China Plays That Aren't Chinese

Picking Asian companies with big mainland stakes can limit risk

Everybody wants a piece of China. But investing in the country's white-hot economy is as risky as it is potentially rewarding. Investors worry whether Chinese financial authorities can temper growth that clocked in at an annual rate of 9.8% in the first quarter without knocking the wind out of China Inc.

One smart way to invest in China -- and avoid the financial reporting problems dogging many mainland Chinese outfits -- is to target companies in other Asian countries that do a lot of business in China. Analysts advise taking a close look at Japanese companies such as cosmetics giant Shiseido, Korean corporations like steelmaker Posco (PKX ), and Taiwanese high-tech component maker Hon Hai Precision Industry. If you're intent on buying Chinese companies, look for ones that trade on U.S. stock exchanges, since they have to meet U.S. reporting standards. "If you are looking at China stocks, this is where you get the best disclosure," notes Kenneth Kok, an equity analyst with Goldman Sachs Group Inc. (GS ) in Hong Kong.

Why pick China plays that aren't Chinese? Figuring out which mainland-based companies will prosper in such an uncertain economic climate has never been tougher. For starters, transparency is always an issue, since many companies have hidden debts and questionable accounting practices. What's more, the Hong Kong-based H-Share index, which tracks mainland companies listed in the former British territory, has been extremely volatile of late. After nearly doubling in value last year, the market is down some 13.5% this year.


That's why some investment pros suggest looking at the non-Chinese companies with big stakes in the mainland. In fact, some of the best China plays are Japanese. Goldman Sachs equity analyst Kathy M. Matsui recommends Nippon Yusen K.K., Japan's biggest shipping line, which reported record earnings of $319 million in 2003, twice the previous year's, thanks to a 25%-plus jump in shipping rates fueled by Chinese demand. Trading company Mitsubishi Corp. (MSBHY ) is worth a look, too. It's also part of a group of Japanese companies bidding to build a $1 billion high-speed train network in China.

Another favorite is Japanese cosmetics giant Shiseido Co. (SSDOY ), which sells about $180 million worth of cosmetics in China, or about 4% of global sales. The company is shooting to get that figure up to 17.5% in five years. At the same time, analysts urge investors to steer clear of capital-intensive stocks such as Japan's earth-moving equipment maker Komatsu Ltd. (KMTUY ), which has heavy exposure to China's hot but brittle construction sector.

While Japanese blue chips with stakes in China enjoy global name recognition, the stocks of many remain expensive compared with other Asian plays on China. For better value with the same lower risk, some strategists advise looking to Korea and Taiwan. Taiwanese high-tech players still enjoying huge cost advantages from their mainland production bases include Asustek Computer Inc., the world's biggest maker of motherboards, which also does outsourcing work for Sony Corp.'s (SNE ) Playstation2 video console. There's also Hon Hai Precision Industry Co., which does assembly work on Nokia Corp. (NOK ) handsets in China. UBS Securities Ltd. (UBS ) Asia technology analyst Sean Debow thinks both will continue to gain huge benefits from China's low-cost production base for export products and also continue to tap into its growing consumer market. In Korea, Posco will likely continue to enjoy brisk sales of high-end steel products to China. "Posco will certainly outperform the market as it is undervalued by any standard," says Park Kyung Min, CEO of Hangaram Investment Management Co.

Of course, companies like Posco go well beyond China, too. If Beijing succeeds in moderating the economy without roiling the stock market, then China's own companies will make bigger gains. Until all this is sorted out, this more roundabout method may be the better bet.

By Brian BremnerWith Moon Ihlwan in Seoul

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