A letter from China 23 November 2015 A Letter from Urumqi Two years ago, President Xi Jinping put forward the strategic concept of yidai, yilu – "one belt, one road”. This focuses on China’s trade links with Eurasian countries (along the “Silk Road Economic Belt”) and Southeast Asia, North Africa and Oceania (through the “21st Century Maritime Silk Road”). The concept has attracted a great deal of interest from the global community. Given its geographic position, Xinjiang, China’s Uyghur Autonomous Region, has an important role in the Silk Road Economic Belt. Hence my long flight to Urumqi, literally "beautiful pasture", the capital of Xinjiang, to see whether this stop on the ancient Silk Road can act as a major hub in the 21st-century equivalent. In Xinjiang, Uyghurs, a Muslim Turkic people, are the largest ethnic group, but I saw surprisingly few Uyghurs on the streets of Urumqi. I asked a number of local Han Chinese about this. They told me that most Uyghurs live in cities to the south and west of Urumqi, such as Korla, Aksu and Hotan. In Urumqi, most Uyghurs live in Tianshan District. Since the ethnic conflicts of 2009, most Han Chinese have gradually moved out of this district. There is clearly very little integration between Xinjiang’s Uyghur and Han populations. Security in Urumqi is much more visible than in other Chinese city I have visited. Whenever I went somewhere crowded, like an office building, shopping mall or supermarket, my bag or identity card would be checked. Fully armed policemen are a common sight in the streets. There is also still some Uyghur separatist activity, mostly in southern regions. Just a few days before my arrival, a police station was attacked by separatists. To address the ethnic issue, the Chinese government takes a zero-tolerance approach to separatist activity, which is cracked down on relentlessly. But the government uses carrots as sell as sticks, by providing massive material incentives for local Uygurs in a bid to promote stable economic development. I could be anywhere in China… When I arrived in Urumqi, the streets were hung with colourful flags, and the walls were painted with the slogan “social stability and prosperity”. This year marks the 60th anniversary of the establishment of the Xinjiang Uyghur Autonomous Region. Over recent decades, Urumqi has experienced rapid development. In the city, I saw modern freeways, highways, supermarkets, high-rise apartments and elegant shopping malls. From the airport to my hotel, the taxi drove on a newly built, six-lane elevated road. I also noticed that Urumqi’s public transportation is quite interesting and called Bus Rapid Transit (BRT). This new form of public transit system needs less investment and construction time than subways. The essence is that traditional buses use exclusive lanes, with bus stops that are constructed like subway stations. Urumqi now has five BRT lines in operation, which has relieved traffic pressure significantly. The city also has a subway line under construction, which is expected to come into operation by the end of 2016. The development of the local traffic network also is somewhat mirrored in an improvement in people’s living standards. As this was my first time in Urumqi, I noticed significant regional differences. The city is situated in an arid region, and I found myself drinking a lot of water. The temperature fluctuates greatly between day and night. The real time zone should be about two hours behind Beijing time, so, even though Beijing time is used, unusual hours are kept. For example, Urumqi’s office hours are from 11:30am to 7:30pm. I ate my first breakfast in complete darkness. Xinjiang cuisine is very strongly flavoured, and most dishes are heavily spiced. My tight schedule mean that I wasn’t able to visit the local Uyghur bazaar. But I tried some traditional Xinjiang dishes in a Muslim restaurant near my hotel. Besides well-known shashlik (lamb kebabs) and nang (crusty pancakes), I can recommend hand pilaf (topped with mutton) and sautéd spicy chicken (served in a big pan). With its long hours of sunshine, Xinjiang abounds in sweeter fruits, especially grapes, melons and jujubes. … were it not for the food Xinjiang has a special state organisation that integrates the party, government and military, called China Xinjiang Production and Construction Corp (XPCC), or Bingtuan for short. Established in 1954, Bingtuan is responsible for developing wasteland and garrisoning the borders, using a core of retired soldiers. Through state planning, a number of waves of Han migrants were directed to Xinjiang, with the majority of them ending up in the north of the region, e.g. Urumqi and Changji. Many of their descendants have chosen to stay. In this way the Han Chinese now represent 80% of the population in Urumqi, but less than 50% in the whole of Xinjiang. Given its important role in Xinjiang, Bingtuan has received great supports from central government. Today, Bingtuan owns more than 10 listed companies in the A-share market, covering textiles, food and beverages, agricultural machinery, mining and chemicals. I visited one of them, Tianrun Dairy (600419 SH). This company was established in 2002 and holds a share of over 30% of the Xinjiang dairy market. From an investor’s perspective, operating efficiency could be a concern for this kind of company, given the large number of people it must hire to fulfil its social obligations. …and the military presence I also found some Xinjiang-listed companies with good prospects. Some are expected to benefit from the “one belt, one road” strategy, while others have great potential to expand their businesses across the country. TBEA (600089 SH) is a private company founded by Chairman Zhangxin. The company started as a little street factory that manufactured transformer. Over the years, it has expanded into the new-energy and new-material sectors. By the end of 2014, its sales revenue reached Rmb36 billion, and it had 15,000 employees. In an exhibition room, numerous pictures demonstrate that TBEA’s achievements are well regarded by local and national leaders. Last year, President Xi attended TBEA’s project ceremony in Dushanbe, Tajikistan. Given its proven record, I would label this a true “one road, one belt” stock and categorise it as a backbone corporation in China's high-end-equipment industry. Thanks to its geographical location, the company has expanded its presence in Central Asia, and now has an order backlog worth over US$3 billion. I visited the company’s new production site where the workers were assembling transformers for the domestic ultra-high voltage (UHV) project. This year, TBEA has actively adjusted its product mix towards UHV transformers after the State Grid Corporation announced that it would build more UHV power lines. TBEA is located in Changji City, which is about 30km away from Urumqi. China is still facing a labour shortage, so TBEA is offering a pleasant environment to attract and retain talent. An investor-relations manager, who has been working in TBEA for over 20 years, told me that his family is comfortable living there, even though they come from a very different part of China. Besides quality facilities, like modern staff dormitories and sports and leisure centres, the company also organises regular social events. TBEA even holds group weddings twice a year, to foster a sense of belonging. As a reward for its employees’ contributions, the company launched an employee stock-option programme in 2014, to cover as many as 1,800 employees. So the corporate culture seems decent (but I don’t intend to join). Maiquer (002719 SZ) is a well-known brand in Xinjiang, with a 20-year history. The company is mainly engaged in producing dairy and bakery products. Its revenue is about Rmb400 million, with a small market cap of about Rmb5 billion. I saw some Maiquer chain bakeries in the city. In the local supermarkets, Maiquer is one of the most popular dairy brands on the shelves, rather than Mengniu and Yili, which are the dominant brands in most of China. However, the company is incapable of selling its dairy products outside Xinjiang. One reason for this is that Maiquer uses fresh milk, so its transportation span is limited by a short expiry date. This is a common drawback for regional brands. After talking with its management team, I learned that the company is seeking to explore business opportunities outside the region. It has hired McKinsey & Co as a consultant to help formulate its future strategy. Furthermore, the management said that they often fly to Korea to visit Paris Baguette, a well-known bakery brand. Maiquer wishes to grow into a leading bakery-chain operator throughout China – a much bigger market than Xinjiang. Though it is located in the far northwest, its open-minded management team has broad horizons. I enjoyed its bread and milk. As one of China’s most significant minority regions, Xinjiang occupies one-sixth of China’s total area. Xinjiang’s rich mineral resources and strategic geographical position are important to China. China’s central government has put a great deal of effort into promoting stability and prosperity in Xinjiang’s multi-ethnic society. In the years ahead, the “one belt, one road” policy should link China with Europe through Central and Western Asia. Xinjiang is the starting point of the Silk Road Economic Belt. Its geographic and strategic advantages are set to to boost economic development in this vast northwestern region. Huang Zhiqing, 23 November 2015 www.odfund.com DISCLOSURE The information contained in this investor letter, which is a publication prepared and circulated by Open Door Capital Advisors (US), LLC and its affiliates (collectively, "Open Door"), is for discussion purposes only designed to highlight various market and portfolio information.