There is a clear winner as China pumps in billions of dollars to reverse the damage to its water resources and provide clean water to its people — water-treatment firms.
Private equity and venture capital firms are pouring money into Chinese water-treatment companies, targeting high returns from the industry heavily supported by the government.
The mainland’s rapidly expanding water sector, valued at $48 billion, is currently the third largest in the world, according to research firm GWI Global Water, behind the United States at $110 billion and Japan at $59 billion.
Analysts estimate the industry will triple to reach at least $150 billion over the next five years.
“Investing in water plays in China is one of the easiest decisions I can make as far as where to allocate capital,” said Aaron Visse, portfolio manager for San Francisco-based Forward Management.
“I can sleep very well at night with these investments and the valuations that they are sitting at right now.”
Investments from Chinese private equity and venture capital firms into the sector have jumped more than 40 times to $382 million so far this year from $8.6 million for the whole of 2010, according to consultancy firm China Venture.
Buyout firms such as Sequoia Capital China and CDH Investments, known as China’s Blackstone, have been among the major companies that took stakes in water-treatment firms over the past few months.
Growing cities, overuse of fertilizers and factories that heedlessly dump wastewater have degraded China’s water supplies to the extent that half the nation’s rivers and lakes are severely polluted.
China is more than doubling its investment in the waste-water sector, spending around 300 billion yuan ($45 billion) over the next five years as it tries to undo the damage caused to its water resources by 30 years of untrammeled growth.
Asset managers investing in renewables say the sector is making up a growing chunk of their portfolios, particularly after the nuclear crisis in Japan highlighted the need for more water-treatment facilities.
“One huge positive of investing in water companies in China as opposed to say, many alternative-energy areas, is that you get a lot of identifiable cash flow, and much of it is recurring,” said Visse, who manages the firm’s Global Infrastructure fund, valued at around $115 million.
Guangdong Investment and China Water Affairs are among Visse’s top picks.
Shares in Guangdong Investment have gained around 10 percent, while China Water Affairs has risen more than 4 percent since March 17, as China detailed its spending plans for the sector during the month.
Sequoia Capital China recently made an investment in Beijing-based water-treatment firm Zhongchi Environmental Protection Development.
“We have just started, but we will probably make more investments in the sector,” founding and managing partner Neil Shen said, without providing the details of the investment.
Beijing-based buyout firm CDH Investments offered to buy Sinomem Technology, a Singapore-listed water-treatment provider, for around $280 million in March, while KPCB China has invested around $10 million in Scinor Water, previously known as Mobius Water, a leading membrane-based water-treatment firm.
Not without risks
While the water-treatment sector is enticing, there are only a limited number of listed firms, many of which are small and lack transparency and good corporate governance.
Investing in water companies do make business sense, but assessing risk profiles of the firms remains a challenge, said Francois Perrin, head of Asian SRI Equities for BNP Paribas Investment Partners.
“Unfortunately, we had a couple of disappointments in that space, with very nice companies and potentially very nice products,” said Perrin, who manages the China Environmental portfolio valued at around $500 million.
Beijing Enterprise Water Group and Guangdong Investment are good picks due to their access to funding and great growth potential, said Dieter Küffer, senior portfolio manager at Zurich-based Sustainable Asset Management (SAM) Group.
Küffer is responsible for all water strategies for SAM’s sustainable water fund, valued at $2 billion.
“Of course when you look at price-earnings multiple alone it looks expensive, but considering all the growth Beijing Enterprise has, there is still upside in the share price.”
Based on its forward 12-month price-to-earnings multiple, Beijing Enterprise trades at a 62 percent premium to the average of its peers.
Firms such as Sound Global and Suez Environment are also good picks because of their technological expertise and focus on wastewater treatment, Küffer said.
Agriculture link
Water firms also involved in agricultural production are very attractive, Küffer said.
Food producer Chaoda Modern Agriculture is one of SAM’s top portfolio picks, with the firm investing 3.4 percent of its portfolio in the company.
China Green Holdings, another food producer, and Singapore-listed vegetable producer China Minzhong are other attractive options given their integrated business structures that include stages from cultivation to production.
“The announcement of a doubling of the investment in water infrastructure and water conservation over 10 years is expected to support very strong growth in the water sector at around 15 percent per annum,” Küffer said.
The fund was already overweight on the sector with China and Hong Kong water firms making up around 11 percent of the global portfolio, he said.
New listings
New share listings in the pipeline and more competition amongst water firms will keep the sector attractive, fund managers said.
Chinese companies listed on the domestic market may also list in Hong Kong, analysts said.
Opportunities in the Chinese market are ample, said Li Bo, an analyst at UBS Securities in Shanghai.
Originwater Tech and South Huiton are good picks due to their focus on membrane-technology development, with the market for membrane technology set to grow 30 percent annually for the next five years.
Polymer Biochem, Huaguang Boil, Combustion Tech and Fuchunjiang Environment are also attractive in the sewage sector, Li said.
“Right now, investment from domestic renminbi funds and industry funds is increasing in scale and volume, with this sector set to attract more investors entering the market in the coming months,” said Wesley Li, an analyst at China Venture in Beijing.
