EBIT Underly ing EBIT
Emerging market crisisCompetition fromAsian products
Acquisitionof Supor
Emerging countries,growth
accelerator
B33374
The new Chinese landscape: a chance for Europe
23 March 2011 24
Shift in Chinese demand: from yesterday’s champions to the beneficiaries of tomorrow
The effects of this accelerated transition are difficult to predict, such is the impact they have
on the global economic scene. But how can Europe, with all its industrial potential, do
anything other than draw immense benefit from this future demand in a context that is
moreover a lot less competitive?
Exports to China rose by 20% per annum between 2001 and 2009 Between 2001 and 2009 exports from the six main EMU countries to China increased by more
than 20% per annum on average, more than twice the level of growth in exports to the rest of
the world (8.4%). The support represented by Chinese demand over these nevertheless very
difficult years in terms of competition and exchange rates was therefore already significant.
Momentum that has benefited all European countries… Contrary to received wisdom according to which only Germany has benefited from this trend,
the next graph shows that all European countries have been enjoying strong growth in
business with China,
even though their
presence on this market
may be markedly weaker
than Germany s. Thus,
average annual growth in
exports to China reached
27% in the Netherlands,
22% in the case of
Germany, but also 23%
in Spain, 19% in
Belgium, 18% in France
and more than 15 % for
Italy and the UK.
…and many sectors The industries that have benefitted from strong growth in business with China also turn out to
be far more varied than might often be believed. Aside from industrial machinery and
electrical/electronic goods, which still account for almost half of all EMU exports to China and
therefore represent the lion s share, the sales profile is actually very diversified.
Between 2001 and 2009, clothing exports from the eurozone grew at an average annual
rate of 29%, with 50% annual growth for Spain, 31% for Italy and 24% for France.
Growth in exports to China and ROW between 2001 and 2009, CARG, %, USD
Source: SG Cross Asset Research
0%
5%
10%
15%
20%
25%
30%
Ger. Fra. Ita. Ndls Bel. Spa. EMU 6 UK Swe. USA
To China
To RoW
B33374
The new Chinese landscape: a chance for Europe
23 March 2011 25
Average annual growth in exports to China and to the rest of the world, % p.a. in dollars
Source: SG Cross Asset Research
Meanwhile, Agrifood sales have increased by 30% per annum, with France and Italy
observing growth in excess of 35%;
Pharmaceuticals sales have grown by 32% per annum on average, with +38% for the
Netherlands, 34% for France and 31% for Germany.
0%5%
10%15%20%25%30%35%
Agriculture,liveanimals,
mea
t,freshfood
Processedfoods,
beveerages,tob
acco
Fuels&chem
icals
Tann
ing,essentialopils,
perfum
es,cosmetics,
soap
s
Leathera
ndleather
good
s,skins,furskins
Woo
d,pu
lpofwood,
cork,pap
er,books
Textile
s
Appa
reland
footwear
Basicmaterials,cem
ent,
glass,iro
n&steel,
precious
Machine
ry,electrica
ndelectroniceqmt,nuclear
reactor
Tran
sport,railw
ay,
aircraft,spacecraft,
ships,boats
Furniture,prefabricated
build
ings
Others
Germany
China
RoW
5%0%5%
10%15%20%25%30%35%40%
Agriculture,liveanimals,
mea
t,freshfood
Processedfoods,
beveerages,tob
acco
Fuels&chem
icals
Tann
ing,essentialopils,
perfum
es,cosmetics,
soap
s
Leathera
ndleather
good
s,skins,furskins
Woo
d,pu
lpofwood,
cork,pap
er,books
Textile
s
Appa
reland
footwear
Basicmaterials,cem
ent,
glass,iro
n&steel,
precious
Machine
ry,electrica
ndelectroniceqmt,nuclear
reactor
Tran
sport,railw
ay,
aircraft,spacecraft,
ships,boats
Furniture,prefabricated
build
ings
Others
France
5%0%5%
10%15%20%25%30%35%40%
Agriculture,liveanimals,
mea
t,freshfood
Processedfoods,
beveerages,tob
acco
Fuels&chem
icals
Tann
ing,essentialopils,
perfum
es,cosmetics,
soap
s
Leathera
ndleather
good
s,skins,furskins
Woo
d,pu
lpofwood,
cork,pap
er,books
Textile
s
Appa
reland
footwear
Basicmaterials,cem
ent,
glass,iro
n&steel,
precious
Machine
ry,electrica
ndelectroniceqmt,nuclear
reactor
Tran
sport,railw
ay,
aircraft,spacecraft,
ships,boats
Furniture,prefabricated
build
ings
Others
Italy
0%5%
10%15%20%25%30%35%
Agriculture,liveanimals,
mea
t,freshfood
Processedfoods,
beveerages,tob
acco
Fuels&chem
icals
Tann
ing,essentialopils,
perfum
es,cosmetics,
soap
s
Leathera
ndleather
good
s,skins,furskins
Woo
d,pu
lpofwood,
cork,pap
er,books
Textile
s
Appa
reland
footwear
Basicmaterials,cem
ent,
glass,iro
n&steel,
precious
Machine
ry,electrica
ndelectroniceqmt,nuclear
reactor
Tran
sport,railw
ay,
aircraft,spacecraft,
ships,boats
Furniture,prefabricated
build
ings
Others
EMU 6
B33374
The new Chinese landscape: a chance for Europe
23 March 2011 26
China set to become Europe’s leading export market by 2020 Quite apart from the effective size of the Chinese market, it is its growth momentum which
looks set to completely transform the structure of the European export market. If we were to
assume that growth in exports to China will remain at the level seen over the last 10 years,
which is undoubtedly a minimalist scenario in view of the development of Chinese demand,
China would absorb up to 9% of Europe’s exports in 2020, making it the largest export market
for the eurozone. In the case of Germany, this proportion would reach 15%, i.e. by far the
highest level among the European countries. At the same time, the level could also approach
8% in the case of France and the UK, which is still three to four times higher than the level
observed in 2009.
Share of exports to China in the different sectors of country’s exports, % in USD, 2009
Source: SG Cross Asset Research
Beyond the indisputable domination of the transport and aerospace industries which, all else
being equal, could derive up to 30% of their revenues from China by 2020 45% in the case
of Germany and 27% for France in the capital goods and steel industries, China would
account for more than 13% of business. Meanwhile, China would be expected to account for
a fifth of France s agri-food business and 19% of its textiles business, while Italy should
generate 10% of its clothing sales in China (see overleaf).
0.0%
1.0%
2.0%
3.0%
4.0%
5.0%
6.0%
7.0%
8.0%
9.0%
Agriculture,live
anim
als,m
eat,fresh
food
Processedfood
s,beveerages,toba
cco
Fuels&chem
icals
Tann
ing,essential
opils,perfumes,
cosm
etics,soap
s
Leatheran
dleather
good
s,skins,furskins
Woo
d,pu
lpofw
ood,
cork,pap
er,boo
ks
Textiles
Apparelan
dfootwear
Basicmaterials,
cement,glass,iron
&steel,precious
Machinery,elec
tric
andelectron
iceqmt,
nuclearreactor
Tran
sport,railway,
aircraft, spa
cecraft,
ships,bo
ats
Furniture,
prefab
ricated
buildings
Others
GER
FRA
BEL
NDL
ITA
SP
B33374
The new Chinese landscape: a chance for Europe
23 March 2011 27
Simulated growth in the portion of total exports represented by China by 2020
Source: SG Cross Asset Research
A story about consumption rather than capital goods Things probably won t work out like that. Growth in European exports to China has until
recently, i.e. in the midst of a Chinese investment boom, consisted mainly of sales of
machines and capital goods in China, the main beneficiaries having been Japan, Korea and
Germany.
Top Chinese imports between 2001 and 2009, annual growth rates in %, and USD
Annual average growth rate, %
Annual average growth, USDbn
Share in Chineseimports, 2009,%
Electrical, electronic equipment 20.2 23.5 24.7Mineral fuels, oils, distillation products, etc 27.7 13.3 14.0
Machinery, nuclear reactors, boilers, etc 15.0 10.4 10.9
Ores, slag and ash 42.1 8.2 8.6
Optical, photo, technical, medical apparatus 27.2 7.2 7.5
Plastics and articles thereof 15.6 4.2 4.4
Organic chemicals 19.0 3.4 3.6
Copper and articles thereof 25.2 3.1 3.2
Vehicles other than railway, tramway 25.8 3.0 3.1
Oil seed, oleagic fruits, grain, seed, fruit, etc 25.8 2.2 2.3
Source: SG Cross Asset Research
x 3.3
x 3.3
x 2.3 x 4.5x 2.5 x 3.3
x 3.1x 3.5
x 1.9
0%
4%
8%
12%
16%
Ger. Fra. Ita. Ndls Bel. Spa. EMU 6 UK Swe.
2009 2020
B33374
The new Chinese landscape: a chance for Europe
23 March 2011 28
Simulated weight of China in the exports of the various sectors in 2020*
*Assuming that the rate of export to China and the rest of the world remains unchanged vs the average level observed over 2001-2009 Source: SG Cross Asset Research
0%5%
10%15%20%25%30%35%40%45%50%
Agricultu
re,live
animals,
mea
t,freshfood
Processedfoods,
beveerages,tob
acco
Fuels&chem
icals
Tann
ing,essentialopils,
perfum
es,cosmetics,
soap
s
Leathera
ndleather
good
s,skins,furskin
s
Woo
d,pu
lpofwood,
cork,pap
er,books
Textile
s
Appa
reland
footwear
Basicmaterials,cem
ent,
glass,iro
n&steel,
precious
Machine
ry,electrica
ndelectroniceqmt,nu
clear
reactor
Tran
sport,railw
ay,
aircraft,spacecraft,
ships,boats
Furnitu
re,prefabrica
ted
build
ings
Others
Germany
20202009
0%
5%
10%
15%
20%
25%
30%
Agricultu
re,live
animals,
mea
t,freshfood
Processedfoods,
beveerages,tob
acco
Fuels&chem
icals
Tann
ing,essentialopils,
perfu
mes,cosmetics,
soap
s
Leathera
ndleather
good
s,skins,furskins
Woo
d,pu
lpofwood,
cork,pap
er,books
Textile
s
Appa
reland
footwear
Basicm
aterials,cem
ent,
glass,iro
n&steel,
precious
Machine
ry,electric
and
electroniceqmt,nu
clear
reactor
Tran
sport,railw
ay,
aircraft,spacecraft,
ships,boats
Furnitu
re,prefabrica
ted
build
ings
Others
France
0%2%4%6%8%
10%12%14%
Agricultu
re,live
animals,
mea
t,freshfood
Processedfoods,
beveerages,tob
acco
Fuels&chem
icals
Tann
ing,essentialopils,
perfu
mes,cosmetics,
soap
s
Leathera
ndleather
good
s,skins,furskins
Woo
d,pu
lpofwood,
cork,pap
er,books
Textile
s
Appa
reland
footwear
Basicm
aterials,
cement,
glass,iro
n&steel,
precious
Machine
ry,electric
and
electroniceqmt,nu
clear
reactor
Tran
sport,railw
ay,
aircraft,spacecraft,
ships,boats
Furnitu
re,prefabrica
ted
build
ings
Others
Italy
0%5%
10%15%20%25%30%35%
Agricultu
re,live
animals,
mea
t,freshfood
Processedfoods,
beveerages,tob
acco
Fuels&chem
icals
Tann
ing,essentialopils,
perfu
mes,cosmetics,
soap
s
Leathera
ndleather
good
s,skins,furskins
Woo
d,pu
lpofwood,
cork,pap
er,books
Textile
s
Appa
reland
footwear
Basicm
aterials,
cement,
glass,iro
n&steel,
precious
Machine
ry,electric
and
electroniceqmt,nu
clear
reactor
Tran
sport,railw
ay,
aircraft,spacecraft,
ships,boats
Furnitu
re,prefabrica
ted
build
ings
Others
EMU 6
B33374
The new Chinese landscape: a chance for Europe
23 March 2011 29
Rail equipment: shattered dreams China continues to make substantial investment with the aim of
expanding its rail network from 80,000km in 2008 to 120,000km
by 2020. There are currently many infrastructure projects under
way as well as rail equipment orders (track equipment and
rolling stock). China is favouring its own industries as much as
possible, but awarding some contracts or parts of contracts to
international companies, where it lacks the technological
capability and/or production capacity.
Nearly two years ago in our first report on the rail equipment
sector (“China and environmental concerns: two powerful
growth drivers”), we said that China was likely to constitute a
powerful growth driver for the rail industry. A year ago, we
brought out a new report (“A more cautious stance on the
growth outlook for railway equipment stocks”) in which we
expressed fears that China would not represent the opportunity
it was hoped to be and that it could even constitute a threat in
the medium term. It is still difficult to work out how much of a
risk/opportunity China represents. Although the country’s needs
are immense and it will need to call on western expertise to
some extent (technology, production capacity), it is also
showing a strong desire to compete in the international
markets. Thus CRCC (China Railway Corporation Corp.) and
two major rolling stock manufacturers (CSR and CNR) have won
a number of international contracts in 2009.
Does China still represent an opportunity?
This question is a legitimate one, given that the National
Commission for Development and Reform published a circular
in mid-2009 indicating that “domestic products must be
purchased for the government investment programme, unless
there are no such products available…”. The railways minister
thus indicated that he would be favouring Chinese companies in
the first instance. This explains why the European Chamber of
Commerce in China became alarmed about the contract award
procedures in markets which are in fact reserved for Chinese
companies.
We believe that to a certain extent the products produced by
the companies we cover still enter into the category of products
not available from Chinese suppliers. For example, it would
seem likely that the Chinese could fairly quickly develop air
conditioning systems, a domain in which a number of players
are present (Faiveley, world number one) and which doesn’t
carry an important safety implications. By contrast, developing
a breaking system seems a more distant threat (Faiveley, world
number two), as this feature is critical for safety and the
competition is less dense. Despite everything, this field of
opportunity could become limited fairly quickly.
Call on western companies for internal needs, if necessary
TGV Bombardier, Knorr-Bremse machinery, Vossloh
fastenings… Having imported Japanese and German
technology to develop the first generation of high-speed trains
(CRH2 and CRH3), the Chinese signed a contract with
Bombardier Transport in the autumn of 2009 to develop a new
generation (speed 380km/h), which the Canadian constructor
must split 50/50 with its Chinese partner CSR. Meanwhile,
Knorr-Bremse, Faiveley’s main competitor, won the biggest
contract in its history in 2009, valued at €500m. Finally, Vossloh
signed a contract for the Beijing-Shanghai line (€180m) in June
2009 and a further major contract (€140m) in August 2010,
which attest to the strength of its Chinese positioning.
Investment on the decline?
Regardless of our questions over the appetite (or otherwise) of
the Chinese for western products we also need to bear in mind
the time-line for the Chinese investment programme. We could
see investment peak over the coming years, before starting to
decline (in 2015? towards 2020?) as the investment programme
draws to a close. This explains why the Chinese companies
have already started to prepare for international expansion (in
search of growth sources beyond 2015).
Some investors believe that the Chinese railway companies do
not represent a threat to the western companies on the
international markets because their production capacities will
be saturated by domestic demand. We fear this may be a little
too hasty and we note the involvement of several Chinese
players on a number major projects (see table below).
The two major Chinese rail manufacturers, CSR and CNR, are
very active abroad. Also, it seems significant that Saudi Arabia
didn’t hesitate to place an order for the Mecca underground
with CNR, even though China doesn’t have a reputation for
quality and Saudi Arabia probably doesn’t have the toughest
budget constraints.
No export competition yet on “me too” products
The reluctance of some western manufacturers to produce
products in China for the Chinese market is attributable to the
risk that they might then find themselves competing against
Chinese players who would subsequently produce similar
products on the international markets. We thought that China
could start to export products based on western technology as
early as 2010. However, this did not turn out to be the case.
B33374
The new Chinese landscape: a chance for Europe
23 March 2011 30
Saudi TGV: the Chinese consortium was the big favourite to
win the Saudi call for tenders for the TGV between Mecca and
Medina. This consortium which was expected to submit an offer
based on Siemens ICE technology, ultimately did not
participate in the process.
Fastenings: Vossloh has won a number of major contracts
in Libya and Kazakhstan for its fastening systems. Nevertheless
we had though these countries could potentially fall for a
Chinese offer.
Margins undoubtedly under pressure in the medium term?
While the competitive environment in the railway equipment
market was relatively balanced a few years ago, with a limited
number of players enjoying a period of strong margin growth, it
seems unlikely that this situation will last.
Sooner or later the extra growth linked to Chinese demand
will dry up. Competition is also likely to grow stronger, as the
Chinese players enter the international arena. Western
companies are therefore likely to suffer in the medium to long
term, with margins weighed down structurally, compared with
the levels achieved in recent years.
International contracts for rolling stock
Country Market Supplier Amount Date
Saudi Arabia 10 locomotives CSR nd Jul. 2010
Malaysia Underground CSR €480m Jul. 2010
India Underground CSR nd Jun 2010
Pakistan Carriages CNR €83m Jan. 2010
Argentina Buenos Aires underground
CNR €365m Jan. 2010
Brazil Underground (234 cars, Rio de Janeiro)
CNR $300m Dec. 2009
Turkey Tramway CSR €40m Nov. 2009
Iran 6 locomotives CNR na Sept. 20 9
New Zealand 20 locomotives CNR na Jul. 2009
Saudi Arabia 17 underground trains (204 cars) CNR na Jun 2009
Jean-Baptiste Roussille (33) 1 42 13 99 78
Renewable energies: Chinese manufacturers in front! The development of a Chinese middle class will lead to a
considerable rise in electricity demand as a result of
increasing production capacity. One of the main objectives of
the Chinese government in the field of energy is to preserve
its independence. The development of renewable sources of
energy has become a major part of this policy, alongside the
construction of thermal power stations.
For many years the Chinese authorities have supported the
development of the local wind turbine and solar PV
industries. Currently in the low value-added solar panel
industry, Chinese players are exporting heavily, having calved
out the lion s share (70%) of the market for themselves. Their
development has led to increased pressure on prices and
margins for European players such as Q-Cells and
Solarworld. The continued rise in production capacities does
not bode well for margins in the medium term. Additionally, if
the Chinese government decided to introduce measures to
support internal demand, it would be the Chinese companies
that would benefit.
In the wind power market, internal demand has been heavily
supported and China has become the leading company in
terms of wind turbine production capacity, with its own
production covering around 80% of demand. For non-
Chinese manufacturers (Vestas, General Electric, Gamesa)
the issue of domestic Chinese demand is clearly a thing of
the past since even the Chinese turbine makers (Goldwind,
Sinovel) are seeking to win market share outside China.
Nevertheless, in contrast to solar panels, the cost of
transporting wind turbines limits the interest of producers
located in China. The need for production capacity to be
located close to demand is likely to limit the capacity of the
Chinese manufacturers to put pressure on production costs,
which should in turn protect the operating margins of non-
Chinese players.
Overall the development of Chinese demand is likely to offer
limited economic opportunity for the European solar panel
manufacturers. For the turbine makers, the opportunity of
winning market share in China is limited but their operating
margins should be safe.
Didier Laurens (33) 1 42 13 50 78
B33374
The new Chinese landscape: a chance for Europe
23 March 2011 31
ABB, Siemens, yesterday’s major beneficiaries of the Chinese demand boom… The sharp rise in Chinese demand in recent years has been
characterised mainly by a strong surge in demand for capital
goods which has provided a significant boost to foreign
companies up until today. For example, ABB generated $4.4
billion in revenues in China in 2010. Its presence in China has
represented a strong growth driver in recent years, with the
company recording annual growth of nearly 30% between
1998 and 2008. Over the same period, the portion of the
group s revenues represented by China has risen from 1% to
14%.
ABB revenues in China ($bn)
Source: SG Cross Asset Research
These companies have nevertheless become major
competitive targets for local companies which have built up an
increasing presence and are becoming much more powerful,
even in activities characterised by high technology contents. In
fact, these activities are now considered as strategic by the
Chinese government which has significantly encouraged their
development in the last few years. The key sectors here are
energy generation, rail transport and T&D equipment.
Exposure to Chinese competition by segment
Source: SG Cross Asset Research
The companies concerned are therefore Alstom and ABB, but
also Siemens, although to a lesser extent as its portfolio is
much more diversified. Other segments could also gradually
become more strategic and are therefore in danger of
encountering stronger competition from local players in the
near future (healthcare, energy efficiency, mining, etc.).
For the moment this increase in competition is limited mainly to
China. However, Chinese capital goods manufacturers are
going to encounter a slowdown in domestic demand in the
coming years. They will therefore undoubtedly seek to develop
their export activities in order to avoid reaching overcapacity
on the local market. This new competition not only benefits
from government support and from low-cost labour, but also
from critical mass thanks to the size of the domestic market,
and the support of the Chinese banks which enable the
Chinese players to offer their customers attractive financing
conditions. All these factors make the Chinese companies very
strong competitors for the European companies in the
emerging markets.
The Chinese players have many advantages on the export market
Source: SG Cross Asset Research
Adrien de Susanne (33) 1 42 13 01 61
0.3 0.4 0.5 0.6 0.8
1.8 2.0
2.4
2.9
3.4
4.1 4.3 4.4
-
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
4.5
5.0
1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
(Md$)
Pricing power
Industries most at risk
Hig
h
LowHigh
Fossil Power Generation
TransportationNuclear
Wind PowerT&D
Cable
Auto Equipment
Automation
BearingsTooling
Mining equipment
Medical Equip.
Low
Compressors
Con
solid
atio
n of
the
cust
omer
bas
e
Size of each contract
Ultra -low voltageLocks
Attractiv e but v olatile
Pricing risks
Chinesecompanies
Ability to offer financing to the client
Critical size
due to large dom
estic market
Cost advantage
Unl
imite
d ac
cess
to
cap
ital
B33374
The new Chinese landscape: a chance for Europe
23 March 2011 32
The explosion in consumer
demand on the one hand
and the increasing
specialisation/ramp-up in
quality of Chinese products
is likely to significantly
change the breakdown of
Chinese imports in the
future. Under these
conditions, yesterday’s
most prosperous sectors
won’t necessarily be the
best positioned for the
future.
A more competitive environment in the strategic sectors Chinese industry has considerably improved in recent years as reflected by the almost
systematic progress achieved by Chinese exporters in terms of their level of specialisation in
the high technology sectors, and their simultaneous withdrawal from activities characterised
by a lower technology content. Often considered as strategic, high tech sectors currently
benefit from conditions which support their very rapid development and which are increasingly
preventing foreign companies from penetrating in the energy and transport segments of the
capital goods sector.
Degree of specialisation of Chinese exporters and technology content (*) 1995-2009
(*) The number of asterisks is representative of the technological intensity of each sector based on the CTCI classification Source: SG Cross Asset Research
-15
-10
-5
0
5
10
15
Man
ufac
ture
s
Tele
com
. equ
ipm
ent
Clot
hing
Elec
troni
c dat
a pr
oces
sing a
nd o
ffice
equ
ipm
ent
Mac
hine
ry a
nd tr
ansp
ort e
quip
men
t
Offi
ce a
nd te
leco
m e
quip
men
t
Texti
les
Phar
mac
eutic
als
Food
Auto
mot
ive p
rodu
cts
Iron
and
stee
l
Chem
icals
Inte
grat
ed ci
rcui
ts a
nd e
lect
roni
c com
pone
nts
Tran
spor
t equ
ipm
ent a
nd o
ther
mac
hine
ry
Oth
er M
anuf
actu
res
2009
2000
1992
****
****
****
****
***
** ***
***
***
*** ****
*
EMU6: Top 10 sectors for exports to China (80% of total sales), 2009
Source: SG Cross Asset Research
35%
17%12%
7%
6%
6%
5%
4%3%
3%
2%Machinery, nuclear reactors,boilers, etc
Electrical, electronicequipment
Vehicles other thanrailway, tramway
Optical, photo, technical, medical, etc apparatus
Aircraft, spacecraft, and parts thereof
Plastics and articles thereof
Copper andarticles thereof
Organic chemicals
Pharmaceutical products
Articles of ironor steel
Iron and steel
B33374
The new Chinese landscape: a chance for Europe
23 March 2011 33
The new players are in the consumer goods sector New Chinese demand for consumer goods is huge and the sun that has shone on the best
performing sectors of the last few years now looks likely to shine on the consumer goods
sector. The European companies whose specialisations are more in line with the new
requirements of the Chinese population, namely a middle class looking for quality and
branded goods, look a lot more likely to benefit from the current transition.
In this area, those that look likely to benefit from the surge in Chinese demand are not limited
to just a couple of segments, such as cars and luxury goods. Behind these two major
beneficiaries, a whole range of sectors should see growth over the coming years, including
middle-sized companies in sectors ranging from the small household electrical equipment
discussed earlier in the report (see page 22), to clothing, food and pharmaceuticals, i.e. most
of the sectors of European industry that have suffered over the last two decades.
B33374
The new Chinese landscape: a chance for Europe
23 March 2011 34
Outlooks in terms of growth and profitability are now becoming more mixed European companies are likely to see significant changes in the conditions they encounter on
the Chinese market, depending on their sector of activity. Our analysis had led us to divide the
50 European countries with the greatest exposure to the Chinese market into three categories.
The “protected” group of stocks which includes growth sectors whose activities are
structurally supported by the Chinese demand trend and whose results are less sensitive to
the competitive context. In this group we find companies in the chemicals, metals and utilities
sectors, for which the outlook in terms of earnings growth on the Chinese market remains very
solid, with profitability set to remain the same as that generated in other markets. The luxury
companies and the top-of-the-range auto markets also benefit from very solid growth
prospects and from the protection that their branding brings in terms of pricing power. By
contrast the profitability they generate in the Chinese market is higher than in their domestic
markets. The majority of these sectors are already trading at relatively high levels which may
be justified, but it implies limited additional upside.
The “exposed” group, made up of companies whose golden era of Chinese
development is probably now over, i.e. companies that are facing the emergence of new
competitors in all sectors that are considered strategic by the Chinese authorities. This group
consists of the capital goods, transport – rail transport in particular – aerospace and
renewable energies sectors, but also cement. Although the demand outlook for these sectors
remains relatively solid in the short term, thanks to the exceptionally strong growth in demand,
the competitive context is weighing on their profitability outlook, both on the Chinese market
and internationally where the major Chinese players have now become formidable rivals.
These sectors are generally overvalued and are likely to derate towards their historical
averages.
Positioning of European companies relative to the new China landscape (*) PROTECTED AT RISK
Structural growth in demand and low exposure to competition Strong demand growth but increasing exposure to competition % rev. 2010 % rev. 2015 % rev. 2010 % rev. 2015
Automobiles BMW 12% 15% Communications Equip. Ericsson 7% 8%
Text., Apparel & Lux. Gds Hermes Int. 20% 20% Communication Equip. Alcatel-Lucent 10% 10%
Text., Apparel & Lux. Gds LVMH 14% 18% Communication Equip. Nokia 12% 11%
Text., Apparel & Lux. Gds Richemont 30% 35% Electrical Equipment ABB 12% 13%
Chemicals Rhodia 8% 13% Electrical Equipment Schneider 9% 10%
Chemicals Air Liquide 4% 8% Electrical Equipment Alstom 6% 6%
Chemicals BASF SE 8% 12% Machinery Atlas Copco 15% 17%
Chemicals Linde AG 4% 7% Machinery SKF 12% 13%
Chemicals Akzo Nobel NV 8% 11% Machinery Vallourec 11% 12%
Chemicals Clariant 6% 9% Machinery Sandvik 8% 9%
Chemicals Arkema 5% 8% Industrial Conglomerates Siemens 6% 7%
Metals & Mining BHP Billiton plc 25% 27% Renewable energies Vestas 15% 15%
Water Utilities Veolia Environnement
7% 10%
Source: (*) Among the 50 companies the most exposed to the Chinese market according to their 2010 revenue origin as defined in Emerging markets, the benefit for small & mid-
caps);; SG Cross Asset Research
B33374
The new Chinese landscape: a chance for Europe
23 March 2011 35
The best-positioned sectors that are taking off or catching up, thanks to the recent
change in Chinese policy on consumption growth and to a very sharp improvement in
profitability. The mid- and high-range auto manufacturers, the parts makers, but also the
household appliance and clothing manufacturers, who are traditionally more sensitive to the
competitive environment and who have up until now been heavily penalised by the ramp-up in
demand for low cost products, should now benefit from a less competitive environment and a
Chinese market that is easier to penetrate. In view of these prospects, companies in these
sectors generally seem undervalued and are likely to sustain a rerating beyond their historical
average multiples. The experience of the larger companies probably tells us a lot about the
trends that are likely to influence European exports in the medium term now that the
environment has become less competitive. In contrast to the general belief that only
companies based in China can access this market, the analysis of export performances
generally supports the trends observed on the ground by the larger companies.
In the clothing sector, the experience of companies like Inditex, H&M and Etam give a
good illustration of the ramp-up of Chinese demand. Generally representing between 2% and
3% of current revenues, our analysts expect most companies in the sector to see revenues
derived from this market double over the coming 3-5 years with an identical improvement at
the EBIT level. This firmly supports our projected growth trend in real expenditure on clothing,
as presented on page 13 of this report. In the present context, the development of the
Chinese market offers some compensation for the risks arising from rising production costs,
with the bulk of production often being located far away in low-labour-cost countries.
In Agri-food, the experiences of Danone and Nestlé encapsulate most of the change in
behaviour triggered by the improvement in living standards of a population that has developed a
strong taste for coffee and yoghurts in less than a decade (this theme is discussed in greater
detail on page 17). France, which is very well positioned in the wines and spirits market and now
occupies a very strong position in the Chinese market, accounting already for 60% of the
sector s Chinese imports, could derive more than 20% of its exports from this market by 2020.
Clothing/urban household expenditure, CNY Consumption of dairy products/urban households, CNY
Source: SG Cross Asset Research Source: SG Cross Asset Research
Pharmaceutical products are a different story, with this market having had very limited
exposure to China up until now. The macroeconomic analysis nevertheless suggests that
things could rapidly change in the coming years. Although China accounted for less than 1%
of pharmaceutical exports in 2009, the European countries nevertheless supplied more than
half of China s pharmaceutical imports which recorded growth of 32% per annum on average
between 2001 and 2009. With the market expected to double in size by 2015, Chinese sales
volumes look likely to remain very strong over the coming years, with China becoming a key
destination for French and German exporters.
0
200
400
600
800
1000
1200
1400
1600
1800
2000
90 92 93 94 95 97 98 99 00 02 03 04 05 07 08 09 10 12 13 14 15
BeijingShanghai National avg
Rural
0
50
100
150
200
250
300
350
400
90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10
Beijing
Shanghai
National avg
B33374
The new Chinese landscape: a chance for Europe
23 March 2011 36
Healthcare spending/urban households, CNY Origin of and growth in Chinese pharmaceutical exports
Source: SG Cross Asset Research Source: SG Cross Asset Research
Media and marketing companies look well placed to benefit from the robust growth in
advertising on the back of the sharp rise in consumption.
Banks and insurance companies, whose growth is predominantly linked to the development
of the middle class, should also do well.
We are tempted to add to this group a certain number of companies that do not feature among
the top 50 companies with the strongest presence in the Chinese market, but are likely to benefit
from the growth of this market in the future or from the easing of competition on other markets.
The best positioned companies to benefit from the change in Chinese landscape
The BENEFICIARIES
Of the rise in demand and easing competitive environment Aerospace & Defence Rolls-Royce 6% 10% Auto Components Valeo 9% 14%
Auto Components Autoliv 6% 11%
Auto Components Faurecia 7% 12%
Auto Components Pirelli 5% 8%
Auto Components Michelin 8% 10%
Automobiles Daimler 10% 14%
Automobiles Peugeot Citroen PSA 10% 14%
Automobiles Volkswagen (Pref.) 7% 8%
Text., Apparel & Lux. Gds Adidas 7% 10%
Beverages Anheuser-Busch InBev 12% 14%
Beverages Pernod Ricard 8% 10%
Food Products Danone 5% 7%
Household Durables Groupe SEB 19% 24%
Distributors Inchcape 8% 12%
Media JCDecaux 4% 9%
Media Vivendi 4% 7%
Personal Products Beiersdorf 6% 8%
Personal Products L'Oréal 6% 6%
Commercial Banks Standard Chartered 15% 17%
Commercial Banks HSBC 17% 13%
Insurance Assic Generali spa 7% 7%
Pharmaceuticals Sanofi-Aventis 2% 14%
Personal Products Essilor na na
Personal products Luxottica na Na
Personal products Inditex na na
Source: Companies;; SG Cross Asset Research (Emerging markets, the benefit for small & mid-caps)
0
200
400
600
800
1000
1200
1400
1600
1800
90 92 93 94 95 97 98 99 00 02 03 04 05 07 08 09 10 12 13 14 15
Beijing
Shanghai
FR
DE 18%
IT 7%
SP 3%
BE 4%
ND 2%SW 3%
UK6%
USA 14%
JAP 5%
RoW 29%
0
1
2
3
4
5
6
7
0
10
20
30
40
50
1 2 3 4 5 6 7 8 9
Amount, $bn (RHS)
AnnualChange, %
Preferred companies among the 200 largest capitalisations in the DJ STOXX that do not feature within the top 50 European countries present in China.
Among the 50 companies the most exposed to the Chinese market according to their 2010 revenue origin
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The new Chinese landscape: a chance for Europe
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Gains should be more evenly balanced between the different sectors and European countries
Estimating the potential gains to be derived from the change in the influence of the Chinese
economy on the European economies would be very hazardous at this stage. Nevertheless
this report draws a number of conclusions:
Easing competition. The competitive pressure exerted by China on the low and medium
value-added segments of European industry over the last 10 years have eased considerably
since the mid-2000s and even more since the financial crisis of 2008, notably due to the
emergence of a new source of demand.
Real exchange rate adjustment. From this perspective, the recent rise in inflation in the
emerging Asian countries constitutes a relatively encouraging trend for Europe and to a
certain extent: the longer the inflation differential lasts, the more significant the rebalancing will
be in terms of real exchange rates and therefore competitiveness.
Rotation in demand. Having mainly focused on capital goods and transport, the demands
of the Chinese economy is gradually likely to shift, as the middle classes expand, towards
consumer/household products. By 2015 real consumer spending is expected to double
spending on cars and household equipment could triple, while spending on clothing or
pharmaceuticals will probably rise by more than 50%.
Opportunities. Given what has been observed over the last 10 years, the predominance of
European industry in the global export of manufactured products and the positioning of
European industry across the broader field of consumer segments, the Chinese market seems
to offer considerable development potential for European exporters. The chances of seeing
China rise to become the leading export market for every European country by 2020 are very
high.
More evenly balanced gains between European countries The range of companies that
can be expected to benefit from this environment now seems a lot wider than in the past. In
this context, the advantage enjoyed by Germany as a result of its high degree of specialisation
in the capital goods, transport and telecommunications sectors could gradually fade.
Meanwhile, other European economies should see their relative positioning improve.
Support to structural growth. These changes in the environment are encouraging for
European growth in the medium term. In the present context of great uncertainty over the
future of the monetary union, even a modest improvement in the region s growth potential
should not be ignored. The improvement in potential growth is in reality the only hope Europe
has to dispel its sovereign issues in the long run and to reduce the growth distortions that
currently exist between the various countries of the eurozone, which is ultimately what is
needed for the European monetary union to be preserved.
Over the last two decades few occasions have given rise to hopes of a structural consolidation
of growth in Europe. The conclusions of this report are undeniably welcome. According to our
estimates, annual structural growth in the eurozone could be boosted by a contribution of
between 0.25 points and 0.40 points from China over the 2010-2020 period. This is quite a
substantial support in proportion to current estimates of potential GDP growth accounting for
between one-sixth and one-third higher than the level of potential growth that is typically
indicated.
By noting the importance of specialisation, our analysis allows us to put into perspective the
disappointment expressed as a result of the EU competitiveness pact which was considered
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The new Chinese landscape: a chance for Europe
23 March 2011 38
by many as an agreement at best. In actual fact, in view of the factors highlighted in this
report, the objectives sought by the advocates of such a pact probably already seem a lot less
imperative than is generally considered.
What are the risks? Having relied heavily on the American economic environment, the outlook for Europe now
largely depends on the economic development which is taking shape on the opposite side of
the planet. This transition significantly alters the risks. In this respect, questions over the future
of Chinese growth in a context of rising inflation are very much a current concern. This
situation justifies the risk scenario presented in this report. We note however that the inflation
risk should not have much of an impact on the expected growth in the Chinese middle class
by 2015. Nevertheless, it is possible that inflation could lead the government to step up its
revenue redistribution policy at some stage. Thus, high inflation over a long period would be
more of a threat in terms of its impact on the breakdown of expenditure or its impact on the
savings trend. Such a scenario could weigh on discretionary household spending, especially
luxury goods. All else being equal, these changes are likely to take time to emerge.
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The new Chinese landscape: a chance for Europe
23 March 2011 39
IMPORTANT DISCLOSURES Air Liquide SG is acting as sole consultation coordinator on Air Liquide's consent solicitation on four bonds.
Air Liquide SG acted as Joint dealer manager of Air liquide's bond exchange offer.
Alstom SG acted as joint bookrunner in Alstom's senior bond issue.
Alstom SG acted as financial advisor to Alstom for the acquisition of Areva T&D.
Alstom SG is a lender to Alstom Group.
Anheuser-Busch InBev SG acted as co-manager of ANHEUSER BUSH IN BEV's HG bond issue.
Anheuser-Busch InBev SG acted as joint bookrunner of Anheuser-Busch Inbev's bond issue (4% 26/04/18 EUR).
Anheuser-Busch InBev SG acted as co-manager of Anheuser-Bush Inbev's senior bond issue
Arkema SG acted as joint bookrunner in Arkema's senior bond issue.
Assic Generali spa SG makes a market in Generali Assicurazione warrants
Danone SG acted as Joint Dealer Manager and Joint Bookrunner in Danone's combined exchange offer and tender offer.
Etam Développement SGSP was managing a liquidity contract on behalf of Etam Developpement
Faurecia SG acted as sole lead manager and sole bookrunner for the placement of Faurecia's shares by One Equity Partner
Faurecia SG was sole bookrunner and sole global coordinator for the placement of Faurecia's shares.
Michelin SG acted as joint lead manager in Michelin's rights issue.
Pernod Ricard SG is acting as Mandated Lead-Arranger and Bookrunner for the financing of the acquisition by Pernod Ricard of Vin & Sprit Group
Peugeot Citroen PSA SG acted as joint bookrunner in PSA Peugeot Citroen's bond issue (4% 28/10/13 EUR & 5% 28/10/16 EUR).
Peugeot Citroen PSA SG is acting as sole lead manager and sole bookrunner for the placement of Faurecia shares by One Equity Partner
Pirelli SG acted as joint bookrunner in Pirelli's bond issue (5.125% 22/02/16 EUR).
Renault SG acted as joint bookrunner in Renault's bond issue (tap) (5.625% 30/06/15 EUR).
Renault SG acted as exclusive financial advisor to Renault in the financial restructuring of Avtovaz.
Rhodia SG holds between 5% and 10% of Rhodia as a result of its trading activites
Rhodia SG holds a 50% stake in Orbeo, a joint-venture active in emissons markets equally owned by Rhodia
Sanofi-Aventis SG is acting as joint bookrunner in Sanofi-Aventis' USD bond issue.
Sanofi-Aventis SG is acting as financial advisor to Sanofi Aventis in its take over of Genzyme and initial mandated lead arranger in the acquisition
credit facility.
Schneider SG acted as Joint Dealer Manager in Schneider's bond tender offer.
Schneider SG acted as financial advisor to Alstom for the acquisition of Areva T&D.
Standard Chartered SG acted as joint bookrunner of Standard Chartered's bond issue.
Total SG provided an opinion to Total as to the fairness of the planned disposal of one of its businesses.
Veolia Environnement SG acted as joint bookrunner of VEOLIA Environnement's bond issue (2021)
Veolia Environnement SG is acting as joint dealer manager of Veolia Environnement's bond exchange offer.
Veolia Environnement SG is acting as financial advisor to CDC for the merger of Transdev with Veolia Transport.
Vestas SG acted as Joint Lead Managers and Bookrunners of Vestas' inaugural bond issue (4.625 23/03/15 EUR).
Vivendi SG will act as joint lead manager and joint bookrunner in Canal + France's potential IPO.
Vivendi SG acted as sole Structuring advisor and Joint Dealer Manager in Vivendi's bond tender offer
Vivendi SG acted as joint bookrunner of Vivendi's senior bond issue (4% 31/03/17 EUR).
Volkswagen (Pref.) SG acted as co bookrunner for Volkswagen's right issue.
SG and its affiliates beneficially own 1% or more of any class of common equity of ING Group, Nokia, Rhodia.
SG or its affiliates act as market maker or liquidity provider in the equities securities of ABB, Adidas, Air Liquide, Alcatel-Lucent, Alstom, Anheuser-Busch InBev,
Assic Generali spa, Atlas Copco, BASF SE, BMW, Beiersdorf, Clariant, Daimler, Danone, Ericsson, Essilor, Gamesa, Hennes & Mauritz, ING Group, Inditex, K&S,
L'Oréal, LVMH, Linde AG, Michelin, Nestlé, Nokia, Pernod Ricard, Peugeot Citroen PSA, Pirelli, Renault, Richemont, Sanofi-Aventis, Schneider, Siemens, Total,
Vallourec, Veolia Environnement, Vivendi, Volkswagen (Pref.).
SG or its affiliates expect to receive or intend to seek compensation for investment banking services in the next 3 months from Air Liquide, Alcatel-Lucent, Alstom,
Anheuser-Busch InBev, Assic Generali spa, BHP Billiton plc, Danone, Essilor, Etam Développement, Faurecia, Groupe SEB, JCDecaux, L'Oréal, LVMH, Pernod
Ricard, Peugeot Citroen PSA, Pirelli, Renault, Rhodia, Sanofi-Aventis, Siemens, Total, Valeo, Veolia Environnement, Vivendi.
SG or its affiliates have received compensation for investment banking services in the past 12 months from Air Liquide, Alstom, Anheuser-Busch InBev, Arkema,
Danone, Etam Développement, Faurecia, Michelin, Pernod Ricard, Peugeot Citroen PSA, Pirelli, Renault, Sanofi-Aventis, Schneider, Standard Chartered, Veolia
Environnement, Vestas, Vivendi, Volkswagen (Pref.).
SG or its affiliates managed or co-managed in the past 12 months a public offering of securities of Alstom, Anheuser-Busch InBev, Arkema, Faurecia, Michelin,
Peugeot Citroen PSA, Pirelli, Renault, Standard Chartered, Veolia Environnement, Vestas, Vivendi, Volkswagen (Pref.).
SGAS had a non-investment banking non-securities services client relationship during the past 12 months with ABB, Alcatel-Lucent, Anheuser-Busch InBev,
Arkema, BASF SE, BMW, Daimler, Faurecia, HSBC, ING Group, LVMH, Michelin, Nissan Motor Co, Nokia, Peugeot Citroen PSA, Renault, Rhodia, Rolls-Royce,
SKF, Sanofi-Aventis, Schneider, Siemens, Standard Chartered, Total, Vallourec, Veolia Environnement, Vivendi, Volkswagen (Pref.).
SGAS had a non-investment banking securities-related services client relationship during the past 12 months with Assic Generali spa, HSBC, ING Group, Standard
Chartered.
SGAS received compensation for products and services other than investment banking services in the past 12 months from ABB, Alcatel-Lucent, Anheuser-Busch
InBev, Arkema, Assic Generali spa, BASF SE, BMW, Daimler, Faurecia, HSBC, ING Group, LVMH, Michelin, Nissan Motor Co, Nokia, Peugeot Citroen PSA,
Renault, Rhodia, Rolls-Royce, SKF, Sanofi-Aventis, Schneider, Siemens, Standard Chartered, Total, Vallourec, Veolia Environnement, Vivendi, Volkswagen (Pref.).
SGCIB received compensation for products and services other than investment banking services in the past 12 months from ABB, Air Liquide, Akzo Nobel NV,
Alcatel-Lucent, Alstom, Anheuser-Busch InBev, Arkema, Assic Generali spa, Autoliv, BASF SE, BHP Billiton plc, BMW, Daimler, Ericsson, Essilor, Etam
Développement, Faiveley, Groupe SEB, HSBC, Hermes International, ING Group, JCDecaux, K&S, L'Oréal, LVMH, Linde AG, Michelin, Nestlé, Nissan Motor Co,
Nokia, Pernod Ricard, Pirelli, Renault, Rhodia, Richemont, Rolls-Royce, Sandvik, Sanofi-Aventis, Schneider, Siemens, Standard Chartered, Total, Valeo, Vallourec,
Veolia Environnement, Vestas, Vivendi, Vossloh.
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The new Chinese landscape: a chance for Europe
23 March 2011 40
GLOBAL ECONOMICS Head of Global Economics
Michala Marcussen (44) 20 7676 7813 [email protected]
Euro area
Klaus Baader
James Nixon
Vladimir Pillonca
Michel Martinez (44) 20 7676 7609 (44) 20 7676 7385 (44) 20 7676 7863 (33) 1 42 13 34 21 [email protected] [email protected] [email protected] [email protected]
United Kingdom
Brian Hilliard (44) 20 7676 7165 [email protected]
Americas
Stephen Gallagher
Aneta Markowska
Alejandro Cuadrado
Rudy Narvas (1) 212 278 44 96 (1) 212 278 66 53 (1) 212 278 73 13 (1) 212 278 76 62 [email protected] [email protected] [email protected] [email protected]
Brian Jones (1) 212 278 69 55 [email protected]
Asia Pacific
Glenn Maguire
Takuji Okubo
Wei Yao
Joseph Lau (852) 2166 5438 (81) 355 49 5560 (852) 2166 5437 (852) 2166 5441 [email protected] [email protected] [email protected] [email protected]
Thematic Research
Véronique Riches-Florès (33) 1 42 13 84 04 [email protected]
Research Associates Lydia Boussour Martin Rose Mehreen Khan Ramzi Berrima
David Tam Samuel Slama
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