Churchouse Letter
August 2013           by Peter Churchouse

Asia’s Finest Part II

These are the kind of shares you can put in the bottom drawer and hold for the long term, secure in the knowledge they’re going to continue working hard to build your wealth. The business I’ll identify and elaborate on in this report may sound like a boring widows-and-orphans stock providing a very basic product. But it’s an industry that is set to boom across the mainland – which, despite slowing to 7.5 percent gross domestic product growth in the second quarter, still has one of the fastest-growing economies in the world.

Anyone who has spent time in China will know that the air quality can be shocking. My hiking and outdoor explorations stand testament to that. And that’s another reason this company is one of “Asia’s Finest.” Perhaps because their home town is often wrapped in smog so thick you can barely see the next building, the head honchos of the central government in Beijing are finally openly saying they need to clean up their air and tackle the belching coal-fired power plants that smolder throughout the country. That and a desire to avoid being so dependent on expensive foreign oil mean this company is going to thrive. Read on, and you’ll find out about a company that can provide investors with annual returns in the mid-teens, in percentage terms – far from a boring portion of your portfolio.

When is a Boring Utility Not Boring?

On walks through southern Guangdong province I’ve come across a landscape littered with small clan villages that in many cases date back a few hundred years. Rice farming was the staple activity in a great many of these villages. But many of these once-thriving villages are now deserted, their occupants having long ago emigrated or headed for the cities. It’s a familiar story the world over.

The houses in many of these villages have become overgrown with lush vegetation, and are falling apart. Clambering inside these old houses gives a sometimes emotional glimpse into a bygone lifestyle. Occupants appear to have woken one morning and simply disappeared, leaving behind all the personal items that defined their lives – furniture, clothes, papers, books, family photos, shrines.

The houses are simple but substantial, usually two-storey stone structures with tiled roofs and a basic internal layout. Kitchens are very modest affairs, with a cylindrical stone structure the width of a sizable washing machine and about three feet high. A log fire is lit in the bottom of the cylinder and a large, steel wok is placed on the top, for cooking. The villagers have not been able to export all of their village lifestyle with them to the cities. They packed up and took their wok to town, but those great traditional wood-fired cooking facilities stayed rooted to the spot.

The company we are talking about today is a company that is right in the thick of this massive move to the cities, robust industrialisation, and the changing lifestyles that result for millions of families in China. We have written on numerous occasions how seven of the largest Asian countries will experience unprecedented waves of rural-urban migration, in the order of about 300 million people over the coming decade. This is a big secular event, not a cyclical one. In China alone, about 150 million people are expected to seek a new life in the country's burgeoning cities. This does not account for the natural population growth of the existing residents. These people will need to be housed, educated, and fed. Health care, social services and physical infrastructure need to be provided. So far, China has done a pretty good job, but the pressure is still on.

A Cooking Business in More Ways Than One

This company is deeply involved in the fast-growing demand for gas for cooking, heating and manufacturing in China's rapidly growing cities. This company is not your usual utility that grows at about the same rate as the economy – say, 3 percent to 6 percent in nominal terms. Instead, this company is at the core of a business that is an integral part of these powerful secular demographic forces.

This industry has a lot going for it.

Not only is it at the centre of these forces of urbanisation, but government policies are also boosting the fortunes of this sector for a host of economic, social and environmental reasons. Those trends are generating potential demand that will significantly outstrip the underlying economic growth rates. This is going to be a very long-running movie – in fact, it’s more likely going to be an extremely long-lived soap opera.

Rapid urban population growth, with rising incomes and rising demand for better food, are all going to provide a big impetus for domestic gas supply in China. The Chinese aren't about to give up their woks!

This gas business promises investors annual growth in the mid-teens, percentage wise, over a sustained period of time. Not too many businesses offer so much promise...



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