September 2014

INSIDE VIEW: An upsurge in China’s environmental businesses

China smogChina’s declaration of war on smog signifies high growth potential of the environmental sector in China, says Victoria Mio of Robeco. “We are not declaring a war on Mother Nature, but rather on our crude production methods and lifestyles.” Not only is this a quote from Chinese Premier Li Keqiang’s overview of the government’s environmental legislation, to investors it is also where China’s future investment growth lies. In January 2013, local and international newspapers reported on Beijing’s pollution levels, which had surpassed records. During this time, environmental concerns rose to the top of the agenda for China’s new leaders.  As a result, over the past year, the central government has attempted to tighten environmental regulations. With strong advocates such as premier Li, we expect that the government will enforce these regulations in the next 12 months. With this said, we expect an increase of investment opportunities in the environmental sector.  CHINA’S HEFTY PRICE
Since 2013, China has been constantly plagued by smog. Together with food safety and traffic issues, environmental pollution has become the top concern among the general public in China.  According to research conducted by the Ministry of Environmental Protection of the People’s Republic of China in 2010, more than 70% of the 338+ cities across the nation were classified as polluted, and 40% of them are severely polluted. In addition, the ministry’s report indicates that pollution cost China’s economic output and ecosystem 1.54 trillion renminbi in 2010, amounting to 3.5% of China’s GDP. In the same year, air pollution alone was accountable for more than 1.2 million deaths (Institute for Health Metrics and Evaluation, Seattle, Washington, US, and Tsinghua University). China’s environmental issues are imminent, which have urged Li to “declare war on pollution” in his maiden government work report. The State Council launched the Air Pollution Prevention and Control Action Plan in September 2013 to reduce the concentration of inhalable particulate matter in cities at prefecture level or above by at least 10% in 2017, as compared to 2012. In this year’s work report, Li has specifically divided the central government’s keynote tasks on environmental protection into two categories. Emission reduction is one of the major themes.  Apart from replacing small coal-fired boilers and obsolete automobiles to alleviate the issue of fine particulate matter and inhalable particulate matter, reforms in energy production and consumption patterns will be emphasised, increasing the magnitude of energy conservation and emission reduction. The target for 2014 is to lower energy use by at least 3.9% while cutting carbon dioxide emissions and chemical oxygen demand by 2%.  The other focus is the development of new energy sources. On one hand, the weighting of non-fossil electricity generation will be encouraged by the development of wind, solar and nuclear energy. On the other hand, extraction and utilisation of natural gas, coal bed methane and oil shale gas are also supported.  Furthermore, the development pace and application of environmentally friendly conservational technologies and products will increase to promote environmental protection and the development of the energy conservation industry. INDUSTRY UPSURGE
Under the determination and regulations imposed by the central government for tackling pollution, operation costs for all sectors will unavoidably increase to meet the criteria for new environmental regulations.  As a result, the environmental protection and energy conservation industries will become the new pillar of China’s economic growth.  China’s investment in pollution treatment increased by a compound annual growth rate of 19% (1999-2011) to 660 billion renminbi in 2011, which was higher than the country’s nominal GDP growth of 15%. The strong growth in environmental investment in the past decade reflects China’s determination to achieve its environmental targets. INCREASE SUPPORT
We expect that the government will increase its support of technology innovation and energy-saving products and related services. The state council’s target is to increase the total output value of the environmental protection and energy conservation industries to 4.5 trillion renminbi (or a compound annual growth rate of 15%) by 2015.  Environmental protection industries will involve denitrification and desulphurisation facilities, new water purification technologies and facilities, comprehensive solid waste disposal proposals, oil spill responses, and the development and application of global monitoring devices.  The energy conservation dimension comprises energy-efficient boilers and electric automobiles, high-cycle regenerative systems, alternatively powered public transportation technologies and the industrialisation of LED lighting technology. Over the next year, we expect to see increased energy conservation technology in
high-efficiency boilers, high-efficiency electrical motors, regenerative combustion technology and equipment, new energy vehicle technologies, and industrialisation of semiconductor lighting technology.  As the industries grow gradually, three major improvements can be anticipated in the future.  Firstly, untapped market demand will be stimulated, forming a new force in shaping economic growth. STABILISED GROWTH
Secondly, domestic demand will be boosted along with a stabilised growth and optimised economic structure. Lastly, environmental conditions will be improved and eco-development will be accelerated. Environmental protection has become an inevitable trend in China. Under the central government’s strong push, the environmental protection sector will transform from a quasi-official industry into a market-driven strategic sector, resulting in a number of significant improvements in profitability.  We believe that 2014 will be a milestone year for the environmental sector in China with favourable policies launching successively and corporates becoming increasingly active in mergers and acquisitions.  Due to the strong government support, there is also investment potential in China’s environmental protection service industry.  Firms that aim to reduce air pollution will see high growth in the near-term. Apart from traditional municipal projects, industrial waste and waste water treatment will also see high growth as the government seeks to reduce carbon emissions. Victoria Mio is chief investment officer China, co-head Asia Pacific equities, and fund manager at Robeco Chinese equities ©2014 funds europe  

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