WHY YOU SHOULD INVEST IN ASIA'S TECH SECTOR

In a recent interview, Martin Lau, Senior Portfolio Manager at First State Investment, tells us why the Asian tech sector may do well even if the US economy is slow to recover. Martin is one of the key members of the Asian Equities team that manages the First State Asia Innovation and Technology Fund.

Vasu: Has the Asian tech sector bottomed?

Martin: Values are starting to emerge after Nasdaq's sharp fall. We have started buying selectively. Revenue expectations are a lot more realistic now after being revised downwards over the last few months. But we are keeping a close watch over profit margins. With little revenue growth this year, price competition will be keen and we want to avoid companies, which are likely to be squeezed by their customers.

Vasu: How have Asian tech companies fared compared with their global peers?

Martin: Asian tech companies have done better than their global peers. Many of them have reported earnings that are in line with or above market expectations. In contrast, we are seeing earnings disappointments in the US. Valuations of Asian tech stocks are also more attractive than their global counterparts.

Vasu: Which sectors and stocks are you buying into?

Martin: When picking stocks in the tech sector, we are of the view that the US economy may not see strong recovery this year. This makes it important to focus on companies, that will enjoy good secular growth, independent of economic cycles. This will include companies that will benefit from outsourcing trends and those which have room to garner significant market share. An example of the latter is handsets manufacturing, an area in which Asia has a market share of less 20 per cent. Taiwanese companies for example, account for only 7 per cent of global production of handsets. So there is a lot of room to gain market share.

Vasu: What are your views on Asia's semiconductor sector?

Martin: We like stocks like Samsung Electronics and TSMC, which are cost, and technology leaders in the sector. TSMC's valuations are also at a trough and utilisation rates have been picking up due to inventory replacement, despite weak PC demand.

An interesting theme, which I think will unfold over the next 12 months, is a pick-up in outsourcing activities by integrated device manufacturers (IDMs) like Motorola. For example, Motorola has cut back on its capital expenditure and just announced that it is going to lay off another 7,000 workers. So IDMs which have not invested sufficiently in the latest technologies and products will have to outsource more in the next cycle. Looking at Asian foundries, the IDM content as a percentage of total capacity is only 15 per cent. At the peak of the semiconductor cycle, two years ago, it was 40 per cent. So even if there is weak PC demand, Asian foundries should benefit from greater outsourcing by IDMs.

Vasu: Unlike some Asian tech funds, your fund has exposure to Japan. How are Japanese tech stocks different from its Asian peers?

Martin: The Japanese have moved away from manufacturing of commoditised products like semiconductors and LCDs which the Taiwanese and Koreans are strong in. Instead, Japan is focused on high-end areas like opticals. The tech companies in Japan also undertake greater innovation compared with their Asian peers. Sony for example is a leader in game consoles because the company is innovative and has a good marketing programme. Another example is NTT Docomo, which is probably the only teleco that's likely to succeed in the 3G space because they have the software support and a population that's tech savvy. Hence our focus in Japan is not just valuation but more importantly, companies that exhibit innovation and leadership in technology.

Vasu: Is this a good time to invest in the Asian tech sector?

Martin: I think so. There is a lot of negative sentiment towards the sector in general and this has resulted in indiscriminate selling and depressed stock prices in some cases. Investors have to bear in mind that not all companies in the sector are doing poorly. For example, most companies in our portfolio enjoy earnings growth of 10 to 15 per cent.

Vasu: What is the current price-to-earnings ratio of your portfolio

Martin: For 2003, the price-to-earnings (PE) ratio of our portfolio is only 13 to 15 times versus earnings growth of about 20 per cent.

Vasu: What would you say is fair valuation for your portfolio?

Martin: I would rather not use PE as the gauge because earnings are uncertain and can be subject to revisions. It's better to focus on price-to-book. If you look at Taiwanese companies, they are already trading at the trough in terms of price-to-book valuations. The price-to-book of Korean companies are also not demanding. For example, Samsung is trading at a price-to-book of about 2.5 times.

Vasu: What kind of returns do you expect for your portfolio?

Martin: I would rather not cite precise numbers. Suffice to say that in the medium term, we expect stock prices to move in line with earnings growth. In this respect, I am confident that our portfolio should yield positive returns over the next 12 months.