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					April 24, 2012


MORGAN STANLEY BLUE PAPER


                                                                                                                  MORGAN ST ANLEY RESEARCH
                                                                                                                  Global

                                                                                                                                                1
                                                                                                                  Edward H. Xu, CFA
                                                                                                                  +852 2239 1521
                                                                                                                  Edward.Xu@morganstanley.com

                                                                                                                           1
                                                                                                                  Li Mao
                                                                                                                  +852 2239 1523
                                                                                                                  Li.Mao@morganstanley.com

                                                                                                                                    2
                                                                                                                  Chin Ser Lee
                                                                                                                  +65 6834-6735
                                                                                                                  Chinser.Lee@morganstanley.com

                                                                                                                                            1
                                                                                                                  Andy Meng, CFA
                                                                                                                  +852 2239 7689
                                                                                                                  Andy.Meng@morganstanley.com

                                                                                                                                        1
                                                                                                                  Victoria Wong
                                                                                                                  +852 2239 7817

The China Files
                                                                                                                  Victoria.WY.Wong@morganstanley.com




The Logistics Journey Is Just Beginning
China may grow to be the world’s largest third-party logistics (3PL) market by 2016, with
revenues more than doubling to US$182 billion. Now at Rmb497 billion (US$74.5 billion) in
revenues, at a projected CAGR of 16%, China’s 3PL market would outgrow both the US and                            Asia, Japan, Europe, & US
European 2010 markets within the next four years.                                                                 Research Teams
                                                                                                                  *See page 2 for all contributors to this report
We identify several factors that will support this growth in China’s 3PL market, as the results of
an AlphaWise survey indicate: 1) plant relocations inland; 2) the acceleration of domestic
                                                                                                                  1 Morgan Stanley Asia Limited+
consumption; 3) rising demand for imported consumer goods; 4) urbanization and improving                          2 Morgan Stanley Asia (Singapore) Pte.+
infrastructure; and 5) a strong uptick in e-commerce and online shopping.

We believe that larger, more-profitable logistics players will emerge as the industry moves
into the consolidation stage. Still in its infancy, the industry today comprises thousands of low-
margin players in China. We expect potential consolidations to leave the industry with fewer but
stronger players. However, global majors could continue struggling with negative capital returns on
this fragmented market because of local pricing wars.

An added push: The government is committed to building a modern logistics network in
China. To help sustain the country’s long-term economic growth, China’s State Council has
developed a detailed plan to revitalize the logistics industry; one of the plan’s key objectives is to
reduce the high ratio of logistics costs to GDP, which stands at more than 18%, compared with only
8% for the US.
                                                                                                                  Morgan Stanley Blue Papers focus on critical
How to invest: Based on the future industry trends identified, our research teams have created a                  investment themes that require coordinated
                                                                                                                  perspectives across industry sectors, regions,
basket of China logistics-related stocks they believe are likely to do well in the current environment.
                                                                                                                  or asset classes.
We focus on 1) market leaders with potential to benefit from industry consolidation; 2) online
shopping/e-commerce plays; 3) logistics technology/equipment suppliers; and 4) consumer
discretionary/staples companies with a high reliance on China’s domestic logistics systems.

Morgan Stanley does and seeks to do business with companies covered in Morgan Stanley Research. As a result, investors should be aware that the firm may
have a conflict of interest that could affect the objectivity of Morgan Stanley Research. Investors should consider Morgan Stanley Research as only a single factor
in making their investment decision.
For analyst certification and other important disclosures, refer to the Disclosure Section, located at the end of this report.
* = This Research Report has been partially prepared by analysts employed by non-U.S. affiliates of the member. Please see page 2 for the name of each non-U.S.
affiliate contributing to this Research Report and the names of the analysts employed by each contributing affiliate.
+= Analysts employed by non-U.S. affiliates are not registered with FINRA, may not be associated persons of the member and may not be subject to NASD/NYSE
restrictions on communications with a subject company, public appearances and trading securities held by a research analyst account.

                     anonymous@anonymous.com FIRST LAST 04/24/12 02:16:04 AM Access Capital Limited
MORGAN STANLEY RESEARCH

April 24, 2012
The Logistics Journey Is Just Beginning




Asia, Japan, Europe, & US Research Teams
Contributors to this Report

Transportation & Infrastructure
Edward H. Xu, CFA1                                          +852 2239 1521               Edward.Xu@morganstanley.com
Li Mao1                                                     +852 2239-1523               Li.Mao@morganstanley.com
Andy Meng, CFA1                                             +852 2239 7689               Andy.Meng@morganstanley.com
Victoria Wong1                                              +852 2239 7817               Victoria.WY.Wong@morganstanley.com
             2
Chin Ser Lee                                                +65 6834-6735                Chinser.Lee@morganstanley.com
Takuya Osaka3                                               +81 3 5424-5915              Takuya.Osaka@morganstanleymufg.com
William Greene4                                             +1 212 761-8017              William.Greene@morganstanley.com
Penelope Butcher4                                           +44 20 7425-6698             Penelope.Butcher@morganstanley.com

Consumer Staples/Discretionary
Angela Moh1                                                 +852 2848 5405               Angela.Moh@morganstanley.com
Robert Lin1                                                 +852 2848 5835               Rob.Lin@morganstanley.com
Lillian Lou1                                                +852 2848 6502               Lillian.Lou@morganstanley.com

Media/Internet
Philip Wan1                                                 +852 2848-8227               Philip.Wan@morganstanley.com
Richard Ji1                                                 +852 2848-6926               Richard.Ji@morganstanley.com

Technology
Grace Chen5                                                 +886 2 2730 2890             Grace.H.Chen@morganstanley.com
Jasmine Lu1                                                 +852 2239 1348               Jasmine.Lu@morganstanley.com

Autos
Kate Zhu, CFA1                                              +852 2848 6843               Kate.Zhu@morganstanley.com
Cedric Shi1                                                 +86 21 2033-6653             Cedric.Shi@morganstanley.com

Healthcare
     1
Bin Li                                                      +852 2239-7596               Bin.Li@morganstanley.com
Christopher Lui1                                            +852 2239-1883               C.Lui@morganstanley.com
Yolanda Hu1                                                 +852 2848-5649               Yolanda.Hu@morganstanley.com

Metals & Mining
Menno Sanderse3                                             +44 20 7425-6148             Menno.Sanderse@morganstanley.com




 1 Morgan Stanley Asia Limited+            3 Morgan Stanley MUFG Securities Co., Ltd.+        5 Morgan Stanley Taiwan Limited+
 2 Morgan Stanley Asia (Singapore) Pte.+   4 Morgan Stanley & Co. LLC




See page 63 for recent Blue Paper reports.




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                   anonymous@anonymous.com FIRST LAST 04/24/12 02:16:04 AM Access Capital Limited
MORGAN STANLEY RESEARCH

April 24, 2012
The Logistics Journey Is Just Beginning




Table of Contents
China Logistics: Ensuring China’s Long-term Economic Health & Efficiency........................................................                                                  4

Can China’s High Logistics Costs Be Tamed? ......................................................................................................                                 6

Investment Implications: The China Logistics Basket............................................................................................                                   15

An Infant Industry with High Growth Potential........................................................................................................                             22

AlphaWise Evidence ............................................................................................................................................................   34

Market Overviews

    E-Commerce: A Beneficiary of Improving Logistics Efficiency ................................................................................                                  37

    Consumer: Modern Logistics a Boon to Sub-Sectors .......................................................................................                                      39

    Technology Providers: The Digitalization of China Cities .................................................................................                                    43

    Equipment Manufacturing: Handling Logistics In China....................................................................................                                      45

    Pharmaceuticals: Logistics Efficiency to Hasten Industry Consolidation ..........................................................                                             47

Appendix 1: Overview of Logistics .........................................................................................................................                       51

Appendix 2: China’s 12th Five-Year Plan and Logistics Development..................................................................                                               52

Appendix 3: China’s Railway Map .....................................................................................................................................             53

Appendix 4: China’s Highway Network .............................................................................................................................                 54

Appendix 5: China’s Airport Network .....................................................................................................................                         55

Appendix 6: Leading Global Logistics Providers’ Regional Hub in China..............................................................                                               56

Appendix 7: Recent M&A in China Logistics..........................................................................................................                               57

Appendix 8: Milestones of Global Players’ China Expansions...............................................................................                                         58

Appendix 9: China Logistics Investment Basket ....................................................................................................                                62




Morgan Stanley is acting as financial advisor to United Parcel Service Inc. ("UPS") in connection with their proposed all-cash public offer for TNT
Express N.V. ("TNT"), as announced on March 19, 2012.
The proposed offer is subject to a minimum acceptance of 80% of the TNT ordinary shares on a fully diluted basis, required regulatory approvals,
and other closing conditions. This report and the information provided herein is not intended to (i) provide advice with respect to the offer, (ii) serve
as an endorsement of the offer, or (iii) result in the procurement, withholding or revocation of a tender in the offer, or any other action by a security
holder.
UPS has agreed to pay fees to Morgan Stanley for its financial services, including transaction fees and financing fees that are subject to the
consummation of the proposed transaction. Please refer to the notes at the end of this report.




                                                                                                                                                                                  3
                      anonymous@anonymous.com FIRST LAST 04/24/12 02:16:04 AM Access Capital Limited
MORGAN STANLEY RESEARCH

April 24, 2012
The Logistics Journey Is Just Beginning




China Logistics: Ensuring China’s Long-term Economic Health and
Efficiency
Logistics Prioritized by Chinese Government to                                 fight cost inflation, transportation bottlenecks are becoming
Support Sustainable Growth                                                     the next challenge to achieve such a goal. We believe it is
                                                                               critical to streamline supply chains through effective logistics
After more than a decade of strong growth in exports, China’s
                                                                               management and planning to maintain cost advantages.
economy is facing significant cost inflation because of rising
prices for labor, materials, land, and currencies. Thus, one of                Exhibit 2
the major challenges the government now faces is how to                        China: Normalizing Export Dependency
improve efficiency and achieve sustainable growth over the
                                                                                US$ bn                                                      (%)
next decade. In our view, the government needs to build an
                                                                                8                                                            40
efficient logistics system to provide a bedrock for a national
supply and distribution system to help stimulate domestic
consumption.                                                                    6                                                              30


If the ongoing urbanization and industrialization in China,                     4                                                              20
especially in inland areas, is to support economic
development, China needs a more efficient logistics system to                   2                                                              10
move production resources quickly and at a reasonable cost.
In our view, China’s logistics costs—now at 18% of GDP,                         0                                                              0
versus only 8% in the US—are so high that they could                                1991       1995          1999       2003    2007    2011
jeopardize the sustainability of China’s economic growth. If we
remove tertiary industries (e.g., services) from the calculation                           China GDP             China export    Export/GDP (%)
of GDP, this ratio for China is even higher—31%, well above
                                                                               Source: CEIC, Morgan Stanley Research
the US level of 17% (Exhibit 1-2).

Exhibit 1                                                                      Moreover, China still faces bottlenecks in the distribution of its
China’s Logistics Cost Is a High % of GDP                                      wealth, with a marked disparity between the development of
 GDP US$ bn                                                              (%)   coastal areas and those inland. Indeed, we believe this
                                                                               geographic disparity, if it were to increase further, could harm
 16                                                                      26
                                                                               the health of the national economy. Therefore, a modern
                                                                               logistics system could play an important role in reducing such
 12                                                                      22    geographic disparity and stimulating the development of
                                                                               inland China.
  8                                                                      18
                                                                               In our view, China’s manufacturing could gain efficiency and
                                                                               remain competitive through lower logistics cost. With cost
  4                                                                      14    inflation threatening the competitiveness of Chinese
                                                                               manufacturers, we believe the success of their move inland in
  0                                                                   10       search of less expensive resources requires the support of an
      1991        1996         2001          2006     2011e      2016e         efficient logistics system.

            China GDP US$ bn                Logistics cost as % of GDP         Moreover, the development of such a logistics system would
e = Morgan Stanley Research estimates
                                                                               likely stimulate the inland economy and urbanization. The
Source: CASS, CEIC, IMF, Morgan Stanley Research                               Chinese proverb, “If you want to be rich, you should start by
                                                                               building a road,” is in line with the view that a modern logistics
For Chinese manufacturers to remain competitive in the                         system would play a vitally important role in developing
global market, they need to optimize their cost structures                     China’s inland economy and promoting urbanization.
further. Although plant relocation inland from the more
expensive coastal areas appears to be a sensible move to



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                    anonymous@anonymous.com FIRST LAST 04/24/12 02:16:04 AM Access Capital Limited
MORGAN STANLEY RESEARCH

April 24, 2012
The Logistics Journey Is Just Beginning




12th Five-Year Plan: Focus on Consumption and                          for leading global logistics players. On the other hand,
Urbanization of Central and Western China                              M&A activity among Chinese logistics players may
                                                                       expedite the process of the consolidators upgrading their
China’s government has given high priority to the
                                                                       own market positions.
development of a modern logistics industry in China.
Specifically, the blueprint outlined in Part IV; Chapter 15,
                                                                   What We Do In This Report
Section 2 of the 12th Five-Year Plan (FYP) has set the
foundation for the logistics industry (Appendix 2). In our view,   In this Blue Paper, we provide a roadmap for the evolution of
the key implications for the industry include the following:       the logistics industry in China as the economy becomes less
                                                                   export-reliant, more domestic-driven, and more energy-
1.   Shift in focus to domestic demand drivers from                conscious. We also explore both potential challenges and
     external demand drivers. Firms with a strategic focus on      opportunities.
     the domestic market and good local knowledge could
     benefit. For example, large domestic players such as          We conclude that by 2016 China may grow at 16% CAGR,
     COSCO Logistics and Sinotrans would likely gain a             making it the world's largest third-party logistics market, with
     competitive advantage from their established domestic         revenues more than doubling to US$182 billion. This growth
     networks.                                                     will require significant industry consolidation and
                                                                   accommodative policy, both of which we expect will occur. We
2.   Integrated services from transportation and logistics         discuss which companies might do well or not so well in this
     firms will play a large role. More comprehensive              environment and have created a tradable basket of stocks of
     multimodal logistics solutions could help differentiate the   the likely beneficiaries.
     existing 3PL players in the market.
                                                                   For the global logistics players, we consider less meaningful
3.   Market is likely to become segmented, with logistics          near-term implications to their China ventures and strategies,
     firms becoming more specialized, customized, and              given severe local competitions in a still-fragmented market.
     industry-focused in, for example, cold-chain distribution,    For the downstream industries—consumer
     engineering, autos, and chemical logistics.                   staples/discretionary and e-commerce/online shopping—we
                                                                   see more significant implications on their efficiency gains,
4.   Opportunities for leading 3PL players. On one hand,           working capital/capex savings, and domestic network
     the expansion of major global brands (e.g., Wal-Mart,         expansions.
     Adidas, BMW) into China implies good growth potential




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April 24, 2012
The Logistics Journey Is Just Beginning




Can China’s High Logistics Costs Be Tamed?
Why Are Logistics Costs as a Percentage of GDP so                                      Exhibit 4

High In China?                                                                         China Has Highest Logistics Costs to GDP, 2010
                                                                                        Region ranking in Logistics (GDP %)
1. Underdevelopment of 3PL
                                                                                        20
Armstrong & Associates Inc., a global logistics consultant,
estimates the size of China’s 3PL market at US$74.5 billion in
revenues as of 2010, making it the second largest in the                                15
world, after the US at US$127.3 billion. However, this implies
a lower penetration rate of 7% (measured in 3PL revenues                                10
over total logistics costs) than the 10.5% rate for the US.
                                                                                         5
Globally, we find a significant inverse correlation of -0.76
between 3PL penetration rates and the ratio of logistics cost                            0
to GDP (Exhibit 3-4). For example, with Europe at 10.2% and                                    North        Europe       South         Asia     Other    China
North America at 9.9%, the developed world has a higher rate                                  America                   America       Pacific   Region
of 3PL penetration than the emerging world does, with Asia                             Source: Armstrong Associates, Morgan Stanley Research
Pacific at 7.8% and South America at 7.7%; thus the former
has a lower ratio of logistics cost to GDP (8.9%/8.8%) than                            2. High logistics management cost
does the latter (12.6%/12.3%).                                                         Of the three major components of logistics cost
                                                                                       (transportation, warehousing, and management),
Exhibit 3
                                                                                       management cost constitutes 12% in China, significantly
Inverse Correlation Between Logistics Costs/GDP
                                                                                       higher than Japan’s level of 4% in Japan and the US level of
vs. 3PL Revenue Share, 2010
                                                                                       5% (Exhibit 5).
               Logistics Costs (GDP%)                 3PL Revenue Share %
                                       Correlation=-76%
                                                                                       In our view, this reflects the low operational efficiency of
                       8.3                    US                               10.5
                                                                                       China’s industry, which is still dominated by 1PL/2PL players.
                       8.3                 Germany                         10.1
                                                                                       Low efficiency could result in high management costs for
                       8.5                    UK                           10.0        logistics coordination. Take coal delivery in China, for
                       8.7                   Japan                        8.8          example: China transports 1.8 billion tons of coal a year from
                      9.0                 Hong Kong                             11.3   the northwest to the southeast, over a distance of more than
                      9.0                 Singapore                             11.5   1,000 kilometres. A lack of integration of the major processes
                      9.0                South Korea                            11.0   of trucking, rail, port handling, and shipping can result in
                      9.0                   Taiwan                              11.1   disorganized schedules that require high inventory buffers to
                      9.2                   France                         10.1        ensure a reasonable level of service.
                      9.4                     Italy                            10.6
                      9.4                    Spain                        9.4
                     9.9                    Canada                       8.4
                10.5                       Australia                       9.9
               11.6                          Brazil                      8.2
              11.9                        Venezuela                5.8
             12.6                          Argentina               6.0
             13.0                            India                 5.7
          14.9                                                     6.5
                                            Mexico
   18.1                                     China                   7.0


Source: Armstrong & Associates, Morgan Stanley Research




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April 24, 2012
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Exhibit 5                                                            Exhibit 6
China Spends More of Logistics Costs on                              Chain Store Concentration Less in China vs. the US
Management: China vs. US / Japan in 2010                             in 2010
 (%)        0          20               40   60     80         100    (%)        0             5                  10              15               20

                                                                                                                                              WalMart
     US                                                               Top 1
                                                                                           Sun Art

                                                                                                                               Costco
                                                                      Top 2
 Japan                                                                                   Walmart

                                                                                                                        Target
                                                                      Top 3
                                                                                         CRE
 China
                                                                                                         Sears
                                                                      Top 4
                                                                                       Lianhua
       Transportation               Warehousing   Management
                                                                                                                               US mixed retailers
Source: CEIC, Morgan Stanley Research                                                              Macy's
                                                                      Top 5                                                    China modern grocery
                                                                                       NGS
3. Infrastructure inefficiency                                       Source: Euromonitor, Morgan Stanley Research
Unlike in the US, in China major expressways and highways
are tolled rather than free. We estimate such tolls account for      5. Regional disparities
~26% of trucking costs in China, versus virtually zero in the        In the US, infrastructure conditions are almost homogenous
US. Moreover, because of serious capacity bottlenecks,               across different states, allowing goods to travel smoothly
railways carry only ~20% of total traffic volume in China,           throughout the country. In contrast, China’s pronounced
sharply below the 49% found in the US. Insufficient railway          geographic disparities between urban and rural areas have
investment over the past decades had hindered the                    created conditions that make logistics more complicated.
development of rail freight in China, resulting in less efficiency
for long-haul transportation.                                        6. Asymmetric geographical distribution
The results of an August/September 2011 survey of 200                The sparsely populated west versus the populous east in
major businesses operating in China, performed by the                China means freight transportation is often a one-way trip that
Morgan Stanley AlphaWise team, give a general impression             does not make best use of capacity (Exhibit 7). In contrast,
of China’s lower infrastructure efficiency: 46% of the               the prosperity of both west and east coasts in the US implies
businesses reported dissatisfaction with infrastructure              a more balanced traffic pattern, with better capacity utilization.
bottlenecks.
                                                                     Exhibit 7
4. Limited operational scale                                         2010 China Regional Demographic Comparison
Because the logistics industry is at the start-up stage of its                                                                          GDP per         (%)
lifecycle, the market is fragmented, with a large number of                                      GDP              Population              capita         +/-
                                                                     China                    (US$ bn)   (%)           (mn)      (%)      (US$)     Average
small players operating on limited scale. This fragmentation         West                          426        5         100       7      4,273          -27
likely reflects a similar level of development of operators in the   Northeast                     682        9         110       8      6,226            6
manufacturing and distribution fields.                               Southwest                     866       11         202      15      4,291          -27
                                                                     Central & North             2,168       28         382      29      5,675           -3
                                                                     East & Southeast            3,701       47         544      41      6,807           16
For example, the consumer staples space in China is less
                                                                     Total China                 7,843   100           1,337    100      5,867            0
concentrated than in the US, with aggregate market share of          Source: CEIC, Morgan Stanley Research
10.8% for China’s top five grocery stores versus 55% in the
US (Exhibit 6). This suggests that it is still too early for large
nationwide distribution networks to emerge.




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The Logistics Journey Is Just Beginning




Exhibit 8
China’s Supply Chain Costs Can Be Up To Twice As Much as Europe’s
  (%)
 16



 12



   8



   4



   0
            China          Europe           China           Europe            China      Europe          China       Europe         China          Europe
                 Chemical                   Consumer goods                        Machinery and            Automotive                      Retail
                                                                                   electronics

                                                   Warehousing               Inventory carrying          Transportation costs
Source: Logistics Excellence in China Study, A.T. Kearney and Tongji University




Taming China’s High Logistics Costs                                                           Exhibit 9
                                                                                              US Retail Inventory/Sales Ratio Declined Through IT
We see several factors supporting the reduction of China’s                                    and JIT Development, 1992-2011
high logistics costs over the next five to 10 years:                                          Inventory/Sales Ratio (Seasonally Adjusted)
1. Thriving 3PL players                                                                           1.70
Experiences in the developed world suggest the practice of
3PL outsourcing can help reduce the costs of inventories and                                      1.60
depreciation, with faster order processing. For example,
                                                                                                  1.50
thanks to the development of JIT (just-in-time) systems, the                                                                                      Total excluding motor vehicle
average ratio of inventory to sales has declined from more                                        1.40
                                                                                                                                                  and parts dealers
                                                                                                                 Increased use
than 1.6x to 1.2x over the past two decades in the US (Exhibit                                                   of IT and JIT
9). Under pressure to cut costs and remain competitive, more                                      1.30
Chinese manufacturers, in our view, would consider 3PL as a
                                                                                                  1.20
major strategic move in the near term. According to the
aforementioned AlphaWise survey, close to 20% of surveyed                                         1.10
companies are planning to increase the outsourcing of                                                1992 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011
logistics operations over the next 24 months.
                                                                                              Source: US Census Bureau, Morgan Stanley Research

Meanwhile, the government has set out plans – which we will
                                                                                              We estimate that if China’s 3PL penetration were to expand to
further explain – to promote 3PL to boost the efficiency of
                                                                                              11%—a level similar to that in more developed Asian
existing enterprises that mostly rely on 1PL/2PL models to
                                                                                              economies such as South Korea—from the current 7%, within
satisfy their logistics needs.
                                                                                              the next four years the 3PL market would achieve an 16%



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April 24, 2012
The Logistics Journey Is Just Beginning




CAGR in revenues, reaching US$182 billion (Exhibit 10). At                         Develop large competitive integrated logistics enterprises
this level, China’s market would be bigger than either the                          and systems;
2010 US market, at US$127 billion, or the 2010 European                            Promote 3PL outsourcing and encourage efficiency,
market, at US$146 billion.                                                          specialization, and scale; and
Exhibit 10                                                                         Reduce logistics costs as a percentage of GDP from the
China Logistics Costs and 3PL Revenue Share                                         current high level of 18%.
 Logistics costs CAGR = 8%
 3PL revenue CAGR = 16%                                                         To address high logistics costs (18% of GDP), China’s Central
                                                                         11%
                                                                                Government has recently launched several new initiatives,
                                                                10%
                                                    9%                          including toll road tariff cuts, business tax cuts, and VAT
                                        9%
                            8%                                                  reform. So far, 17 provinces have announced 3-5% tariff cuts
                8%
    7%
                                                                                on major expressways (Exhibit 11), which should directly
                                                                        1,688   reduce overall trucking costs. Further, the potential launch of
                                                                1,563
                                                   1,447
                                                                                VAT reform in Shanghai would be especially beneficial to
                                       1,340                                    asset-light 3PL players, as tax savings through the VAT (as
                           1,241
               1,149                                                            compared with the business tax) would help offset some of
   1,064
                                                                                the significant transportation costs (Exhibit 12).
   2010       2011e       2012e       2013e       2014e         2015e   2016e
              Logistics costs (US$ bn)                     3PL revenues %       To implement this plan, the Central Government is attempting
e = Morgan Stanley Research estimates                                           to address regional differences by mapping out a national
Source: CEIC, Armstrong & Associates, Morgan Stanley Research
                                                                                logistics network composed of nine major logistics clusters,
                                                                                with 21/17 major/secondary hubs to be linked by 10 logistics
2. Building a modern logistics network
                                                                                channels (Exhibit 13). In each hub/node city, the government
In March 2009 China’s State Council issued a paper, “China
                                                                                will sponsor various infrastructure projects such as logistics
Logistics Industry Adjustment and Revitalization Plan (Guo Fa
                                                                                parks, cargo stations, IT platforms, and warehouses to
2009 No. 8),” to set official guidance on the development of
                                                                                facilitate seamless transmodal connections between air,
the logistics industry (Appendix 2).
                                                                                harbor, rail, and highway transport systems.

In highlighting the strategic importance of the logistics industry,
                                                                                Once completed, this modernized logistics network should
it set out the following goals:
                                                                                significantly boost logistics efficiency throughout the country.




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Exhibit 11
China Toll Tariff Cut: Provincial List
                                                                                                                                                      Estimated
Announced        Effective                                                                                                                           negative toll
date             date             Location                                                    Tariff adjustment                                        impact
27-Jun-11        1-Jul-11         Beijing                 Beijing Capital International Airport Expressway: tariff for passenger vehicles                75%
                                                          heading toward the airport were reduced from Rmb10 to Rmb5 and eliminated for
                                                          those heading from the airport to the city.
28-Jun-11        28-Jun-11        Shandong province       The minimum toll charge of Class 1 passenger vehicles was reduced by 33-50% for                <5%
                                                          distances below 32.5 km. The tariff per km was unchanged.
1-Jul-11         1-Jul-11         Shanxi province         One toll road station cancelled.                                                               <1%

1-Jul-11         5-Jul-11         Hebei province          Baoding city's three toll roads will stop charging tariffs.                                    <3%
31-Jul-11        31-Jul-11        Heilongjiang province   Two toll road stations cancelled.                                                              <3%

1-Aug-11         1-Aug-11         Henan province          For Zhengzhou City expressway, vehicles under 10 seats will pay lower fees.                    <3%
18-Aug-11        18-Aug-11        Jiangxi province        For Nanchang Changbei Airport expressway, the toll charge for Class 1 vhiecles will            <3%
                                                          be reduced from Rmb15/vehicle to Rmb5/vehicle.
1-Sep-11         1-Sep-11         Jiangsu province        For Nanjing Airport expressway, the toll charge will be reduced from Rmb20 to                  <1%
                                                          Rmb10.
1-Nov-11         1-Nov-11         Sichuan province        Government is in discussion over reducing tariffs for Sichuan's airport expressway.            NA

15-Nov-11        15-Nov-11        Hubei province          For Huyu West expressway, toll charges for vehicles under 5 seats will be reduced              <3%
                                                          from Rmb1.05/km to Rmb0.836/km, for trucks will be reduced from Rmb0.165/ton-
                                                          km to Rmb0.132/ton-km. For Hancai expressway, toll charges for Class 1 vehicles
                                                          will be reduced
15-Nov-11        15-Nov-11        Heilongjiang province   Tariffs for Class 2-5 passenger vehicles adjusted upwards.                                     NA

1-Dec-11         1-Dec-11         Yunnan province         Toll tariffs cancelled for 116 Class 2 roads.                                                 <10%

1-Dec-11         1-Dec-11         Shanghai                Hujia expressway will stop charging tariffs.                                                   <1%

6-Jan-12         10-Jan-12        Jiangsu province        The minimum toll charge of Class 1 passenger vehicles was reduced by 67% for                   <3%
                                                          distances below 33.3 km. Class 2-4 passenger vehicles was reduced by 33-50% for
                                                          distances below 22.2 km. The tariff rate per km was unchanged.
8-Jan-12         8-Jan-12         Guangdong province      1) 41 highway toll stations in Guangdong province will stop charging toll fees, 2) 109        <15%
                                                          ordinary toll projects will be cancelled, 3) reductions in Class 1 to 5 vehicles’ charge
                                                          multiples: to 1, 1.5, 2, 3 and 3.5, respectively, from 1, 2, 3, 4 and 4.5.

31-Dec-11        1-Jan-12         Zhejiang province       61 toll road stations will be cancelled.                                                       <5%

31-Dec-11        1-Jan-12         Hunan province          Tariff standard adjusted so that fees are rounded off for every Rmb1 in toll tariffs,          <3%
                                                          instead of the previous Rmb5.

Source: Provincial governments, Morgan Stanley Research




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April 24, 2012
The Logistics Journey Is Just Beginning




Exhibit 12
Tax Reform Could Help Transport/Logistics Firms Based In Shanghai
                         Business       VAT
                         tax rate       tax rate
Transportation company                          BT: 3%                    VAT: 11%
Logistics company                               BT: 3%                    VAT:         6%

Company: ABC                                       Unit: Rmb
Turnover                                            100,000
Operation costs                                         80,000
Operation profits                                       20,000


                                                    Before:
Hypothetical scenario:                         Business tax                  After: VAT                Tax saving
Transportation company                               3,000                        2,200                      800
Logistics company                                         3,000                      1,200                     1,800
BT = business tax; VAT = value-added tax.
Note: As of January 1, 2012, transportation/logistics companies in Shanghai began to apply a VAT tax instead of a business tax.
This reform will expand to other regions if the transition goes smoothly.
Source: Ministry of Finance, Morgan Stanley Research




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The Logistics Journey Is Just Beginning




Exhibit 13
China: Nine Logistics Regions
                                                                                                                      Central Logistics Region | |GDP: Rmb6,646 bn | |Pop: 217 mn
                                                                                                                      Central Logistics Region GDP: Rmb6,646 bn Pop: 217 mn
      Northwestern Logistics
      Northwestern Logistics
      Region: Xi’an, Lanzhou,
      Region: Xi’an, Lanzhou,                                                                                         Northeastern Logistics Region GDP: Rmb4,506 bn Pop: 110 mn
                                                                                                                      Northeastern Logistics Region | |GDP: Rmb4,506 bn | |Pop: 110 mn
      Urumqi Ningxia, Yinchuan
      Urumqi,,Ningxia, Yinchuan                  Northern Logistics Region:
                                                 Northern Logistics Region:                  Northeastern Logistics
                                                                                             Northeastern Logistics
                                                 Beijing, Tianjin Baotou,
                                                 Beijing, Tianjin,,Baotou,                   Region:
                                                                                             Region:                  Northern Logistics Region GDP: Rmb7,768 bn Pop: 165 mn
                                                                                                                      Northern Logistics Region | |GDP: Rmb7,768 bn | |Pop: 165 mn
                                                 Hohhot, Shijiazhuang,
                                                 Hohhot, Shijiazhuang,                       Dalian, Shenyang,
                                                                                             Dalian, Shenyang,
                                                 Tangshan, Taiyuan
                                                 Tangshan, Taiyuan                           Changchun, Harbin
                                                                                             Changchun, Harbin        Northwestern Logistics Region GDP: Rmb4,506 bn Pop: 110 mn
                                                                                                                      Northwestern Logistics Region | |GDP: Rmb4,506 bn | |Pop: 110 mn

                                                                                                                      PRD Logistics Region | |GDP: Rmb5,519 bn | |Pop: 151 mn
                                                                                                                       PRD Logistics Region GDP: Rmb5,519 bn Pop: 151 mn

                                                                                                                      Shandong Peninsula Logistics Region | |GDP: Rmb4,542 bn | |Pop: 96 mn
                                                                                                                       Shandong Peninsula Logistics Region GDP: Rmb4,542 bn Pop: 96 mn
                                                                                     Shandong Peninsula
                                                                                    Shandong Peninsula
                                                                                     Logistics Region:
                                                                                    Logistics Region:
                                                                                                                      Southeastern Coastal Logistics Region | |GDP: Rmb2,899 bn | |Pop: 82 mn
                                                                                                                       Southeastern Coastal Logistics Region GDP: Rmb2,899 bn Pop: 82 mn
                                                                                     Qingdao, Jinan
                                                                                    Qingdao, Jinan
                                                                                                                       Southwestern Logistics Region GDP: Rmb5,781 bn Pop: 82 mn
                                                                                                                      Southwestern Logistics Region | |GDP: Rmb5,781 bn | |Pop: 82 mn
                                                                                    YRD Logistics Region:
                                                                                    YRD Logistics Region:
                                                                                    Shanghai, Nanjing,
                                                                                    Shanghai, Nanjing,                YRD Logistics Region | |GDP: Rmb11,491 bn | |Pop: 216 mn
                                                                                                                       YRD Logistics Region GDP: Rmb11,491 bn Pop: 216 mn
                                                                                    Ningbo,,Hefei
                                                                                    Ningbo Hefei

                                                                                       Southeastern Coastal
                                                                                        Southeastern Coastal
             Southwestern Logistics
             Southwestern Logistics                                                    Logistics Region: Xiamen,
                                                                                        Logistics Region: Xiamen,
             Region: Chongqing,
             Region: Chongqing,                                                        Fuzhou, Nanchang
                                                                                        Fuzhou, Nanchang
             Chengdu, Nanning Guiyang,
             Chengdu, Nanning,,Guiyang,
             Kunming, Lhasa
             Kunming, Lhasa
                                                                              Central Logistics Region:
                                                                              Central Logistics Region:
                                                                              Wuhan, Zhengzhou,
                                                                              Wuhan, Zhengzhou,
                                               PRD Logistics Region:
                                               PRD Logistics Region:          Changsha
                                                                              Changsha
                                               Guangzhou, Shenzhen,
                                               Guangzhou, Shenzhen,
                                               Haikou
                                               Haikou




Source: NDRC, CEIC, Morgan Stanley Research




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                                              anonymous@anonymous.com FIRST LAST 04/24/12 02:16:04 AM Access Capital Limited
MORGAN STANLEY RESEARCH

April 24, 2012
The Logistics Journey Is Just Beginning




3. Development of railways                                                                is uneven across the country. Eastern provinces are highly
Even though the Ministry of Railways faces increased                                      urbanized, with more than 60% of the population living in
financial burdens related to the recent credit tightening, we                             cities, while in central China the figure is 40% and in western
think China will stick to its “Mid- to Long-term National                                 China 35%. Although regional economic differences are not
Railway Network Plan,” compiled for the 12th FYP. This plan                               rare in a global economy, China's regional differences are
describes a national rail network with a total length of                                  quite significant in terms of income levels and urbanization
120,000km (see the 15 May 2011 Blue Paper, China High-                                    ratios (Exhibit 15-16).
Speed Rail: On the Economic Fast Track).
                                                                                          Exhibit 15

Given that the unit cost of railway transportation is much lower                          Regional Differences in GDP per Capita
(~75%) than that for highways, a potential increase in railway                            2010 (Rmb)
usage should structurally lower the long-haul logistics cost in
China (Exhibit 14). Although capacity bottlenecks have led to                                  West                               19,289
declines in market share of railway transportation over the
years, the high-speed rail (HSR) network should ultimately
help free up freight capacity from the passenger side.                                      Central                                21,001

Exhibit 14
China’s 12th Five-Year Plan: Railways                                                           East                                                  44,670
                                                  11th 5-year plan    12th 5-year plan
                                                      (2006-2010)         (2011-2015)
                                                                                          Source: CEIC, Morgan Stanley Research
CAPEX                                              Rmb 2.3 trillion    Rmb 2.3 trillion
New build length (km) - traditional railway                 7,642              21,538     Exhibit 16
New build length (km) - HSR                                 8,358               7,462     Regional Differences in Urbanization Level
Operating length at end of period (km)                     91,000             120,000     2010 (%)
Double tracking vs. total rail length                         44%                 50%
Electrified tracking vs. total rail length                    46%                 60%
                                                                                            Central                                         39
 000s km

                                   22                                                         West                                               45
                                                             New build length -
                                     7                       traditional railway
    8
                                                             New build length -                East                                                      57
                                                             HSR

                                   91                                                     Source: CEIC, Morgan Stanley Research
                                                             Existing length
   75
                                                                                          5. Upcoming consolidation stage
                                                                                          The logistics industry is still at the start-up stage of its
                                                                                          lifecycle, characterized by the lack of economies of scale, with
             2006-10                         2011-15                                      thin margins for the average logistics firm. Barring a few big
                                                                                          names such as China Post, Sinotrans, and COSCO Logistics,
Source: Ministry of Railways, Morgan Stanley Research
                                                                                          the number of firms that can operate a real nationwide
4. Ongoing process of urbanization                                                        network is limited.
According to the 12th FYP, China aims to increase the
urbanization ratio to 55% by 2015, from 51% in 2010. We                                   However, as evidenced by the lifecycles of most other
believe this ongoing urbanization should lead to infrastructure                           industries, fast business development to accommodate
improvement in the relevant areas (especially inland China)                               growing demand should lead to the emergence of larger
and facilitate the flow of goods throughout the country.                                  nationwide players soon (through either organic growth or
                                                                                          M&A) as the industry cycle develops. This is true in the
Despite its rapid economic growth in the past few decades,                                domestic express delivery market, for example, where the fast
China still faces a marked geographic disparity between                                   emergence of a few large private firms—ShunFeng Express,
coastal and inland areas. The pace of economic development




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MORGAN STANLEY RESEARCH

April 24, 2012
The Logistics Journey Is Just Beginning




Shentong Express, and Yuantong Express, for example—is                            Looking forward, although we expect a dwindling number of
likely to set the stage for future consolidation.                                 small market players as the less competitive ones are
                                                                                  consolidated or forced out of business, the average size and
M&A deals in China logistics have accelerated in recent                           margins of the consolidators should increase. The resulting
years. From 1Q10 to 2Q11, 15 M&A deals were completed,                            economies of scale should lead to lower unit costs and higher
with disclosed aggregate value of US$732 million; another                         efficiency, benefiting customers.
five deals offered no disclosure of value (Exhibit 17). Even
with the recent uptick in M&A transactions, when we consider                      In our view, increasing scale should enable 3PL firms to meet
the large number of players in the industry, M&A activity in                      more complex and sophisticated customer needs through a
China logistics is still at a relatively low level, with plenty of                more integrated platform or network, yet at a lower cost.
upside remaining.

Exhibit 17
China Logistics M&A Deals, 1Q10-2Q11
                                             Deal number      Deal     Average
                                 Deal              (value    value   deal value
Category                       number          disclosed) (US$ mn)    (US$ mn)
Warehousing & Distribution           14                9     68.93        7.66
Logistics Management                  3                3    585.68      195.23
Others                                3                3     77.68       25.89
Total                                20               15    732.29      228.78
Source: Zdatabase, Morgan Stanley Research




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MORGAN STANLEY RESEARCH

April 24, 2012
The Logistics Journey Is Just Beginning




Investment Implications: The China Logistics Basket
An investable basket: We have identified companies that                                                     the themes outlined here. The basket is an equal weighting of
seem positioned to benefit from the trend of modern logistics                                               the 15 stocks shown in Exhibit 18 and can be viewed on
development in China, which should significantly improve                                                    Bloomberg under the symbol MSNJCHLO. Type MSNJCHLO
efficiency and save logistics costs. Morgan Stanley Research                                                <Go> to access the Morgan Stanley Equity Baskets / Indices
has created a basket of stocks traded on Hong Kong / China /                                                homepage and select Strategy / Research (MSNJCHLO).
Japan /US exchanges that we believe are most leveraged to

Exhibit 18
China Logistics Investment Basket
(Bloomberg Ticker: <MSNJCHLO>)

                                                                                                                                                         Current        Market cap               Free
Ticker               Company name                            Rating         Description                                                                    price          (US$mn)             floating
0598.HK              Sinotrans, Ltd.                         OW             3PL- comprehensive logistics                                               1.57 HKD                    871             36%
1308.HK              SITC International                      OW             3PL-shipping/logistics                                                     2.66 HKD                    895             44%
0144.HK              CMHI                                    OW             3PL- ports/cold chain logistics                                          27.20 HKD                  8,637              45%
1919.HK              China COSCO                             EW             3PL-shipping/ports/logistics                                               5.26 HKD                 6,927              46%
1099.HK              Sinopharm                               OW             3PL-pharmaceutical & healthcare                                           20.30HKD                  6,287              34%
9375.T               KWE                                     OW             3PL - overseas                                                            2,668 JPY                 1,165              51%
DANG.N               Dangdang, Inc                           EW             Online book store/ distributor                                             6.47 USD                    543             67%
0861.HK              Digital China                           OW             IT systems supplier                                                      16.28 HKD                  2,100              70%
200039.SZ            CIMC                                    OW             Logistics equipment - container, trailer, and vehicles                   11.97 HKD                  5,334              51%
6808.HK              Sun Art                                 EW             Consumer staple - hypermarket                                              9.93 HKD                 9,991              21%
0291.HK              China Resource Enterprise EW                           Consumer discretionary - beer / drinks                                   29.35 HKD                  9,072              48%
0322.HK              Tingyi                                  UW             Consumer discretionary - package food                                    23.10 HKD                 16,696              33%
2319.HK              Mengniu                                 OW             Consumer discretionary - dairy                                            20.90HKD                  4,691              69%
1880.HK              Belle                                   OW             Consumer discretionary - footwear                                        13.20 HKD                 14,351              51%
3813.HK              Pou Sheng                               OW             Consumer discretionary - sportswear                                      1.901 HKD                     559             38%
Data as at April 20, 2012
The information contained herein has been prepared solely for informational purposes and is not a solicitation of any offer to buy or sell any security or other financial instrument or to participate in
any trading strategy. Products and trades of this type may not be appropriate for every investor. Please consult with your legal and tax advisors before making any investment decision. Please
contact your Morgan Stanley sales representative for more details.
Source: Bloomberg, ModelWare, Morgan Stanley Research




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                        anonymous@anonymous.com FIRST LAST 04/24/12 02:16:04 AM Access Capital Limited
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April 24, 2012
The Logistics Journey Is Just Beginning




This basket represents our analysts’ picks in the areas of 3PL,         formed a new joint venture (JV) worth about US$100
e-commerce and online distributors, relevant technology /               million with Americold, a leading US cold-chain logistics
equipment suppliers, and consumer discretionary & staples.              player, to break into China’s cold-chain logistics market.
Besides these stocks, our analysts have identified three other          By end-2011, this JV had a network of eight temperature-
companies that have operations in these fields.                         controlled DCs in Tianjin, Harbin, Suzhou, Beijing,
                                                                        Qingdao, Guangzhou, Shenzhen, and Chengdu, with a
1. 3PL players with potential to benefit from industry                  total storage (owned and managed) capacity in excess of
consolidation. Overall, the revenue size of Chinese 3PL                 90,000 square metres. It has signed MOUs with strategic
firms is much smaller than that of their global peers. As               partners such as Shenzhen Agricultural Produce and
ranked by revenues by Armstrong & Associates (Exhibit 19),              Yums! Brands. We are positive on its outlook, given the
Sinotrans is the only Chinese firm that makes the list of the           strength of parent CMHI and the fast-growing market.
Top 50 Global 3PL,with gross sales of Rmb42.8 billion
(US$6.5 billion) in 2010.                                              China COSCO. A traditional shipping conglomerate with
                                                                        the world’s largest dry bulk fleet (435 vessels at 37.8
Over the next five to 10 years, with fast market expansion and          million dwt as of June 2011), it also owns COSCO
consolidation, we believe more China 3PL names could                    Logistics, which is one of the largest 3PL players in China.
appear on the list. Moreover, large public players could                It has freight forwarding services, including
emerge through leverage of the capital markets. For example,            ocean/airfreight forwarding, and offers logistics total
EMS China, a state-owned subsidiary of the State Post                   solutions for customers from home and abroad for
Bureau and China’s largest express delivery firm, applied in            household and electronic appliances, aviation, chemicals,
June 2011 for an IPO in the A-share market and passed                   power, and supply chain logistics. COSCO Logistics has
preliminary review by the China Securities Regulatory                   achieved a 24% revenue CAGR, with logistics revenues
Commission in February 2012. The other top domestic                     surging from Rmb5.2 billion in 2005 to Rmb15.2 billion in
express delivery firms (e.g., ShunFeng Express and Shentong             2010.
Express) are privately owned.
                                                                       Sinopharm. As a niche player, Sinopharm is the biggest
Stocks to focus on: With limited investable names in the                distributor of pharmaceutical and healthcare products in
secondary market, we highlight the following:                           China and has the largest drug distribution network, with
                                                                        15% market share. It has more than 39 distribution
    Sinotrans. Sinotrans is one of the largest 3PL logistics
                                                                        centers in China and more than 4,700 manufacturers as
     players in China, with major business segments including
                                                                        suppliers, including all of the top 50 global
     freight forwarding, express delivery service, shipping
                                                                        pharmaceutical companies and 95 of the top 100
     agency, terminals & storage, and marine. We believe its
                                                                        domestic pharmaceutical companies. Its customer base
     large, well-established nationwide network and ample net
                                                                        covers about 57% of all hospitals in China, including 85%
     cash position could make Sinotrans a potential
                                                                        of Tier 1 hospitals, and more than 77,000 other
     beneficiary of future industry consolidation.
                                                                        customers, including retail pharmacies and other drug
                                                                        distributors. Furthermore, it is one of two drug distributors
    SITC. SITC is a leading China-based shipping logistics
                                                                        owned by the Central Government (the other one, China
     company, exclusively focused on the intra-Asia market,
                                                                        Resource Medication, is not publicly listed). The state-
     providing integrated transportation and logistics solutions.
                                                                        owned background allows it to: 1) gain a high share of
     It has been highly profitable, with a 33-114% ROE over
                                                                        government tenders for drug procurement for
     2009-10, because of its ability to create value for
                                                                        manufacturers; 2) win against competitors in M&A, which
     customers through the integration of shipping and ground
                                                                        is critical for its consolidation strategy; and 3) obtain more
     logistics services.
                                                                        exclusive distribution rights to premium-imported drugs
                                                                        and own a rare license for distributing anesthesia
    CMHI. Being China’s leading port operator, with major
                                                                        products, both with above-industry margins.
     investments in Shanghai (SIPG), Shenzhen (SCT), and
     Hong Kong (MTL), CMHI also has strategic focus on
                                                                       Kintetsu World Express. Kintetsu is the second-largest
     land-based logistics service at locations adjacent to its
                                                                        air forwarder in Japan, with about 24%/29%
     ports operation (e.g., bonded zone logistics) and land-
                                                                        revenue/operating profit exposure to China. Being the
     based cold-chain logistics. In April 2010 the company
                                                                        most global logistics firm in Japan, Kintetsu has moved to



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MORGAN STANLEY RESEARCH

April 24, 2012
The Logistics Journey Is Just Beginning




      internationalize its earnings structure (roughly 70% of                                            electronics industry. In view of its strong network (111
      operating profit from overseas), client base (around 70%                                           branches in China), its ability to deploy its value-added
      are foreign companies), and personnel (Japanese                                                    bonded warehouse business (total bonded warehouse
      dispatches in China account for only about 1%, versus                                              area of ~180,000 square metres in China), and
      c.3% at peers). Kintetsu operates a 3PL business in                                                economies of scale in the air forwarding business, we
      China, including air/sea cargo export/import, customs,                                             believe Kintetsu is capable of posting strong growth in the
      bonded warehousing, and inland transit, mainly for the                                             Chinese market.

Exhibit 19
Sinotrans near the Top of the Global Top 50 3PL Players, 2010
                                                                        Gross revenue                                                                              Gross revenue
             Third-party logistics provider (3PL)                          (US$ mn) *                   Third-party logistics provider (3PL)                          (US$ mn) *

       1.    DHL Supply Chain & Global Forwarding                                 30,486         26.    Kintetsu World Express                                                  3,057
       2.    Kuehne + Nagel                                                       19,476         27.    Pantos Logistics                                                        2,972
       3.    DB Schenker Logistics                                                18,999         28.    Damco                                                                   2,700
       4.    Nippon Express                                                       18,450         29.    IMPERIAL Logistics                                                      2,467
       5.    C.H. Robinson Worldwide                                               9,274         30.    Penske Logistics                                                        2,433
       6.    CEVA Logistics                                                        9,091         31.    Sankyu                                                                  2,341
       7.    UPS Supply Chain Solutions                                            8,670         32.    Fiege Logistics                                                         1,992
       8.    DSV                                                                   7,587         33.    Hub Group                                                               1,833
       9.    Panalpina World Transport                                             6,887         34.    Logwin                                                                  1,801
      10.    Hyundai GLOVIS                                                        6,303         35.    Ryder Supply Chain Solutions                                            1,735
      11.    Sinotrans                                                             6,286         36.    Nissin Corporation/Nissin Group                                         1,647
      12.    Bolloré/SDV Logistics                                                 6,163         37.    BDP International                                                       1,600
      13.    Expeditors International of Washington                                5,968         38.    Menlo Worldwide Logistics                                               1,478
      14.    Geodis                                                                5,578         39.    Kerry Logistics Network                                                 1,400
      15.    Toll Holdings                                                         5,303         40.    APL Logistics                                                           1,260
      16.    Agility                                                               5,266         41.    arvato logistics services                                               1,215
      17.    DACHSER                                                               5,045         42.    J.B. Hunt DCS & ICS                                                     1,198
      18.    Hellmann Worldwide Logistics                                          4,687         43.    BLG Logistics Group                                                     1,195
      19.    UTi Worldwide                                                         4,550         44.    OHL                                                                     1,170
      20.    GEFCO                                                                 4,449         45.    VersaCold Logistics Services                                            1,116
      21.    Yusen Logistics                                                       3,814         46.    Landstar                                                                1,036
      22.    Norbert Dentressangle Group                                           3,769         47.    Greatwide Logistics Services                                            1,022
      23.    Caterpillar Logistics Services                                        3,465         48.    Werner Enterprises Dedicated & Logistics                                  980
      24.    Wincanton                                                             3,370         49.    NFI                                                                       936
      25.    GENCO ATC                                                             3,096         50.    Transplace                                                                900
*Revenues are company reported or Armstrong & Associates, Inc. estimates and have been converted to US$ using the average 2010 exchange rate in order to make non-currency related growth
   comparisons.
Source: Armstrong & Associates, Morgan Stanley Research




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MORGAN STANLEY RESEARCH

April 24, 2012
The Logistics Journey Is Just Beginning




2. e-Commerce and online distributors could achieve fast            most vehicles carrying a standard container box to transport
penetration into the domestic market through the development        goods nowadays. In addition, with the continuous
of a nationwide logistics network. However, despite the             industrialization of inland China demand for trailers and
booming transaction volumes with the emergence of leading           vehicles is likely to increase, as more businesses standardize
players in the market (e.g., Vancl), public names for               their equipment to improve efficiency. During 1006-10,
secondary market investment are still limited.                      China's trailer and vehicles fleet grew at around a 20%
                                                                    CAGR, and we expect the growth rate to accelerate through
    Dangdang Inc. Established in 1999, Dangdang is a               2016.
     leading Chinese B2C (business-to-customer) e-
     commerce company, with a focus on selling books and               China International Marine Container (CIMC). CIMC is
     other media products online. In 2005, the company                  the world's largest container manufacturer, with around
     extended its product offerings into general merchandise.           50% global market share. The company also produces
     Dangdang is China’s largest book retailer by revenue               trailers, tankers, and airport equipment. With more than
     size and offers the widest selection of offerings, with            100 subsidiaries, CIMC conducts business across China,
     more than 670,000 books and media products. It owns a              North America, Europe, Asia, and Australia. During 2005-
     nationwide fulfillment and delivery network with 13                10, CIMC's trailer and vehicle business achieved a 31%
     logistics centers in strategic locations such as Beijing,          CAGR, with revenue rising from Rmb4.2 billion in 2005 to
     Shanghai, Guangzhou, Wuhan, Chengdu, and                           Rmb16.6 billion in 2010. With continuous market share
     Zhengzhou; it also partners with more than 100 third-              gains, the company is well positioned, in our view, to
     party local couriers. The company offers same-day                  benefit from the logistics upgrade theme in China.
     delivery in 20 cities and next-day delivery in 100 cities in
     China.                                                         4. Consumer discretionary and staples. In the longer term,
                                                                    consumer brands in food / chain stores should benefit from
3. Relevant technology / equipment suppliers. The big               improvement in logistics networks and facilities (such as cold-
wave of upgrading and modernization of logistics facilities         chain storage) that would help expand their domestic
(e.g., warehouses and cargo stations) implies good                  distribution network.
opportunities for IT and equipment suppliers. This is                  Sun Art Retail. Sun Art is the largest hypermarket
supported by a detailed FYP compiled jointly by the Ministry            operator in China, with a 12% market share in sales
of Industry and Information Technology (MIIT) and National              value in 2010. It has the highest sales growth among
Development and Reform Committee (NDRC) to develop                      major food retailers in 2008-10 at a CAGR of 22% and
China’s Internet of Things (IOT) system.                                consistently leads the industry in sales productivity
                                                                        measures (sales per store, sales per square metre, and
    Digital China. Digital China should benefit from                   sales per employee). Its superior sales productivity is
     continued digitization in China. Digital China's long-term         attributable, in our view, to management expertise, an
     goal is to become the IT solution provider for China’s             effective employee incentive program, well-managed
     “smart city” concept, and it aims to capture the                   distribution centers with advanced information technology
     opportunities from cloud computing, mobile internet, and           systems, and a customer-oriented strategy with a focus
     IOT. The company has established good relationships                on detail. Sun Art’s hypermarkets operate under two
     with the world's leading IT hardware and software                  banners: Auchan and RT-Mart.
     suppliers through its distribution business, and it is
     cultivating its own software capabilities. Contributions          China Resources Enterprise. China Resources
     from “smart city” are limited so far, but this may represent       operates in consumer businesses including retail, beer,
     a good growth driver once the business model is in place.          food, and beverages in China. In the retail business,
                                                                        China Resources is the no.1 supermarket chain in terms
We expect China's logistics development to underpin the                 of number of stores in China. In the beer business, it is
demand for containers, and we think the containerization ratio          China’s largest brewer by sales volume (21% market
in China could increase from ~50% to ~60% over the next five            share), and it boasts the world's best-selling single beer
years through 2016. This could translate into approximately             brand, Snow. In the food business, it is the largest
0.6-0.8 million twenty-foot equivalent units (TEU) of new               supplier of Chinese foodstuffs in Hong Kong. It has also
containers per year. The global containerization ratio                  vertically integrated its high-quality meat supply chain in
increased from 50% in 2002 to more than 60% by 2010, with               China. In the beverage business, its flagship purified



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                  anonymous@anonymous.com FIRST LAST 04/24/12 02:16:04 AM Access Capital Limited
MORGAN STANLEY RESEARCH

April 24, 2012
The Logistics Journey Is Just Beginning




     water brand, C’estbon, has the leading market position in            network; strategy of carrying multiple brands and
     Guangdong Province. China Resources operates 3,809                   categories; and efficient fast restocking system. Belle's
     stores in 23 provinces/cities, 80 brewing plants in 22               evolutionary strategy includes: 1) a fast-growing online
     provinces/cities, and 17 beverage plants in eight                    channel (Belle's Yougou.com platform is currently the
     provinces/cities in China (as of September 2011). It also            no.3 footwear site in China); 2) diversification into other
     has a supply base for the food business in 10                        categories, such as men’s and children’s footwear; 3)
     provinces/cities in China.                                           rollout of a multi-brand platform (m.a.p.); and 4) entrance
                                                                          into the mass market. We believe a better logistics
    Tingyi. As the brand owner of Master Kong, Tingyi is one
                                                                          infrastructure will allow Belle to leverage its existing
     of the biggest Chinese packaged foods companies that
                                                                          warehouses in more than 300 cities and enhance its
     manufacture, distribute, and sell products to retailers and
                                                                          effectiveness in implementing its growth strategy.
     distributors. It owns one of the most extensive sales
     networks, comprising 548 sales offices, 89 warehouses,              Pou Sheng. Pou Sheng is the no.2 sportswear distributor
     6,155 product distributors, and 73,282 direct-supply                 in China, operating both direct-retail and wholesale
     retailers around the country as of end-2010. Tingyi was              businesses. As of September 2011, the company had
     ranked no.1 in instant noodles (market value share of                3,055 directly managed retail stores and 3,357 sub-
     56.5%), no.1 in ready-to-drink tea (market volume share              distributor stores. Tier 1 brands account for 54% of its
     of 54.6%), no.1 in bottled water (market volume share of             directly managed stores and 32% of its sub-distributor
     25.2%), and no.2 in juice drinks (market volume share of             stores.
     20.3%) as of September 2011, according to market
     researcher AC Nielsen.                                           Other Companies in Associated Fields
    Mengniu. Mengniu is a leading national dairy brand in               Global Logistics Properties. Global Logistics is Asia's
     China, with ultra-high-temperature (UHT) milk, milk                  largest provider of modern logistics facilities, with a
     beverages, yogurt, and ice cream among its products. In              presence in 25 major Chinese cities. It owns, manages,
     contrast with many local dairy brands in China, Mengniu              and leases out 521 completed properties in 145 logistics
     operates production centers across 13 provinces and one              parks spread across 32 major cities in China and Japan;
     metropolis, with 25 factories for UHT and milk beverages,            this efficient logistics network contains properties in key
     nine factories for yogurt, and seven factories for ice               logistics hubs, industrial zones, and urban distribution
     cream, as of end-2010.                                               centers. By providing flexible solutions in the areas of
                                                                          multi-tenant, build-to-suit, and sale & leaseback, Global
For sportswear, we believe improving the logistics                        Logistics is dedicated, according to the company, to
infrastructure will facilitate potential industry consolidation, as       improving supply chain efficiency to meet strategic
faster penetration into lower-tier cities brings companies’ cost          expansion goals of the most dynamic manufacturers,
structures more in line with those in higher-tier cities. Given           retailers, and 3PL companies in the world.
the intensifying competition, we expect the following structural
                                                                         Eternal Asia Supply Chain Management Ltd. Eternal
changes: 1) a power shift to distributors/retailers from pure
                                                                          Asia Supply Chain Management Ltd. is the first listed
manufacturers; 2) emergence of multi-brand specialty
                                                                          supply chain service company in China to provide
channels and e-commerce; 3) a greater focus on sell-through;
                                                                          professional non-core business outsourcing service for
and 4) contraction of domestic brands’ margins to a long-term
                                                                          enterprises; these non-core businesses—logistics
sustainable level, in line with international levels. With these
                                                                          outsourcing, business outsourcing, settlement
concepts in mind, our top picks within the industry are Belle
                                                                          outsourcing, and information system and data process
and Pou Sheng, as we think they stand to benefit from
                                                                          outsourcing—improve supply chain benefits and promote
stronger bargaining power and the aggressive push of Tier 1
                                                                          supply chain innovation for enterprises. With nearly 80
brands (e.g., Nike and Adidas) into lower-tier cities.
                                                                          branches and more than 3,000 employees, Eternal Asia
    Belle. Improvement in logistics infrastructure will allow            has set up distribution / distribution-fulfillment service
     easier penetration into lower-tier cities by dominant                platforms in more than 380 cities nationwide to provide
     brands such as Belle. In such an environment, we believe             in-depth service to dealers, markets, and end retail stores.
     Belle is best positioned to benefit from market                      According to the company, it is actively exploring
     consolidation, given its category leadership in the                  overseas markets to establish a global supply chain
     footwear segment; wide, established department store                 service network.




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                  anonymous@anonymous.com FIRST LAST 04/24/12 02:16:04 AM Access Capital Limited
MORGAN STANLEY RESEARCH

April 24, 2012
The Logistics Journey Is Just Beginning




    CMST Development (Zhongchu Development Stock                 in 2009. The companies also invested in more significant
     Co Ltd.). CMST Development Co. Ltd., listed on the           capex for infrastructure facilities during the period (Exhibit 21).
     Shanghai Stock Exchange in January 1997, is the largest
     nationwide warehouse logistics provider in China, with       However, most of their domestic strategies so far have not
     more than 60 years of history. CMST has established          yielded meaningful returns. For example, FedEx lost money
     more than 70 logistics centers in more than 30 major         for three consecutive years after 2007, when it officially
     Chinese cities to provide integrated logistics services,     launched into the domestic market and subsequently entered
     including warehousing & storage, transportation,             into pricing wars for market share gains. Sinotrans-DHL did
     distribution, mortgage custody & financing, freight          not fare any better: After encountering severe competition in
     forwarding, and multi-modal transportation, for              the market and suffering heavy losses, Sinotrans-DHL left
     purchasing, producing, marketing, and providing other        China’s domestic express market completely in 2011, selling
     supply chain elements in China.                              100% ownership in Uni-Top for Rmb100 million. The company
                                                                  had paid Rmb300 million for it in 2009.
Implications for Global Players
                                                                  Exhibit 21
While China’s booming logistics market could generate new         Global Express Giants’ Investments in China
opportunities for major global players (e.g., DHL and FedEx)
                                                                                                                                                                    Capex
in the long term, their current China exposure in revenues is                    Type                           Date   International airport location             (US$mn)

still insignificant, as overall revenues from the Asia Pacific    DHL            Central Asia hub              Sep-08 Hong Kong                                       210

region for UPS, FedEx, and DHL are only at 10-14% (Exhibit        UPS            International transit hub     Dec-08 Shanghai Pudong                                 125
                                                                  FedEx          Asia Pacific hub              Feb-09 Guangzhou Baiyun                                150
20).
                                                                  UPS            Intra-Asia hub                Feb-10 Shenzhen Baoan                                  180
                                                                  DHL            North Asia hub                Jun-12 Shanghai Pudong                                 175
Exhibit 20                                                                       Day definite road
2011 Geographic Revenues Share in Asia Pacific                    TNT
                                                                                 distribution
                                                                                                               Sep-10 Various locations                               230
                                                                                                                       Capex subtotal                               1,070
Region (%)
                                                                                                                                                                     Value
             23                                                   Acquirer       Acquiree                       Year   Acquisition                                (US$mn)
                                                                  UPS            Sinotrans-UPS Express          2005   Acquired the remaining 50% share of its        100
                                                                                                                       JV, Sinotrans Air-UPS Express


                                                                  TNT            Hoau Group                     2006   Acquired Hoau nationwide road                  130
                                                                                                                       transport and freight business
                            14
                                                                  FedEx          DTW Group                      2006   Acquired the remaining 50% share of            400
                                          10       10                                                                  FedEx-DTW, and bought DTW's express
                                                                                                                       business in China
                                                                  Sinotrans-     Express companies              2009   Acquired 100% share of three China              43
                                                                  DHL            (e.g., Uni-Top Express)               domestic express delivery companies


                                                                                                                       Equity investment subtotal                     673

                                                                                                                       Aggregate China investments by Top
             TNT            DHL           UPS    FedEx                                                                 4 global players                             1,743
Source: Company data                                              Source: Company data


Initial access to China by the four major global express          Exhibit 22

players—FedEx, DHL, UPS, and TNT—can be traced back to            Top Logistics Players Geographic Revenue Share
1984-88, when the China logistics market was highly                       60
regulated. At the time, these companies had to form joint
ventures with local Chinese players, like Sinotrans, to operate
international express services. These companies made more                 40
significant inroads into the China market after 2004-05, when
China deregulated and liberalized the market. The companies               20
then generally abandoned their original joint venture
partnerships to build their own China subsidiaries, with
increasing operational scales. They expanded through                         0
acquisitions of local players: FedEx acquired 50% of the                                US                   Europe             Asia                     Other
remaining shares in Da Tian Wuliu (DTW), TNT acquired                                                                          Pacific*                 regions
                                                                  * Morgan Stanley Research estimates
Hoau in 2006, and Sinotrans-DHL acquired Uni-Top Express          Source: Company data, Morgan Stanley Research estimates




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                       anonymous@anonymous.com FIRST LAST 04/24/12 02:16:04 AM Access Capital Limited
MORGAN STANLEY RESEARCH

April 24, 2012
The Logistics Journey Is Just Beginning




According to our recent AlphaWise survey, brand awareness            local courier firms have been competing on low prices and
of foreign logistics players is still lower than that of major       thin margins. If global players adopt a greenfield venture
Chinese names such as Cosco and Sinotrans. This lower                strategy they will have to endure more uncertainty regarding
awareness is probably due to the lack of local connections;          timing and financial pressure before potential market
companies whose major operations are within China prefer             consolidations take place.
using domestic companies, and only those that have an
interest in exports use foreign logistics providers. Data            Finally, government policy changes could pose regulatory
suggests that in China foreign logistics companies are the           risks for global players. The latest version of the China Post
additional service providers, rather than main service               Law, effective in October 2009, has specifically forbidden
providers. The majority of companies outsource logistics to          foreign companies from investing or operating domestic
domestic companies; sole outsourcing to foreign logistics            express mail services in China.
companies is negligible, and a domestic company is always
used, along with a foreign company.                                  Looking forward, however, we expect to see new M&A
                                                                     opportunities as the industry migrates into the consolidation
Therefore, we believe that global players will still rely on their   stage. Moreover, we think that further progress of foreign
global customers’ business progress in China, as penetration         companies in China could drive demand, especially for more
to local Chinese customers could remain tough. Moreover,             integrated logistics services. However, we think it may still
high competition in China’s fragmented domestic market               take awhile to see a greater contribution to profits coming
during start-up implies fewer advantages for these global            from China.
players, especially on the cost front. For example, with low
barriers to entry and limited infrastructure investment, small




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                  anonymous@anonymous.com FIRST LAST 04/24/12 02:16:04 AM Access Capital Limited
 MORGAN STANLEY RESEARCH

April 24, 2012
The Logistics Journey Is Just Beginning




 An Infant Industry with High Growth Potential
MORGAN STANLEY BLUE PAPER

 An Early Stage of Development                                                     6,000 small licensed players. This compares with the top
                                                                                   three express delivery operators (UPS at 55%, FedEx at
 Comparing the early phase of logistics development in China
                                                                                   33%, and USPS at 12%) dominating the US domestic
 (Exhibit 23) with that of the US, China logistics has grown at
                                                                                   market.
 almost double the pace of US logistics. In 1994-2010, China
 logistics grew at a CAGR of 15% to US$1.07 trillion,                             Low service level. Only a limited number of 3PL firms in
 compared with US logistics growth of 9% in 1960-1979.                             China can provide integrated logistics services. Rather
                                                                                   than door-to-door and intermodal logistics, their services
 Despite the high growth rate, the 7% market share of 3PL                          are generic and simple transportation (e.g., trucking,
 players in China is lower than the 10-14% levels in the                           shipping, and freight forwarding), which are highly
 developed world. This reflects low outsourcing activities, as                     replicable by competitors. In our AlphaWise survey of
 the in-house models of 1PL/2PL still dominate revenue share.                      3PL customers, 91% of outsourced services are pure
                                                                                   transportation and 54% are in warehousing, but only 32%
 Of total logistics costs, the percentage of logistics                             are in more sophisticated inventory management.
 management cost is 12% in China, significantly higher than
                                                                                  High operating costs. Because of the strong positions of
 4% in Japan and 5% in the US. These differences probably
                                                                                   fuel suppliers (e.g., Sinopec and PetroChina) and
 reflect a lack of efficiency during the early stage of the
                                                                                   infrastructure operators (toll roads, airports, and ports),
 industry development cycle.
                                                                                   which are natural monopolies under government
 Exhibit 23                                                                        regulation, typical 3PL players are facing high cost
 China Near Beginning of 3PL Logistics Lifecycle                                   pressure. For trucking firms, for example, we estimate
  3PL revenue US$ bn
                                                                                   fuel accounts for 30% of operating costs, toll tariffs 26%,
                                                                                   and maintenance 23%, leaving the OP margin at only a
     600
                                                                                   single digit.
     500                                                                          Relatively low barriers to entry. Especially for asset-
                                                                                   light firms such as freight forwarders and domestic
     400
                                                                                   couriers, start-up costs could be relatively low, with
     300                                                                           register capital requirement of only Rmb500,000
                                                                                   (US$82,000).
     200
                  Start-up       Consolidation       Maturity       Decline       Weak pricing power. Weak pricing power is due to high
     100                                                                           competition and a lack of specialization/differentiation in
                                                                                   services. Without sufficient operational scale, most
       -
           2001          2012e       2023e       2034e      2045e      2056e       market players are price takers.
 e = Morgan Stanley Research estimates for 2012-56
 Source: CEIC, Morgan Stanley Research                                         Future Opportunities: What Could Change?

 Specifically, we summarize major industry attributes as                       Looking into the next four years, as existing businesses shift
 follows:                                                                      to a 3PL model from the current 1PL/2PL model, we expect
                                                                               China’s 3PL market to grow at a CAGR of about 16%,
          Fragmented market. According to the China Logistics                 creating what might be the world’s largest logistics market,
           Association, more than 25,000 logistics companies were              with a revenue size of US$172 billion. This growth would
           registered in China in 2010. In warehousing, for example,           occur despite a potential deceleration in overall logistics cost
           there were 17,415 licensed firms in 2009, with the top 60           growth from a 14% CAGR over the last decade to a CAGR of
           players contributing only 6% of total revenues. With                about 8%, because of efficiency gains. This would bring the
           revenue size at Rmb54.6 billion (US$8.5 billion) in 2010,           percentage of logistics costs-to-nominal GDP down to 15%
           China’s express delivery market is much smaller and less            from 18% now.
           concentrated than the US market (~US$54 billion for
           domestic). While the top seven players control more than            Given robust historical correlations between logistics cost
           90% of China’s domestic market, there are more than                 growth and retail growth in China (Exhibit 24), we expect



                                                                                                                                             22
                             anonymous@anonymous.com FIRST LAST 04/24/12 02:16:04 AM Access Capital Limited
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The Logistics Journey Is Just Beginning




potential acceleration in China’s domestic consumption to          2. Acceleration in domestic consumption. Domestic
further drive logistics demand.                                    consumption has been the key driver for China’s logistics
                                                                   demand; we note the high correlation of 0.94 between China’s
Specifically, we spot new opportunities from the following
                                                                   retail growth and logistics cost growth in 2001-10. Meanwhile,
areas:
                                                                   the correlation between China’s export growth and logistics
1. Plant relocation. Faced with increasing costs amid labor        cost growth was not so strong, at only 0.5x. Government
shortages in the coastal areas, manufacturers are targeting        policy focusing on stimulating domestic consumption implies
inland cities for their new plant facilities. For example, our     strong growth potential for the logistics industry as
AlphaWise survey of 200 major businesses operating in China        consumption growth accelerates. On March 29, 2012, our
indicates 18% of them plan to open new manufacturing               China economist Helen Qiao raised her GDP growth forecast
locations over the next three years, and ~40% of them are          to 9% for 2012 (from 8.4%), mainly on higher consumption
likely to be in inland areas. As only ~5% of the companies are     and investment growth to 9.2% and 10.2% (from 8.6% and
thinking about offshoring manufacturing units outside China,       9.1% previously), despite a further slowdown in export growth
this implies a low risk for China to lose its current leadership   at 13.3% (from 15.8% previously). In particular, consumption
in global manufacturing.                                           escalation should lead to above-average growth in certain
                                                                   product areas. For example, during 2006-10, China posted
For the past 20 years, China’s external-driven manufacturing       high CAGRs for per capita consumption of wine at 23.8% and
hubs have been mostly in coastal areas, primarily the PRD          autos at 118%, while the number of Walmart stores increased
(Pear River Delta) and the YRD (Yangtze River Delta), which        229%, with sales up 224% during the period (Exhibit 25).
are easy to export from and require low dependence on
domestic logistics. However, their move inland to cities such      Exhibit 24

as Chongqing and Wuhan requires additional steps to                High Correlation Between China’s Logistics Cost
transport goods from there to the coasts for export.
                                                                   Growth and Total Retail Sales Growth
                                                                   Logistics cost vs. retailing sales correlation = 94%

Key Implications                                                     40%
                                                                     30%
    A boost to domestic logistics demand: China’s port
     throughput reached 163 million TEUs for containers in           20%
     2011. Assuming 30% of plants relocate to inland cities,         10%
     about 49 million TEUs of export cargo volume per annum            0%
     would need to be transported through the domestic
                                                                    -10%
     logistics system from the inland plants to the coast to be
                                                                    -20%
     transshipped to global destinations.
                                                                                2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
    Riverside logistics would thrive as barges prove to be the
                                                                            Total retails yoy change                Logistics cost yoy change
     cheapest transportation mode from inland to the coast.                 China export yoy change                 China freight volumes yoy change
     As a result, the major rivers—the Yangtze and the             Source: CEIC, Morgan Stanley Research
     Pearl—would see increasing traffic volumes. Assuming
     two-thirds of the 49 million TEUs in export cargo are         Exhibit 25
     transported by river implies a boost of 275% to container     Walmart: Number of Stores in China Escalated
     shipping volumes on the Yangtze in 2011.                           Walmart (includes Sam's Club)

    Use of intermodal transport through rail lines such as the
     Eurasia Continental Bridge would increase. The industrial                            CAGR: 35%                                         224
     city of Chongqing, for example, launched freight services                                                             170
     to Antwerp by train in 2011. It also plans to add a new
                                                                                                           117
     train routes to connect Kyaunkpyu in West Myanmar,                                       97
     close to the Bay of Bengal.                                            68

    More integrated logistics management would be needed
     to optimize the logistics chains, balancing time and cost.
                                                                         2006               2007           2008           2009             2010
                                                                   Source: Company data, Morgan Stanley Research




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                  anonymous@anonymous.com FIRST LAST 04/24/12 02:16:04 AM Access Capital Limited
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The Logistics Journey Is Just Beginning




Key implications:                                                        The industry would have greater need for more
                                                                          specialized logistics, such as cold-chain and liquid bulk.
     Domestic logistics demand would rise because of thriving
      domestic distribution networks. For example, growth in             Opportunities for both foreign consumption and logistics
      the number of China’s automobile 4S shops (currently                brands to penetrate China’s domestic market would arise.
      around 6,000-7,000) creates sustained demand for highly
      specialized logistics services.                                 4. Urbanization and infrastructure upgrade. This should
                                                                      help diminish the gap between rural and urban areas in China
     Opportunities for specialized logistics players such as
                                                                      and facilitate the smooth flows of goods throughout the
      cold-chain storage and warehousing for food products
                                                                      country. Despite recent delays in some HSR projects, China
      would expand.
                                                                      is still planning to spend Rmb1.85 trillion in building 28,000
                                                                      km of railways in 2012-15, expanding the existing railway
3. Rising demand for consumer imports. Sustained RMB
                                                                      length by ~30% to 120,000 km.
appreciation and increasing domestic affluence should
improve the affordability of and appetite for imports, which in
                                                                      Key implications:
turn should prompt the need for domestic logistics for
distribution. A potential cut in import tariffs on certain goods         Infrastructure engineering would generate huge logistics
should further stimulate demand. China imported 2.2 million               demand to transport heavy machinery/equipment to/from
cars during 2006-10, implying a 37% CAGR for the period                   working sites in remote areas.
(Exhibit 26), and our China autos analyst Kate Zhu believes
                                                                         Resolving key logistics bottlenecks (e.g., railways) would
volume growth could be sustained at ~15% per annum over
                                                                          create greater efficiencies.
the next five to 10 years.
                                                                         Intermodal logistics would develop.
Exhibit 26
                                                                         Demand for equipment such as containers and forklifts to
Auto Imports in China Also Up 2000-10
                                                                          upgrade logistics facilities would emerge.
 (000s)                                                         (%)
                                        2006-2010 CAGR: 37%           5. Industry consolidation. Given the trend of 3PL players
 1,000                                                          100
                                                                      taking market share from the in-house model (1PL/2PL) and
    800                                                         80    upgrading their existing services to higher levels, we think
                                                                      both vertical and horizontal consolidation are possible.
                                                                60
    600                         2000-2005                             Moreover, as more global competitors enter the market, they
                               CAGR: 30%                        40    are likely to look for appropriate M&A targets as well. We note
    400                                                               that the liberalization of China’s logistics industry since 2004
                                                                20
                                                                      has made M&A more convenient for foreign companies, as
    200                                                         0     they are no longer required to have local JV partners to
                                                                      operate in China. For example, FedEx, UPS, and TNT have
       0                                                        -20   all ended their business relationships with Sinotrans and
             2000     2002       2004     2006   2008    2010         acquired local players to expand their China business.
                         Auto imports            YoY growth
Source: CEIC, Morgan Stanley Research
                                                                      Key implications:
                                                                         Fewer but bigger market players and increasing entry
Key implications:                                                         barriers would contribute to efficiency and improve
     More balanced trade should improve capacity utilization             margins.
      and reduce the empty box ratio on inbound trade. With              More integrated logistics chains would develop.
      low import demand for manufactured or consumer goods,
      the empty ratio of China’s inbound containers is high,          6. e-Commerce and online shopping. Despite the global
      around 90%, implying low ASPs for both port operators           financial crisis in 2008-09, China’s online shopping
      and shipping firms on back-haul routes. A potential             transaction volumes jumped 7.9x from the 2007 level to
      reduction in the empty box ratio led by China’s imports         Rmb498 billion (US$77 billion) in 2010, implying a three-year
      should improve their ASPs.                                      CAGR of 107%. Yet online shopping accounted for only 3.2%
                                                                      of China’s total retail sales in 2010. This is likely to rise, as



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                     anonymous@anonymous.com FIRST LAST 04/24/12 02:16:04 AM Access Capital Limited
MORGAN STANLEY RESEARCH

April 24, 2012
The Logistics Journey Is Just Beginning




B2C transactions in China are still in their infancy, at only a                          Exhibit 29

0.4% penetration ratio, versus 3.2% in Japan, 4.0% in the US,                            Total Online Retail Sales in China by Product
and 7.7% in the UK. Our China Internet analyst Richard Ji
                                                                                         Category, 2010 (%)
forecasts that the momentum of online shopping will remain at                                       Apparel
                                                                                                                                               23
a 40-50% CAGR until 2013, which we believe should further                                          and bags
support China’s logistics demand (Exhibit 27-29).                                                      Digital
                                                                                                                                      12
                                                                                                      products
In our view, from 2006-10 online shopping likely boosted
China’s express delivery volumes by a 22% CAGR to 2.34                                           Cosmetics                  5
billion pieces and revenues by an 18% CAGR to Rmb57.5
                                                                                                   Home
billion (US$8.9 billion). With the anticipated growth in e-                                                                 5
                                                                                                 appliances
commerce activities, we estimate China’s express delivery to
be one of the fastest growing segments within the logistics                                      Books and
                                                                                                                        3
                                                                                                   media
industry. We expect express delivery to grow at a ~22%
                                                                                         Source: iResearch, Morgan Stanley Research
CAGR over the next four years to more than 6.5 billion pieces
and to Rmb155 billion (US$24 billion) in revenues by 2015,
                                                                                         Key implications:
close to the 2010 levels of the US express delivery market, at
7 billion pieces and US$54 billion.                                                           Consolidation opportunities with the emergence of larger
                                                                                               players are likely to increase market concentration.
Exhibit 27
China’s Online Shopping Volume Still Has a Small                                              Expansion of express delivery networks should support
Share of Total Retail Sales                                                                    the thriving of e-commerce business.

                                                                                         
  Online shopping                                               Total retail sales
  volume                                                                      (%)              High growth potential could attract new competition from
2,000                                                                                8         e-commerce firms themselves, as they could try to
                                                                                               consolidate into the express delivery industry.
1,500                                                                                6
                                                                                         Comparison of China with the US Suggests Strong
                                                                                         Growth Outlook for China Logistics
1,000                                                                                4
                                                                                         China logistics grew at double the rate of US logistics in
                                                                                         1994-2010. In 2010, China’s nominal GDP was US$6.0
  500                                                                                2
                                                                                         trillion, less than half of the US$14.7 trillion for the US.
                                                                                         However, the logistics costs were almost the same, at
       0                                                                             0
                                                                                         US$1.11 trillion for the US and US$1.07 trillion for China,
             2007    2008       2009         2010   2011e   2012e    2013e
                                                                                         translating to 8% of GDP for the US but 18% for China.
e = Morgan Stanley Research estimates
Source: iResearch, Morgan Stanley Research                                                    In 1994, China’s nominal GDP of US$567 billion was
                                                                                               about the same as the US$550 billion for the US in 1961,
Exhibit 28
                                                                                               when the US had logistics costs of US$122 billion, for
China’s Online Retail Market Share Lags, 2010
Online retail as % of Total Retail Sales                                                       21% of GDP. In 1994-2010, China’s logistics grew at a
                                                                                               CAGR of 15% and nominal GDP at a CAGR of 16% or, in
 (%)
  8                                                                                            US-dollar terms, at almost double the pace the US
                                                                                               experienced in 1960-79, with China’s logistics accounting
  6                                                                                            for 18% of GDP in 2010, compared with 15% of GDP for
                                                                                               the US in 1979 (Exhibit 30).
  4
                                                                                              Considering potential savings in China’s logistics costs
  2                                                                                            through various government efforts, we estimate that
                                                                                               China’s logistics costs could grow 8-9% to 2016,
  0                                                                                            assuming nominal GDP growth of 12-14% and expected
             China             Japan                US               UK                        inflation of 5% (both based on Bloomberg consensus
Source: iResearch, Morgan Stanley Research                                                     mean), as well as 14% logistics costs to GDP (Exhibit 30).




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However, if we assume that the 3PL players’ market share
rises to 11% from 7% during this period, we would expect
much stronger growth for the 3PL market, at a 16% CAGR.

Exhibit 30
Based on US Experience, Logistics Cost/GDP Should Fall in China
 GDP US$ bn                                                                        (%)      US$ bn                                                        (%)
 16                                                                                 26      16                                                            17

                                                                                                                                                          15
 12                                                                                 22      12

                                                                                                                                                          13
  8                                                                                 18       8
                                                                                                                                                          11

  4                                                                                 14       4
                                                                                                                                                          9

  0                                                                             10           0                                            7
      1991         1996          2001           2006         2011e         2016e              1961 1967 1973 1979 1985 1991 1997 2003 2009
          China GDP US$ bn                      Logistics cost as % of GDP                         US GDP                Logistics Cost as % of GDP
Source: CASS, CEIC, IMF, Morgan Stanley Research. e = Morgan Stanley Research estimates



Exhibit 31
China Logistics Cost vs. the US Logistics Cost: Further Growth Potential for China Logistics
 US$ bn                                                                 YoY change          US$ bn                                               YoY change
                                                                                %                                                                        %
 2.5                                                                                35      1.6                                                           30

                                                                                    30
 2.0                                                                                                                                                      20
                                                                                            1.2
                                                                                    25
 1.5                                                                                20                                                                    10
                                                                                            0.8
 1.0                                                                                15                                                                    0
                                                                                    10
 0.5                                                                                        0.4
                                                                                    5                                                                     -10

 0.0                                                                            0           0.0                                       -20
       1991         1996          2001          2006         2011e         2016e               1960 1967 1974 1981 1988 1995 2002 2009
                                                                                                   US logsitstics cost           US log cost yoy growth
          US logistics cost                   China log cost yoy growth
* Source: CASS, CEIC, IMF, Morgan Stanley Research. e = Morgan Stanley Research estimates


To analyze the early stage of logistics development for China                                Again using the Bloomberg consensus mean of 12-14% for
versus the US, we map the starting point for both countries at                               China’s annual nominal GDP growth during 1012-16, we
similar GDP of US$550-570 billion, which is 1994 for China                                   calculate China’s economy could grow to the current size of
and 1961 for the US. During this early phase of logistics                                    the US economy by 2016. Our logistics industry growth
development, China’s logistics industry grew at almost double                                estimate for China is driven primarily by consensus forecasts
the pace of the US, driven primarily by strong GDP growth.                                   for China’s nominal GDP growth, and we assume a
                                                                                             substantial freight rail productivity gain over the long term.




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                                                                     Exhibit 33
 Exhibit 32
MORGAN STANLEY BLUE PAPER                                            China vs. US and European Transportation Modes
 China’s Logistics Cost Composition, 2010 (%)
                                                                      China
  Waterway &
                                                        48.1          Waterways
    others                                                                                                                                         48.1
                                                                       & others

     Highways                                   31.6                    Highways                                                 31.6


                                                                            Railway                                 20.1
        Railway                          20.1

                                                                            Airlines         0.1
         Airlines       0.1

 Source: CEIC, Morgan Stanley Research
                                                                       US

 In terms of tons/km moved, trucking accounts for almost 32%
 of China’s transportation volume and railways 20% (Exhibit
                                                                            Railway                                                                 49.1
 32). In contrast, trucking accounts for almost 36% of the
 transportation volume in the US and railways for 49%. In                Trucks /
                                                                                                                                     35.5
 Europe, trucking accounts for almost 78% of the                        Highways
 transportation volume, while railways account for 16% and
 inland waterways 6% (Exhibit 33).                                    Waterways
                                                                                                              14.9
                                                                       & others
 While trucking’s market share of China’s logistics rose in 2008,
 the rail and trucking mix has been fairly stable for US logistics
 since 1980, and the improvement in the US logistics cost was               Airlines          0.4
 due to productivity gains in freight rail rates.
 As China’s economy matures and rail infrastructure improves,         Europe
 railways could become the ideal transportation mode as they
 provide an inexpensive way to transport large quantities of
 goods efficiently. This should help reduce China’s logistics          Highways                                                                  77.8
 cost significantly, as seen with logistics development in the
 US. In contrast, the European logistics market is fragmented
 and very competitive, with trucking dominating the                        Railway                                            49.1
 transportation mode within the European Union. We think
 China’s logistics development will be more like that of the US        Inland
 than that of Europe.                                                                           5.5
                                                                      waterways
 In China, the average haulage distance is about 177 km per
 trip for highways, compared with 759 km for railways in 2010               Airlines         0.4
 (Exhibit 34). Modernization of China’s economy and the build-
 up of road infrastructure have significantly increased the          Note: Reference year is the latest available years—2010 for China, 2007 for the US, and
 average highway haulage distance by more than three-fold,           2009 for Europe.
                                                                     Source: Bureau of Transportation Statistics, CEIC, Morgan Stanley Research
 (from 50 km per trip in 1994), while the average distance for
 railways has been relatively unchanged (from 774 km). We
 see significant long-term growth potential for freight
 transportation on China’s railways.




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Exhibit 34                                                                    Exhibit 36
China: Average Distance per Trip
Average transport distance of freight (km)
                                                                              Relative Cost of Rail and Trucking, 2011
 3,500                                                                         Rail cost per ton – km
 3,000                                                            Air                                                                            US$/ ton – km
                                                                               China                                                                       0.02
 2,500
                                                                               US                                                                          0.02
 2,000                                                                         Australia                                                                   0.03
 1,500
                                                                  Waterways    Europe                                                                      0.07

 1,000
                                                                  Railways
                                                                               Truck cost per ton – km
   500                                                                                                                                           US$/ ton – km
                                                                  Highways     China                                                                       0.07
      0
       1950       1960    1970      1980      1990    2000     2010            US                                                                          0.10
                                                                               Australia                                                                   0.07
Source: CEIC, Morgan Stanley Research
                                                                               Europe                                                                      0.12
As of 2010, inventory accounted for about 34% of logistics                    Source: Bureau of Transportation Statistics, Bureau of Infrastructure and Regional
                                                                              Economics, Eurostat, Ministry of Land, Infrastructure, Transport and Tourism Japan, Morgan
cost in China, but only 6% of GDP, compared with 14% of                       Stanley Research

GDP in the US (Exhibit 35). We attribute the sharp inventory
composition variance to the maturity of the US economy as a                   Adjusted for inflation, average US rail rates, based on
developed service-oriented base, in contrast with the                         revenue per ton-mile, fell 51% from 1981 through 2010. This
emergence of China from an agrarian economy to a                              suggests that the average rail customer can ship twice as
manufacturing powerhouse. As China’s economy and logistics                    much freight for about the same price it paid nearly 30 years
industry mature, we believe inventory levels will rise, requiring             ago (Exhibit 37). Improvement in freight rail affordability over
more demand for warehousing facilities.                                       the years is due to two factors, in our view. First, substantial
                                                                              rail productivity gains have passed through to shippers in the
Exhibit 35                                                                    form of lower rates, and second, a reasonable regulatory
Inventory/GDP Much Lower in China than in US                                  structure (the Staggers Rail Act of 1980) allows railways to
 Inventory as % of GDP                                                        compete fairly in the transportation marketplace while
              0              4                8           12            16    protecting shippers against unreasonable railway pricing.

                                                                              Exhibit 37
    1999
                                                                              2010 Average Inflation-adjusted US Freight Railroad
    2000                                                                      Rates Are Less than Half 1981 Rates
    2001                                                                       Revenue per ton mile
    2002                                                                       (US cents)

    2003                                                                        7

    2004                                                                        6

    2005                                                                        5
    2006                                                                        4                                                                             2010
    2007                                                                        3         Average US rail rates are
                                                                                          down 51% *
    2008                                                                        2
    2009                                                                        1
    2010                                                                        0
                              China                  US                             '81     '84     '87    '90     '93     '96     '99     '02     '05     '08

Source: CASS, CEIC, Morgan Stanley Research                                   *Class I revenue per ton-mile, average all commodities. Rates are down 51% since the
                                                                              Staggers Act restored reasonable balance to railroad regulation.
                                                                              Source: Association of American Railroads, Morgan Stanley Research




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Based on a study by the Association of American Railroads,                                Exhibit 40

the average US freight rail rates today are the lowest in the                             China Transportation Investment and Growth
world—lower than in Russia and China and less than half
                                                                                          by Month, 2010-11
those of most major European countries (Exhibit 38).                                       Rmb bn                                                                             (%)
                                                                                            400                                                                              40
Exhibit 38
US Freight Rail Rates Are Lowest in the World
                                                                                            300                                                                              20
   Index US = 100
            0                   100              200               300            400
                                                                                            200                                                                              0
             US
     Canada                                                                                 100                                                                              (20)
        Russia
         China                                                                                  0                                                                            (40)
         Spain                                                                                         Jan           Mar     May         Jul        Sep            Nov
   Germany
                                                                                                                     2010         2011               YoY growth (%)
        France
                                                                                          Source: CEIC, Ministry of Railways, Ministry of Transportation, Morgan Stanley Research
        Japan
         India                                                                            Exhibit 41
           Italy                                                                          China’s 12th Five-Year Plan: Transportation Capex
*Class I revenue per ton-mile, average all commodities                                     2006-2010 Total Capex                          2011 - 2015e Total Capex
Source: Association of American Railroads, Morgan Stanley Research


                                                                                            Highway                              52         Highway                                 57
Upgrading Transportation Infrastructure in China
Transportation infrastructure is a critical step in building a
                                                                                             Railway                    27                   Railway                    19
modern logistics system in China. In its 12th FYP for
infrastructure construction, the government set out detailed                                    Urban                                          Urban
                                                                                                                 9                                                 12
targets and plans in specific areas such as railways,                                           public                                         public
highways, airports, ports, and waterways (exhibits 39-42). We
expect transportation investment to reaccelerate in 2H12                                   Waterway              8                        Waterway             8

onward, despite a 5% dip in 2011 that stemmed from
government tightening, with growth of 6-8% per annum in                                             Air      4                                     Air     4
2012-13. So far, progress is on track, with an implementation
rate of 18% by 2011. By segment, the implementation rate for                              Source: CEIC, Ministry of Railways, Ministry of Transportation, Morgan Stanley Research

railways in 2011 was 20%, for highways 18%, for airports
17%, and for waterways and urban transport, 15% each.                                     Railways: Freight Potential
                                                                                          The shrinking market share of rail freight in China’s logistics
Exhibit 39                                                                                system highlights a significant lack of rail capacity. From the
2011 Capex Accounts for 18% of 12th Five-Year                                             perspective of capacity utilization, China’s railways are
Plan Budgeted Capex                                                                       probably the most burdened in the world. On average, there
                                                                                          are 40,029 tons of freight delivered on every kilometre of rail
                                                                     2011 - 2015e
                      2011       YoY change        2011 - 2015e           CAPEX           in China, versus 11,101 tons in the US and 13,835 tons in
Rmb tn              CAPEX               (%)         est. CAPEX                (%)         Russia (Exhibit 423).
Railway                 0.47               -34              2.32                 20
Highway                 1.27                 9              7.14                 18
Air                     0.08                -6               0.5                 17       Looking ahead, we expect rail traffic growth (especially
Urban public            0.23                -4              1.48                 15       freight) to accelerate thanks to a recent construction boom to
Waterway                0.15                27                 1                 15       expand capacity. Despite some hiccups in the areas of safety,
Total                    2.2                -5             12.44                 18       quality, and financing, we think the government will continue
Source: CEIC, Ministry of Railways, Ministry of Transportation, Morgan Stanley Research
estimates
                                                                                          to try to meet construction goals, because railways remain the




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best choice for China’s modern logistics development plan, in                                 In particular, we believe that HSR development will alleviate
our view.                                                                                     the pressure of moving passengers in China (see the 15 May
                                                                                              2011 Blue Paper, China High-Speed Rail: On the Economic
Exhibit 42                                                                                    Fast Track) and free existing old rail network tracks for
China’s 12th Five-Year Plan: Railways                                                         transporting a higher proportion of freight. The existing
                                                   11th 5-year plan       12th 5-year plan
                                                       (2006-2010)            (2011-2015)     national railway network is shared by cargo and passenger
CAPEX                                                  Rmb 2.3 trillion    Rmb 2.3 trillion   trains, leading to low operational efficiency. The growth of rail
New build length (km) - traditional railway                     7,642              21,538     cargo traffic hovered at a 7% CAGR over 2001-10, versus
New build length (km) - HSR                                     8,358               7,462     10%-14% for highway and air travel. Rail cargo’s market
Operating length at end of period (km)                         91,000             120,000     share also decreased, to 20% from 31%, over the same
Double tracking vs. total rail length                             44%                 50%     period (Exhibit 44).
Electrified tracking vs. total rail length                        46%                 60%
                                                                                              Exhibit 44
    000s km                                                                                   Volume Rising but Market Share Declining for
                                                                                              China’s Railway Freight
                                     22
                                                                                              mn ton km                                                                (%)
                                                                New build length -
                                      7                         traditional railway           4,000                                                                    35
        8
                                                                New build length -                                                                                     30
                                                                HSR
                                                                                              3,000
                                                                                                                                                                       25
                                     91                         Existing length
        75                                                                                                                                                             20
                                                                                              2,000
                                                                                                                                                                       15

                                                                                                                                                                       10
                                                                                              1,000

              2006-10                        2011-15                                                                                                                   5

Source: Ministry of Railways, Morgan Stanley Research                                              0                                                                   0
                                                                                                       2001          2003             2005         2007         2009
       China has made great strides in the development of HSR                                                      Rail cargo volume        Market share (%)
        in recent years. As of the end of 2010, the network was                               Source: CEIC, Morgan Stanley Research
        already the world’s longest at 8,358 km, of which 5,149
        km were put into service in 2010.                                                     We believe comprehensive development of the rail network
                                                                                              for transporting freight, particularly containers, could propel
       By the end of 2015, it targets a total length of 45,000 km
                                                                                              China into an emerging power in logistics development, as
        for the “fast rail track” (with top speeds from 200 km/hr to
                                                                                              happened earlier the US.
        300 km/hr), covering almost all cities with a population of
        0.5 million or more.
                                                                                              Highways: Trucking Potential
Exhibit 43                                                                                    Underpinned by strong intrinsic demand and facilitated by
China Has Very High Freight Volume/km of Railway                                              aggressive highway construction in recent years, China’s
Railway Freight Utilization, 2010                                                             highway freight volumes have been growing rapidly, at a
                                                                                              23.8% CAGR over 2001-10, with market share increasing
 Volume (000s)
 45                                                                                           over the period from 13.3% to 30.6% of China’s overall
                                                                                              transportation system.

 30                                                                                           However, unlike in the US, where expressways are mostly
                                                                                              free or at minimal cost, China sets tolls on highways,
                                                                                              constituting a major component of trucking costs (~26%).
 15                                                                                           Therefore, we believe the trend of toll rate cuts in China
                                                                                              should benefit trucking firms (exhibits 45-47).
    0
             China           India            Russia            US            Japan
Source: CEIC, Morgan Stanley Research




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Exhibit 45                                                                               Exhibit 46
China’s 12th Five-Year Plan: Highways                                                    China Has Scope to Boost Highway Freight
                                                11th 5-year plan     12th 5-year plan    Utilization
                                                    (2006-2010)          (2011-2015)
CAPEX                                             Rmb 4.4 trillion    Rmb 7.1 trillion
                                                                                         Highway Freight Utilization, 2010
New-build length (km) - expressways                       33,095                25,900       Volume 000s
New-build length (km) - other highways                   605,905             855,900            16

Operating length at end of period (km)                 4,008,200           4,890,000
                                                                                                 12
    000s km
                                 856                                                               8
        606                      26                           New-build length -
         33                                                   other highways                       4

                                                              New-build length -
                                                              expressways                          0
     3,369                   4,008
                                                                                                                China                    Vietnam                   Taiwan
                                                              Existing length
                                                                                                                       Freight volume (000 tons per km)
                                                                                         Source: CEIC, Morgan Stanley Research


                                                                                         Exhibit 47
              2006-10                    2011-15                                         Freight Dilution to Traditional Railways
Source: Ministry of Communications, Morgan Stanley Research                                mil. tons of                                                           Negative impact
                                                                                           freight carried                                                              freight on
                                                                                                                                                                        highways (%)
Ministry of Commerce “7918 Net” Concept and                                                100,000                                                                                     4
                                                                                                              Diluted Freight Carried on Highways
Rural Road Plans                                                                                              Adjusted Capacity of Traditional Railway
                                                                                                              Negative Impact on Highways
The government’s national network of expressways and rural                                  75,000                                                                                     3
roads contains the following elements:
     Seven expressways connecting Beijing, nine north-south                                50,000                                                                                     2

      trunk expressways, and 18 east-west arteries, collectively
      termed “7918.”                                                                        25,000                                                                                     1

     A planned length of 85,000 km.
                                                                                                   0                                                                                   0
     An annual average cost of Rmb160 billion (or US$22                                               2007       2009      2011e      2013e      2015e       2017e      2019e
      billion) until 2010; about 38% to be funded by the central                         Note: Diluted freight is the estimated freight that will be carried on highways after taking into
      government, 50% by commercial loans, 12% by                                        account the potential dilution to traditional railways. This is a result of the HSR taking away
                                                                                         passengers from traditional railways and thus freeing up their capacity, allowing more freight
      local/private funds.                                                               to be carried on them. Adjusted capacity of railways is the new estimated capacity taking into
                                                                                         account this dilution.
     1.6 million km of roads built or reconstructed in the                              e = Morgan Stanley Research estimates
                                                                                         Source: CEIC, Morgan Stanley Research estimates
      countryside in 2007-10, with total length reaching 3.1
      million km.                                                                        As railway capacity ramps up to resolve the key bottleneck
We see a smaller chance for any significant reacceleration in                            issues, we see a risk of railways taking some freight market
new investment, given difficulties in funding from local                                 share from highways, given railways’ competitive cost.
governments.
                                                                                         Airfreight Potential
                                                                                         Based on China’s 12th FYP, it will spend Rmb0.5 trillion on
                                                                                         building 45 new airports and adding 1,900 aircraft. The capex
                                                                                         for the period is 67% higher than for the previous period of
                                                                                         2006-10 (Exhibit 48).

                                                                                         Specifically, China plans to develop five large portals and
                                                                                         regional hubs. The current focus of the big three Chinese
                                                                                         airlines—Air China, China Eastern, and China Southern—is




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on passenger growth, while airfreight development has only                                   The focus for airfreight development is on the eastern coastal
recently been emphasized with the new JVs in freighter                                       regions in Beijing, Shanghai, Guangzhou, and Shenzhen,
operation.                                                                                   primarily for the export sector. The coastal regions account for
                                                                                             about 70% of China’s airfreight market.
Exhibit 48
China’s 12th Five-Year Plan: Civil Aviation                                                  Ports and Waterways
                                                     11th 5-year plan     12th 5-year plan   In the new FYP period of 2011-15, China will increase its
                                                         (2006-2010)          (2011-2015)
CAPEX                                                 Rmb 0.3 trillion    Rmb 0.5 trillion
                                                                                             investment in waterway construction to Rmb1 trillion to
New build airports                                                  33                  45   increase the nation’s river transport capacity. The central
Number of airports at end of period                               175                220
Number of new aircraft                                        1,214               1,900      government will fund Rmb50 billion, while the rest will be
Number of aircraft at end of period                           2,600               4,500      raised by local governments or through social financing
    Number of airports                                                                       channels.

                                                                                             This is consistent with the trend of plant relocation to the
                                      45                                                     inland riverside cities of Chongqing and Wuhan, for example.
        33                                                    New-build airports             Despite much lower speed and less flexibility, waterways
                                                                                             provide probably the cheapest transportation mode in China.
                                                                                             Improving infrastructure conditions should help expand
      142                         175                                                        capacity and integrate waterways seamlessly into the overall
                                                              Existing number of
                                                              airports                       logistics system to lower the cost.

                                                                                             After the overhaul, the average weight carried by cargo ships
                                                                                             traveling on China's waterways will be raised by almost 800
             2006-10                       2011-15
                                                                                             tons, a nearly 80% increase from the end of 2010.
Source: Civil Aviation Administration of China, Morgan Stanley Research

                                                                                             We expect a 14% CAGR for fixed-asset investment in
North airport cluster: Beijing Capital Airport is the main                                   waterways in 2012-13 (Exhibit 49-50). Local governments in
international hub airport; a second airport constructed in                                   China are the major investors that prioritize waterways
Beijing and regional hub airports in Tianjin, Shenyang, and                                  investment to reduce logistics cost.
Dalian will be the key focus, with Harbin Airport as a feeder
airport.                                                                                     Exhibit 49
                                                                                             China Waterways Investment: CAGR of 14% in
     East airport cluster: Shanghai Pudong Airport is the                                   2012-15e
      main international hub airport; regional hub airports in                                    Rmb bn                                                               (%)
      Shanghai Hongqiao, Xiamen, Hangzhou, and Nanjing will                                      300                                                                    30
      be the focus, while Xiamen will have a second airport.
                                                                                                 250                                                                    25
     Central airport cluster: Guangzhou Baiyun Airport is the
                                                                                                 200                                                                    20
      main international hub airport; the regional hub airports in
      Shenzhen, Wuhan, Zhengzhou, Changsha, and Haikou                                           150                                                                    15
      will be improved.
                                                                                                 100                                                                    10
     Southwest airport cluster: Kunming Airport is the main
      international hub airport; the regional hub airports in                                      50                                                                   5
      Chengdu and Chongqing and the airports in Guiyan and                                          0                                                                   0
      Lhasa will be improved.                                                                           2006a        2008a        2010a          2012e      2014e
     Northwest airport cluster: Urumqi Airport will serve as                                                      Coastal        Inland river        YoY growth (%)
                                                                                             e = Morgan Stanley Research estimates
      the main portal in northwest China, while Xian Airport will                            Source: Ministry of Communications, Morgan Stanley Research estimates
      be a regional hub airport.




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Exhibit 50                                                                                  Warehousing and Storage
China’s 12th Five Year Plan: Waterways
                                                                                            This market had revenues of around Rmb302 billion (US$46.5
                                                    11th 5-year plan    12th 5-year plan
                                                        (2006-2010)         (2011-2015)     billion) and asset size of around Rmb569.5 billion (US$87.6
                                                                                            billion) in 2009, with total cargo throughput at 85.6 million tons.
CAPEX                                                Rmb 0.7 trillion    Rmb 1.0 trillion

New-build berths (>10k ton)                                     627                 971     According to a survey by China Materials Storage &
Number of berths at end of period (>10k ton)                  1,661               2,632     Transportation Association (CMSTA) of its 165 members in
Average weight carried by cargo ships (tons)                     444                 800    China, aggregate warehouse capacity was 20.5 million gross
                                                                                            floor area (GFA), but only ~20% could effectively meet the
 Number of berths
                                                                                            demand of modern logistics. Thus, under the NDRC’s
                                                                                            “Agricultural Cold-Chain Logistics Development and
                                                                   New-build                Planning,” the capacity for cold and frozen warehousing
                                 1,661                             berths                   facilities would increase by 66% to 25 million tons over
                                                                                            2011-15.
                                                                   Number of
  627                                                              berths at end
                                                                   of period
                                 2,632
  1,661


            2006-10                            2011-15
Source: Ministry of Communications, Morgan Stanley Research




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AlphaWise Evidence
                                                                      Exhibit 52
Morgan Stanley AlphaWise conducted a survey of companies
operating in China in August / September 2011, to understand
                                                                      China Logistics Companies Outsourcing
                                                                      Base: All companies (%)
current logistics practices and future plans, as a part of this
report. Two hundred companies (N=200) took part in the                                                                              88
                                                                                                        81
survey, of which 33% were foreign companies operating in
China and 67% were Chinese companies, both state- and                        58
privately controlled. Of the companies interviewed, 45% had
                                                                                        42
annual turnover above Rmb5 billion and the rest had annual
turnover of Rmb0.5-5 billion.                                                                                       19
                                                                                                                                          12
1. What is the penetration rate for 3PL among the
group?
                                                                             Domestic                   Domestic                    Domestic
Of this survey group, 26% of firms do not outsource any                      operations                + exports,                  + exports,
                                                                                (77)               revenue < Rmb5 bn           revenue > Rmb5 bn
logistics operations (Exhibit 51). Among firms with operations                                            (63)                        (60)
mainly in China, 42% do not outsource logistics at all (Exhibit
                                                                                              Outsourcing                No outsourcing
52). Firms with larger revenue size tend to outsource more of
their logistics operations. Firms with a foreign background           Source: AlphaWise, Morgan Stanley Research

tend to outsource more logistics operations than purely
domestic firms.                                                       2. What are the main operations being outsourced?

Exhibit 51
                                                                      Outsourcing activities still focus mainly on transportation, and
Outsourcing Of Logistics Operations in China                          less on warehousing / freight forwarding and inventory
 Extent of outsourcing                                                management (Exhibit 53). This could imply less integration
                                                                      and less value-added from current services.

                                                              18%     Exhibit 53
      26%                   29%        21%            29%
                                                                      Logistics Operations Contracted Out
                                                                       Companies outsourcing (149)
      75%                              79%                    82%      (%)
                            71%                       71%

                                                                       Transportation                                                          91

     All                 Revenue Revenue            Chinese Foreign
  companies               up to   above             company company
                                                                       Warehousing /
    (200)                Rmb5 bn Rmb5 bn              (134)   (66)                                                             54
                          (110)    (90)                                 Forwarding

                 Outsourcing                 No outsourcing
                                                                          Inventory
Source: AlphaWise, Morgan Stanley Research
                                                                         mgmt./ Pick-                              32
                                                                            pack
                                                                      Source: AlphaWise, Morgan Stanley Research


                                                                      3. Key challenges for developing a modern logistics
                                                                      industry in China
                                                                      Lack of infrastructure hampers the development of an efficient
                                                                      logistics industry for transporting from coastal cities to the
                                                                      domestic hinterland (Exhibit 54). Bottlenecks in transportation
                                                                      across China are key problems faced by manufacturing
                                                                      companies in China (Exhibit 55).




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Exhibit 54                                                      Exhibit 56
Problems Faced While Transporting Inland/West                   Factors Affecting Selection
China                                                           Importance of factors for selection - All companies (200)

    Base (%) - All companies (200)                                                Reliable / dependable                                  96%

                  No                                                            Responsive to requests                                  93%

             bottlenecks                              47                         Superior service levels                                93%
                faced                                                                 Low damage rate                                   92%

                 Any                                                                 Reputable provider                                 92%
             mentions of                             46                               Speed of delivery                             90%
             bottlenecks                                                                                      1
                                                                               Strong local connections                             88%

                                                                             Offers all required services                          84%
             Don't know
                                     8
             / Can't say                                                                       Low cost                           79%

                                                                 Able to handle customs & inspection                              79%
Source: AlphaWise, Morgan Stanley Research
                                                                              Offers value-add services                           79%

Exhibit 55                                                                       Varied delivery options                     68%
Problems/Bottlenecks Faced                                                       Extensive global reach                     62%

 Base (%) - Those experiencing bottlenecks (94)                 Source: AlphaWise, Morgan Stanley Research


   Road                                                         5. Identifying potential winners in the competitive
  capacity                                          35          logistics landscape in China
 constraints
                                                                Preference for domestic providers is higher than for foreign
  Railway                                                       providers; understanding local market operations is a key
  capacity                                     27
                                                                requirement.
 constraints
                                                                COSCO ranks high among domestic players; DHL ranks high
                                                                among foreign players.
   High cost                             14

                                                                What Gives Us Confidence

      Others                                  24                High confidence level: We conducted 200 phone interviews
                                                                across a broad-section of industrial companies in China with
Source: AlphaWise, Morgan Stanley Research                      annual sales of at least Rmb500 million, with a mix of 30%
                                                                international and 70% domestic companies. The survey
4. Customers’ focus on services                                 findings have a low margin of error of +/- 6% at the 90%
Customers prioritize “hassle-free” and efficient handling of    confidence level.
logistics operations from vendors over costs and value-added
services. Having strong local connections will be a key         High quality of responses: We focus on the long-term
advantage (Exhibit 56). Foreign providers have an edge in the   development and outlook for logistics and less on short-term
export markets, with priority given to “handling customs and    volatile trends in the industry.
inspections” and “having global reach.”

                                                                Morgan Stanley AlphaWiseSM
                                                                Research for this report was conducted with
                                                                Morgan Stanley’s AlphaWise, which provides
                                                                proprietary evidence-based investment research.




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MORGAN STANLEY BLUE PAPER




The China Files
Market Overviews




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E-Commerce: A Beneficiary of Improving Logistics Efficiency
                                                                          Exhibit 57
Philip Wan
                                                                          Dangdang: Operating Expenses Breakdown
Richard Ji

                                                                            Fulfillment                                                 59
Industry consolidation in China’s delivery services should benefit e-
commerce players in China over the medium- to long-term by
offering outsourcing opportunities at lower cost with better delivery       Marketing                         19
expertise.
 Chinese e-commerce leaders are enjoying robust market expansion         Technology                  11
  yet continue to suffer from weak margins because of intense
  competition, lack of scale, and increasing investment in customer
                                                                            General &
  acquisition and fulfillment capacity.                                                               11
                                                                             admin
 Fulfillment expenses are the largest cost category for e-commerce       Source: Company data (2011), Morgan Stanley Research
  players, contributing 50-60% of operating expenses. Although
  improving scale can lead to operating leverage, logistics efficiency    Investing in fulfillment capacity. To support product
  may be further enhanced by transportation infrastructure upgrades and   category expansion and better delivery capability, Chinese e-
  industry consolidation.                                                 commerce companies have been stepping up in fulfillment
                                                                          capacity upgrades. For example, since its IPO in 2010,
                                                                          Dangdang has been aggressively expanding its product
E-commerce: A sweet spot for China’s online market… E-
                                                                          categories from books and media to general merchandise,
commerce, albeit still at an early stage, has emerged as one
                                                                          including baby and maternity care, beauty and personal care,
of the fastest-growing sectors in China, driven by surging
                                                                          home and lifestyle products, apparel and accessories,
domestic consumption, rising Internet penetration, and
                                                                          electronics, and food and beverage. Yet, such category
increasing adoption of online shopping. We estimate that
                                                                          expansion requires different fulfillment and logistics expertise.
China’s market for online commerce (including B2C and
                                                                          Notably, Dangdang has made significant investments over the
C2C), will expand at 40%+ annually to more than Rmb1.5
                                                                          past two years:
billion in 2013, twice as fast as the growth rate for most other
online services, including online travel, online advertising, and
                                                                           The company has nearly doubled the number of logistics
online games (15-25% per annum).
                                                                              centers from 10 in early 2011 to 19 to date, strategically
                                                                              located in 10 cities. Moreover, during 3Q11, Dangdang
…yet profitability remains uncertain in the near term.                        signed an agreement to purchase a piece of land in Tianjin
Most B2C e-commerce companies are still suffering from low                    and build its largest fulfillment center in China.
margins primarily because of intense competition, lack of
scale, and increasing investment in customer acquisition as                Dangdang debuted its “Lightning Plan” in April 2011 to
well as fulfillment services (Exhibit 57). Notably, fulfillment               shorten delivery time. The company offers same-day
expenses, which mainly consist of warehousing and shipping                    delivery in 20 cities and next-day delivery in more than 120
costs, are the largest cost item for e-commerce players and                   cities in China (Exhibit 58). In addition, its cash-on-delivery
typically account for 50-60% of operating expenses (e.g., 59%                 network covers more than 980 cities, and Dangdang has
for Dangdang and Vipshop and ~49% for Amazon, based on                        now equipped its cash-on-delivery network with mobile
2011 reported data). As a result of intensifying competition, e-              payment terminals, allowing customers to pay by credit
commerce companies have been over-servicing customers by                      card in 130 cities.
offering attractive delivery (i.e., same-day delivery) and refund
policy (unconditional product returns). In addition, to boost
customer acquisition, e-commerce players also subsidize
customers by offering free delivery services.




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Exhibit 58                                                                   15% in 2000 to 9% in 2004 for Amazon, the leading e-
Dangdang: Investing in Delivery Services                                     commerce company globally (Exhibit 60). Such improvement
Number of cities with same-day delivery                                      was largely driven by improving scale and hence operating
  25                                                                         leverage, as its total revenues jumped 150% while fulfillment
                                                                             expenses grew 43% during the same period. Similarly,
  20                                                                         Dangdang’s fulfillment cost as a percentage of sales declined
                                                                             from ~19% in 2007 to 13% in 2011, yet it is still 400-500bps
  15                                                                         below Amazon’s level. In our view, such a gap may be further
                                                                             narrowed by improving logistics efficiency, for instance, via
                                                                             transportation infrastructure upgrades and industry
  10
                                                                             consolidation.

   5                                                                         Exhibit 60
                                                                             Amazon: Enjoys Scale and Logistics Efficiency
   0                                                                          Fulfillment cost as % of sales
             Apr-11            Jun-11             Sep-11       Dec-11        20
Source: Company data, Morgan Stanley Research
                                                                             15
Managing logistics costs: a key to profitability. To
alleviate the increasing logistics cost pressure, many e-                    10
commerce leaders (including Dangdang and Amazon) have
                                                                               5
recently scaled back their delivery discounts to customers
(Exhibit 59). Since February 2012, instead of offering free
                                                                               0
shipping for all order sizes, Amazon started to bill a Rmb5                        2000 / 2007 2001 / 2008 2002 / 2009 2003 / 2010 2004 / 2011
shipping fee for orders below Rmb39 and Rmb29,
                                                                                                         Amazon              Dangdang
respectively. For Dangdang, its delivery policy for the top 200
                                                                             Source: Company data, Morgan Stanley Research
cities remains unchanged (free for order size above Rmb29),
but the company has raised minimum order size to Rmb99 for
                                                                             Improving logistics efficiency via outsourcing? The
other cities in more remote locations.
                                                                             logistics market in China is much more fragmented than that
Exhibit 59                                                                   in the US, with more than 25,000 registered companies,
Chinese B2Cs: Scaling Back Delivery Discount                                 according to the China Logistics Association. To control
                                     Minimum order size for free delivery:   delivery service quality, some leading e-commerce players,
(Rmb)                                     Before                     Now     such as VANCL, chose to develop their own delivery
Dangdang (top 200 cities)                       29                      29
                                                                             capability. In addition, owning the last-mile delivery allows
                                                                             firms to have direct customer connection, which may be
Dangdang (other cities)                         29                      99
                                                                             critical for collecting customer feedback, facilitating product
Amazon                                          n/a                     29   exchange / refund, as well as cash collection. Industry
Source: Company data, Morgan Stanley Research                                consolidation in China’s delivery services is inevitable, in our
                                                                             view, and should benefit e-commerce players in China over
Room for improvement via better scale and efficiency.                        the medium- to long-term, as it will likely open up outsourcing
Fulfillment expenses as a percentage of sales dropped from                   opportunities at lower cost with better delivery expertise.




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Consumer: Modern Logistics a Boon to Sub-Sectors
Angela Moh                                                                            Overview
Robert Lin
                                                                                      Diversified consumer demand, intensifying competition, and
Lillian Lou
                                                                                      deepening penetration into less developed regions have
                                                                                      made logistics an increasing important strategic factor for
We believe the consumer sector should continue to benefit from                        consumer companies to win out and sustain growth. From a
modern logistics development in China:                                                business model standpoint, more efficient logistics could help
 Lower working capital needs. This is the immediate benefit to many                  companies opt for more of a pull system versus a push
  companies in the value chain, primarily through lower inventory                     system and thus reduce the need for higher inventory on
  requirement made possible by faster and more reliable supply chain.                 hand, if replenishment can be done quickly and effectively.
                                                                                      This is important for fashion retailers, given the time sensitivity
 Capex savings. Development of 3PL could lower consumer                              of the products. Wider and deeper coverage of 3PL logistics
  companies’ dependence on in-house logistics.                                        will also facilitate the expansion for retailers into lower-tier
 Better margins. More sophisticated logistics could facilitate the                   cities. We think the quality improvement of logistics service
  distribution of higher-margin products (e.g., cold-chain). The more                 will also enhance the consistency of the user experience,
  efficient use of 3PL could result in lower operating expenses such as               especially for e-commerce players. In the next section, we
  transportation costs, handling fees, etc. In addition to cost savings, a            discuss the specific benefits from logistics development by
  key potential benefit is higher realized gross margin for companies                 sub-sectors (Exhibit 61).
  such as apparel companies: A more efficient supply chain could
  enable apparel companies to shorten product delivery lead-time and                  Implication by Sub-Sector
  reduce fashion misses, for example.                                                 Consumer staples
 Food retailers/big box discretionary retailers could be the key                     Food retailers: With a lack of scale 3PL providers, many food
  sub-sector beneficiaries at current stage. We find that lower                       retailers are currently investing more heavily in their own
  inventory days result in a higher upside to enterprise value for the                warehousing (distribution centers, or DC), while transportation
  food retailers. Capex savings are also most relevant to food retailers              is normally conducted by either the food retailers or third-party
  and big box discretionary retailers because of fast expansion in the                truck fleets. We expect this 1PL model to continue for several
  distribution network and penetration into lower-tier regions where                  years, especially for the national food retail chains, as this
  undoing logistics bottlenecks is crucial.                                           would be crucial to support their expansion at this early stage
                                                                                      of development in the food retailing industry in China.
                                                                                      However, faster development of 3PL could accelerate the
                                                                                      pace of expansion for modern retail chains and create more
                                                                                      competition for existing leading operators, as more organized
                                                                                      logistic providers would help smaller and local operators to
                                                                                      reach beyond their home bases.
Exhibit 61
Key Benefits from Modern Logistics Development by Sub-sectors
                                                                              Financial impact                            Business impact
                                                                  Lower                                                                     Consistent
                                                                working cap        Capex          Better      From "push"                      user
                                                                  needs           savings        margins        to "pull" Broader reach     experience

                     Food retailers                                                                             
Consumer
staples
                     Upstream processors                                                                                      
                     Downstream manufacturers/brands                                                            
                     Specialty retailers                                                                       
Consumer
discretionaries
                     Brand owners                                                                                
                     Big Box retailers                                                                                                   
Other                Supply chain managers                                                                                    
Source: Morgan Stanley Research




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Exhibit 62                                                                   size. For example, current sizable DC ranges from 10,000
Food Retailers Would Benefit from Improving                                  square metres to 50,000 square metres, which could incur
Inventory Days in Term of Equity Value Accretion                             a capex about tens of million to hundreds of million RMB (a
 Percentage of DCF value accretion by reducing                               big variance depending on location, size, land lease terms,
 inventory turnover by one day in the next 10 years                          government subsidies, etc). Usage of 3PL could lower the
         Sun Art                                                    9.3      upfront capital needs and thus speed up the pace of store
                                                                             expansion.
              CRE                                             6.8
  China Foods                                                 6.7          Lowering costs through more efficient use of truck fleet
     China Agri                                               6.6            and less handling staff needed. Sun Art management
 Uni-President                                          5.3                  indicated that its four DCs could help boost gross profit
                                                                             margin by more than 1% (with GM at about 20% level) at
             Yurun                                4.4
                                                                             full utilization. Organized 3PL could provide optimized
        Mengniu                                   4.2                        solution in arranging transportation routes among stores
    Pou Sheng                                     4.2                        (especially for supermarkets and convenience stores that
      Yue Yuen                                  4.0                          are smaller in size but normally scattered throughout a
                Yili                         3.7                             region).

             Tingyi                         3.3
                                                                           More standardized store layout when merchandise is
        Tsingtao                      2.4                                    better organized and delivered in a timely fashion. This
          Li Ning                   1.9                                      could enhance customer service and thus draw in more
        BaWang                  1.5                                          traffic.
    Want Want                  1.3
                                                                          Upstream processors. Inventory and transportation
             ANTA              1.2                                        management are key in determining the profitability of
             Belle            1.0                                         upstream agriculture processors. The scale effect of
         Daphne               0.9                                         agricultural product processing in China has been somewhat
                                                                          hindered because of logistic support lags.
     Wuliangye           0.3
     Dongxiang           0.3
                                                                           Industry consolidation could be accelerated when long-
       Changyu          0.2                                                  distance transportation and warehousing are available and
        Fenwine         0.2                                                  affordable for the shipment of goods from production areas
         Laojiao        0.1                                                  to markets, given the current fragmented and localized
Source: Company data, Morgan Stanley Research
                                                                             nature in upstream processing industries.


For food retailers in particular, development of logistics                 More flexible inventory management. Given the commodity
infrastructure would help improve operation efficiency                       nature of agriculture processing business, well-developed
through:                                                                     third-party warehousing could provide flexibility in
                                                                             managing inventory to deal with price fluctuations.
 Reduction of inventory days (Exhibit 62). This is a
    straightforward and immediate outcome from the set-up of               Transportation cost savings from more convenient
    organized warehousing and transportation system, which                   warehousing. As an example, according to China Agri,
    is already evidenced by food retailers’ self-operated DC                 having warehouses close to railway/ports could save
    systems. Wumart, as an example, has reduced its                          transportation cost by Rmb10-20/ton (versus the average
    merchandise inventory days of its Beijing stores from nine               oilseed operating crushing margin at about Rmb200/ton,
    days to two days through its Beijing DC.                                 for example).


 Capex savings. At its current stage, most of the food
    retailers focus on self-built distribution centers. Investment
    in distribution centers varies depending on location and




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Downstream manufacturers and brand owners. Efficient               Exhibit 63

3PL means much faster delivery time and cost savings for           Chinese Consumer Companies Should Gain from
food manufacturers.                                                More Efficient Logistics
                                                                    Difference in inventory turnover days: China vs US
 Savings of transportation costs and reduction of additional       comps
                                                                                 CRE                                                                   60
   capex needs to build satellite factories (thus better
   economies of scale). Currently, most of the savings in                       Sun Art                                                           44
   transportation costs for food manufacturers comes from                   China Agri                                                        38
   shorter transportation distance from factories to markets by                       Yili                                                   33
   adding factories. With more 3PL available, food processors               Want Want                                                   21
   could instead have fewer, but larger, factories that could             China Foods                                                19
   offer better economies of scale.
                                                                    Tsingtao Brewery                                               12

 Greater accessibility. Delivery times for products to                         Mengniu                                        3

   consumers could be significantly shortened. This could                           UPC                           (11)
   help enhance consumers’ experience because products                      Shuanghui                      (29)
   would be fresher.                                                              Yurun                   (32)
                                                                                BaWang                   (33)
 Cold chain for perishable goods. Cold-chain logistics is still                  Tingyi               (38)
   underdeveloped in China, especially for perishable
                                                                       Changyu Wine                    (38)
   products such as dairy and chilled meat products, where
                                                                            Wuliangye          (57)
   the production areas are at a distance from the
                                                                      Luzhou Laojiao         (62)
   consumption markets.
                                                                   Note: US peer comparisons are as follows. China Agri’s US peer is ADM; Sun Art and CRE
                                                                   peers are Whole Foods Market, Kroger, Safeway, Supervalue (also Boston Beer and Craft
Food retailers benefit more immediately from better                Brew for CRE); Mengnui and Yili peer is Dean Foods; Tingyi, Want Want, UPC, and China
3PL                                                                Foods peers are Hershey, Conagra Foods, Ralcorp, Snyders-Lance, Tootsie Roll Inc., and
                                                                   Post Holdings (also Constellation and Coca Cola Bottling for China Foods); Tsingtao peer is
                                                                   Boston Beer and Craft Brew; Yurun and Shuanghui peers are Smithfield, Pilgrim’s Pride, and
Among the merits of improved logistics, the reduction of           Sanderson Farms; Changyu, Wuliangye and Luzhou Laojiao peers are Constellation and
                                                                   Beam.
working capital needs from shortening inventory days could         Source: Company data, Morgan Stanley Research
be the more immediate and significant benefit. Our sensitivity
analysis of the impact on working capital with inventory day       Consumer Discretionary
savings from more efficient logistics shows that Sun Art and
                                                                   Specialty retailers. We see benefits for vertically integrated
CRE could see more significant benefits from the free cash
                                                                   or semi-vertically integrated specialty retailers to come mostly
flow saved (in terms of percentage change of their DCF value,
                                                                   from inventory days optimization:
assuming all else equal). This is a result of relatively higher
reliance on working capital management in the daily operation
                                                                    Faster replenishment or shorter lead-time. This leads to
for food retailers and agri processors.
                                                                       lower mark-down risk, stock-out risk, and seasonal risk.
                                                                       The ability to increase replenishment orders will improve
Compared with the peers whose main businesses are in the               their competitive advantage.
US, there is a lot of room for Chinese food retailers and
agriculture companies to lower inventory days with the              Inter-city product exchange. This can also lead to better
improvement in 3PL, given the bigger gap (Exhibit 63).                 inventory management through a more flexible supply
                                                                       chain.

                                                                   Brand owners. Brand owners will share the same benefits as
                                                                   specialty retailers in terms of inventory optimization. In the
                                                                   longer run, better logistics can also improve sourcing and e-
                                                                   commerce for brand owners:

                                                                    Diversified sourcing. Given the lower price points of some
                                                                       brands, they will likely need to diversify sourcing outside of
                                                                       China and/or into inland China. Facing increased



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   competition from larger international rivals, an improved           renminbi continue to erode the competitiveness of Chinese
   and more sophisticated logistics infrastructure will be even        manufacturers, a more efficient and responsive logistics
   more critical to sustaining margins and returns.                    service could add to China’s strength. It could also
                                                                       facilitate easier access to cheaper sourcing locations in the
 E-commerce development. The Internet will quickly                    western hinterland of China, where labor cost is more than
   become an alternative sales channel for some of the lower           20% lower than in the coastal areas. This could attract
   price-point apparel brands. Branded companies eventually            more outsourcing deals to China from US/Europe retailers
   need to adopt a more distinct e-commerce strategy by                through a China expert such as Li & Fung.
   themselves instead of letting distributors sell products
   online at discounted prices, diluting their traditional retail    Better access to local consumers. China is a growing end-
   partners’ and their own brand image. Improved logistics             consumer market for Li & Fung’s distribution business. The
   eliminate the need for too much investment in the back-             logistics development could help Li & Fung bring more
   end, so that brands can concentrate on the front-end.               foreign brands into China. Financially, as transportation
                                                                       and storage of goods become more efficient and reliable,
Big box retailers (department stores/ electronic retailers).           distributors can run on lower inventory levels and shorter
Concession-based business models would only be indirect                cash cycles, resulting in higher cash flow from operations.
beneficiaries if the suppliers could optimize their product mix        We estimate that every one-day reduction in Li & Fung’s
to provide things that consumers want. We feel two specific            distribution inventory level could lead to a 2% accretion to
benefits to the big box retailers include:                             its DCF value.

 Self-owned e-commerce platform. As retailers develop               Better margins for the logistics business. Li & Fung is also
   their own online platforms (COO8.com for Gome and                   developing its own logistics business. The business is only
   Yigou for Suning), outsourcing the logistics function to the        a small part of its overall business (2.2% of sales in 2011)
   right 3PL provider will be a critical element in their              and running on low margins (2.9% operating margin in
   success.                                                            2011). We currently assume operating margin to expand
                                                                       gradually to 4.5% in the longer run. However, if
 Direct sourcing. An increasing number of department                  consolidation in the logistics sector accelerates and
   stores are developing their own merchandising capability.           margins for Li & Fung’s logistics could catch up with its US
   Some choose to increase the mix of private label sales.             peers to about 10% by 2020, we see 3% upside to our
   Some plan to add a premium supermarket format to                    DCF estimate for Li & Fung.
   become a one-stop shop. Again, better and more
   professional logistics could serve their needs better than        More competition. A more efficient 3PL market in China
   having to build it in-house.                                        could make direct sourcing easier, thus reducing the
                                                                       dependence for intermediaries. Traditional sourcing agents
Other consumer companies                                               that only arbitrage on cost differences will face more
                                                                       disintermediation risks. Li & Fung is a leader in developing
Supply chain managers (particularly Li & Fung). Modern                 higher value-added service to adapt to the changes in
logistics development in China could also affect supply chain          supply chain requirement. Its global sourcing network also
managers of consumer goods such as Li & Fung (0494.HK,                 provides a unique competitive advantage to meet
April 20 closing price HK$17.00) in several ways:                      diversified sourcing needs.

 Increased competitiveness of China as a sourcing
   destination. China accounts for 58% of Li & Fung’s total
   sourcing. Although rising labor cost and an appreciating




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The Logistics Journey Is Just Beginning




Technology Providers: The Digitalization of China Cities
Grace Chen                                                                    As China’s economy continues to grow, with rising
Jasmine Lu                                                                        complexities within and between cities, it is essential to
                                                                                  have integrated systems/solutions to manage these
                                                                                  complexities and improve citizens’ welfare and the
Why will the digitalization of China cities benefit technology providers?
                                                                                  efficiency of governments.
The big wave of upgrading and modernization of logistics facilities (e.g.,
warehouses and cargo stations) suggests good opportunities for IT and
equipment suppliers.
                                                                              Improving logistic efficiency is an enabler for
                                                                                  manufacturers in China to relocate their mega sites from
 A detailed FYP complied by MIIT and NDRC to develop China’s IOT                 coastal areas to the inland regions, especially in
  system supports this view.                                                      Chongqing, where logistics is one of key bottlenecks.
                                                                                  While manufacturers move inland to make use of the
 IT distributors can leverage improved logistics efficiency to capture
                                                                                  cheap and scalable labor supply, modernizing logistic
  the opportunities from cloud computing, mobile internet, and IOT.
                                                                                  facilities and upgrades to airport infrastructures could help
  We estimate the IOT market at about Rmb200 billion (US$30
                                                                                  maximize cost synergy from relocation.
  billion).

 EMS/ODM companies and other NB ODMs will derive a side-benefit              The key winning strategy includes 1) domain expertise
  from improving logistics support, even though it will be small.                 about China’s domestic market; 2) long-term relationships
                                                                                  with global IT hardware and software providers; 3) strong
                                                                                  relationships with and access to local city governments;
IT Distributors and EMS/ODM Benefit                                               and 4) an ability to manage sales force/ after-sales service
                                                                                  nationally in China.
We believe IT distributors (to both consumer and corporate
customers) and electronics manufacturing services (EMS)/                     Exhibit 64
original design manufacturers (ODM) will benefit from this                   Expanded China IT Spending to Benefit Technology
trend.                                                                       Providers
                                                                              US$mn              Forecast of China IT spending in 2008 - 2015e
 IT distributors can leverage improved logistics efficiency to               250
    capture the opportunities from cloud computing, mobile
    internet, and IOT.                                                        200

                                                                              150
 This is a side benefit for EMS/ODM companies such as
    Foxconn group (Hon Hai) and other NB ODMs who could                       100
    speed up their migration from coastal areas to inland with                 50
    the aid of improving logistics support, even though we
    recognize that logistics costs make up only a small part of                  0
    their overall cost structure.                                                     2008       2009      2010   2011e   2012e   2013e   2014e   2015e
                                                                                                       Services    Software    Hardware
                                                                             Source: International Data Corp,
Long-term Outlook and Winning Strategy
We believe the digitalization of China cities is a long-term
trend, and several key factors will contribute to the success of
the technology providers.

 China’s IT spending is expected to grow at a CAGR of
    12% in 2011-15, according to International Data Corp.
    (Exhibit 64). This spending presents significant potential
    for IT technology providers positioned to ride this growth.




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Digital China: Smart City Strategy to Drive                           Digital China’s long-term goal is to become IT solution
Long-Term Growth                                                        provider for Smart City and it aims to capture the
                                                                        opportunities from cloud computing, mobile Internet, and
Digital China is our top pick among technology providers to             IOT.
ride the wave of digitalization of China cities. Digital China has
been developing its Smart City strategy to tap into this market.      Through its distribution business, Digital China has
                                                                        established good relationship with the world’s leading IT
 Smart City strategy is a long-term positive to Digital China,         hardware and software suppliers. It is also cultivating its
    eve though its contribution will be limited in the near term.       own software capabilities.

 Digital China’s development of the Smart City strategy and          Digital China’s strategy is to offer certain IT
    its investment in developing IT solutions will help the             solution/service (e.g., citizen cards) for a local government
    company to ride the wave of digitalization of China cities.         and later increases the service items/projects after having
                                                                        a proven record of accomplishment.
 Digital China is facing competition from both global and
    local IT companies, but we believe Digital China’s strong        Competition
    local relationship, experience, and expertise will help the
                                                                     Competition comes mainly from IT hardware and software
    company to excel against the competition.
                                                                     providers, global and local. Digital China is facing
                                                                     competition from global and local IT companies, given the
 Profit potential is still minor in the near term, but this could
                                                                     great business potential of digitalization of China.
    be a multi-year earnings driver once the business models
    are set.
                                                                      As digitalization in China is a long-term trend, many
                                                                        international IT hardware providers such as IBM are active
Exposure Today
                                                                        in promoting their solutions/service.
A long-term theme despite limited contribution near-term.
Digital China is the no. 1 player in China’s IT distribution          In addition, there are many local Chinese companies
industry, with strong exposure to traditional IT distribution           offering solutions for the digitalization of cities.
business (for both consumer and corporate customers), even
though contribution from its Smart City strategy remains              However, we believe Digital China’s strong relationship
small.                                                                  with and access to local governments, coupled with local
                                                                        domain expertise, will help the company to stand out
 Digital China is the No. 1 IT distributor, with ~27% market           among the competition.
    share, followed by Synnex, and is now moving to become
    an integrated IT service/solution provider.                      Profit Potential
                                                                     Near term, profit potential is still minor, but it should be a
 Digital China’s IT service/solution sales will make up only        multi-year growth drive in the long-term. As topline
    10% of its F2012 sales, we estimate, and the company
                                                                     contribution is still minimal from the Smart City strategy, we
    generates 90% of revenue from traditional IT distribution
                                                                     do not expect meaningful profit contribution in the near-term.
    business.
                                                                     However, this strategy will become a long-term earnings
                                                                     driver, given the better margins than traditional IT distribution
 Although still at an early stage, Digital China has                business.
    successfully helped several city governments issue citizen
    cards, an entry point for Smart City strategy. It also has
                                                                      Profit contributions from the Smart City strategy are still
    the capability to provide taxation solutions and regional
                                                                        minor, as Digital China is working on single projects for
    healthcare information platform for governments.
                                                                        city governments instead of providing total
                                                                        service/solutions. However, we believe the Smart City
Strategy                                                                strategy represents a good growth driver once Digital
Smart City strategy to ride on digitalization in China.                 China sets up the business models.
Digital China has been developing its Smart City strategy by
leveraging its solid IT hardware and IT solutions/service.




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Equipment Manufacturing: Handling the Logistics in China
Kate, Zhu CFA                                                                       Beneficiary of a rapidly evolving logistics network
                                                                                    We expect a 17% CAGR in the market 2012-15, to a 600,000
The rapidly expanding logistics network in China will bring about many              unit or Rmb63 billion market, accounting for 7% of the
new logistics terminals and renovate the business model to improve                  machinery market in 2015, versus 5% in 2011 (Exhibit 65).
logistical efficiency; both will demand more material-handling equipment.
This will benefit the Chinese manufacturers of forklifts, the main                  While mechanization for efficiency and cost reasons will
equipment for handling material.                                                    continue to drive demand, an expanding and evolving logistics
                                                                                    network will sustain forklift growth in various ways and help
 Anhui Heli has been enjoying the robust growth of the Chinese
                                                                                    generate 7% growth through 2015, we estimate (Exhibit 66).
  forklift market from 2006-11. The company is ahead of local
  competition in terms of technology and holds a reasonable share of                 A quickly developing network will contain about nine
  the local market.                                                                      logistics regions and 20 hub cities, creating additional
 However, the low entry barrier to the industry has kept profitability as               demand for new warehouse forklifts, especially in inland
  a main challenge, and we believe it will take time for Heli to                         China.
  consolidate the market further through more product/brand
  differentiation.                                                                   The thriving 3PL business model will promote a more
                                                                                         consolidated customer base showing a strong preference
                                                                                         for equipment over labor and higher purchasing power.
Forklifts are in the sweet spot of rapid and steady growth.
China’s forklift industry grew at a 26% CAGR from 2006-11, in
                                                                                     A modernized network will also upgrade forklift demand—
line with the 25% CAGR for the machinery sector, benefiting
                                                                                         i.e., exposure to industries such as pharmaceuticals and
from long-term mechanization and a recent surge in labor                                 chemicals will trigger high-end demand for electric forklifts
costs. As of 2011, China is the world’s largest forklift industry,                       for safety and environmental reasons.
with a 26% global market share.
                                                                                    Exhibit 66
Domestic players dominate the market, with more than                                We Estimate a Modernizing Logistics Network Will
72% market share and 50% taken by the top two players.                              Bring 7% Growth through 2015
However, industry entry barriers are low and average                                Growth CAGR breakdown by drivers
profitability is therefore also low. Further, the technology gap
is wide: The local product mix is inferior to global markets, as
                                                                                                                                  1%
electric forklifts accounts for 17% of the market versus 40% in
developed markets.                                                                                               2%

Exhibit 65                                                                                                                                  7%
Forklift Market Growth is Stable
China forklifts annual sales volume (2004-15e)                                              4%
   K units
   700                                               71%

   600                                                                                 Additional 3PL purchase                  Product    Total
                                                                17% CAGR               warehouse                                upgrade
   500
                                  43%
                           41%                                                      Source: Morgan Stanley Research estimates
   400                                                       32%

   300               15%
                                         10%                    18%                 We believe that to seize the opportunity companies need a
   200
                                                                                    strong brand name, superior technology, a sizable scale to
   100                                                                              fend off new competitors and penetrate new regions with
                                            -18%
      0                                                                             existing clients and/or win new customers, and rapid updates
             2004 2005 2006 2007 2008 2009 2010 2011 2012e                  2015e   to product portfolios to capture changes in demand.
                                   Sales   YoY
e=Morgan Stanley Research estimates
Source: China Construction Machinery Association; Morgan Stanley Research




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Heli is a leading domestic player but still faces enough          20% market share after a series of M&As; this will keep
challenges in the near term. Anhui Heli is the no.1 forklift      competition at the low end very tough. Meanwhile,
maker in China, with steady (25-30%) market share over the        international competitors like Toyota and Linde are well-
past 10 years. It was the 10th largest forklift company in the    established in the high-end product segment and have plans
world in 2010. Its forklift business accounts for more than 70%   to bring in more local production to lower costs. Not only have
of its revenue and 85% of its operating profit, though the        players like Liugong and Lonking made meaningful impact
company is gradually diversifying to loaders. Profitability is    (more than 10,000 unit sales) in the market in recent years,
lower, with operating profit margin around 15% and net profit     some non-machinery players such as Chevy are also entering
under 5% in the past three years, as the industry’s relatively    the space.
low investment barrier kept margins low. The company’s
product is advantageous to local peers, as indicated by its       We think opportunity lies more in the long term
greater exposure to electric forklifts (22%) and export ratio
                                                                  The company’s earnings are still relatively small, mostly
(24%).
                                                                  because of lower profitability. But, these small earnings only
                                                                  add to the company’s potential, as demand for electric forklifts
Heli has been consolidating the market and hopes to lead
                                                                  increases and as Heli’s heavy-tonnage products and more
by further differentiation. Heli intends to focus on mid- to
                                                                  distinct product positioning command higher prices and better
high-end forklifts to avoid homogeneous competition with local
                                                                  margins as compared with peers.
players. It wants to leverage its size to consolidate upstream
with component making and set itself up as an integrated
                                                                  We think Heli is best positioned among domestic forklift
logistics solution provider. It intends to take leadership at
                                                                  makers, as it is already leading in domestic product research
home and abroad, starting with an assembly factory in
                                                                  and is most experienced in international competition.
overseas markets to facilitate market penetration.

Heli faces fierce competition from both low-cost local
names and global technology leaders. The second-largest
player is Hangzhou Forklift, which commanded more than




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Pharmaceuticals: Logistics Efficiency to Hasten Industry
Consolidation
Bin Li                                                                                 billion and 40 distributors with annual sales above Rmb2
Christopher Lui                                                                        billion.
Yolanda Hu
                                                                                       … but, when compared with other industries,
To offset continued gross profit margin decline and maintain                           modernization of logistics services and warehouse
profitability, as well as to meet strict requirements for logistics                    operations has a long way to go.
services and regulations (such as new good supply practice                             The warehouse logistics of drug distributors still lag far behind
standards), China pharmaceutical distributors will need to improve                     that of other distribution businesses, including food and
their logistics efficiency, which should lead to industry                              beverage, computer hardware, and books. We expect drug
consolidation over the long run.                                                       distributors to build more warehouses with advanced logistics.
                                                                                       We also believe drug distributors will be more involved in the
     Chinese distributors are enjoying solid market growth thanks to an               coordination of manufacturers and hospitals to minimize
      aging population and significant unmet medical demand, but they                  inventory at both ends. Eventually, we expect the surviving
      continue to face margin pressure because of price cuts on drugs                  and thriving distributors in China to operate a business model
      and medical devices and rising competition.
                                                                                       very close to that of distributors in the developed world.
     The overall gross margin of the distribution industry in China is                Distributors will deliver not only drugs but also logistics
      higher than that in developed countries, but the net margin is similar           services, such as inventory management, data/reporting, new
      because of much higher SG&A expenses. With the improvement in                    outsourcing services, charge-back administration services,
      economies of scale and logistics efficiency, the distribution industry           and pharmacy automation services, which should lower costs
      should see more operating leverage.                                              and improve efficiency.


Industry consolidation among pharmaceutical                                            Encouragingly, the net margin of the industry has improved
distributors is slow but inevitable… China’s pharmaceutical                            gradually in recent years, despite gross margin decline,
distribution business is highly fragmented, with approximately                         thanks mainly to improved logistics efficiencies (Exhibit 68).
10,000 distributors and the top three distributors accounting
                                                                                       Exhibit 68
for a combined market share of less than 25% (Exhibit 67).                             Net margin of China’s pharmaceutical distributors
                                                                                       has improved despite lower gross margins
Exhibit 67
Market shares of top three distributors by country
                                                                                          10.3%
and approximate number of distributors in 2008
                                                                                           9.8%
    90%
                                                                                                                                                       7.1%

                        73%                                                                   Gross Margin
                                                                                                                                                      6.5%
                                  68%                                                         SG&A as % of Sales
              64%
                                                                  58%                         Net Margin

                                             47%
                                                       43%
                                                                                                                                                        1.2%
                                                                                           0.6%


                                                                                             2002       2003       2004       2005     2006   2007   2008
                                                                            19%
                                                                                       Source: Company data, Morgan Stanley Research


                                                                                       New GSP to eliminate small players
    US       Europe      UK      France Germany        Italy     Japan     China       The government has published a 12th FYP for the
Source: China Association of Pharmaceutical Commerce (CAPC), Morgan Stanley Research   pharmaceutical distribution industry to encourage industry
                                                                                       consolidation. One step is to issue the new good supply
It is the government’s stated intention to foster the emergence                        practice (GSP) as part of quality assurance to ensure that
of five to 10 distributors with total annual sales above Rmb5                          drug products subject to GSP are in compliance with




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prescribed quality control standards for safe and effective        Sinopharm is in the process of upgrading some existing
drug use by the public. Requirements are set in terms of           facilities to serve as integrated Tier II facilities. They are the
hardware and software standards, such as specified storage         largest distribution centers of provinces such as Zhejiang,
conditions for warehouse, information management policy,           Jiangsu, Hubei, Hunan, Shanxi, Shaanxi, Henan, Sichuan,
and personnel distribution chain. Small players that fail to       Guangdong, Liaoning, Jilin, Heilongjiang, Inner Mongolia, and
comply with the new GSP will no longer be allowed to provide       Guangxi.
distribution services to drug and device companies.
                                                                   In addition to serving customers directly, they coordinate
Sinopharm: A clear leader in a fragmented market                   activities of Tier III distributors. The company plans to
Sinopharm has unparalleled advantages in logistics services        establish smaller Tier III facilities in selected cities across
over smaller competitors (Exhibit 69-70). They are: 1) value-      China to extend end-user reach.
added logistic services; 2) integrated IT system to support
logistic management; 3) three-tiered distribution system to        Exhibit 69

improve logistic efficiency; and 4) an unmatched national          Sinopharm: Drug Distribution Flow Chart
network.                                                                Procured products have to pass quality inspection & monitoring


Valued-added logistic services                                         Purchase from
                                                                      domestic supplier
                                                                                                                            Purchase from
                                                                                                                           foreign supplier
Sinopharm’s economies of scale permit it to offer free logistics
services to its suppliers and customers, which is a key
competitive advantage, in our opinion. In addition to                                                                     Client monitoring
                                                                      Quality inspection
                                                                                                                             and quality
pharmaceutical distribution, Sinopharm offers advanced
logistics services, such as supply chain consulting, inventory
tracking, and other related services, to its suppliers and                                                                 Free trade zone
                                                                                                                            warehousing
customers. Sinopharm operates four advanced logistics
centers, while most competitors have only one or even none.
By offering such value-added services unavailable from small                                                             Customs clearance
distributors with fewer resources, Sinopharm enables its
customers and suppliers to streamline and increase the
efficiency of their business by receiving all their relevant
services in a package from one vendor, further strengthening                  Products are stored in GSP-complied warehouses:
its relationship with them.                                         To ensure the quality is not compromised during the distribution process


Three-tiered distribution system to improve logistic
efficiency                                                                                          Warehousing
The regional and local logistics facilities in Sinopharm’s
distribution centers are responsible primarily for the
coordination and provision of integrated regional logistics                                    Take customer orders

services. The distribution centers consist of a multifunctional
office area, information system, supporting logistics,
warehouse facilities, and receiving and shipping docks.                                           Arrange delivery



To provide better services and to become more cost efficient,          Highly efficient distribution process to ensure the smooth delivery
Sinopharm intends to centralize all logistics operations in a
three-tier logistics system under the control of a logistics
                                                                                                  Other distributors
subsidiary. The company has established five integrated Tier I              Hospitals                                      Retail pharmacy
                                                                                                       market
                                                                      (via tender pricing)                               (via market pricing)
                                                                                                 (via market pricing)
logistics hubs, in Beijing, Tianjin, Shanghai, Guangzhou, and
                                                                   Source: Company data, Morgan Stanley Research
Shenyang. These hubs directly serve customers while acting
as coordination and planning centers for other logistics           Integrated IT system to support logistic management
facilities.                                                        Sinopharm is integrating its IT system with hospitals so that it
                                                                   can track inventory to help hospitals maintain appropriate




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product levels. It can provide logistics services to ensure                       provides distribution, inventory management, data/reporting,
prompt delivery of medicines to customers at reduced costs.                       new-product launch support and contracts, and charge-back
Its supply chain services ensure quality and timely                               administration services, as well as operating a pharmaceutical
distribution. These valuable services enhance Sinopharm’s                         repackaging and distribution program. These companies
relationships with customers and strengthen the company’s                         make the majority of their profit from services provided rather
role as a leading supply chain services provider.                                 than products distributed.

Unmatched national network coverage                                               Major obstacles to overcome for distribution industry
Sinopharm is one of a few national distributors and operates                      The distribution industry is facing various challenges that it is
25 distribution centers in 30 provinces. No other distributor                     at risk of falling behind in its ability to support the robust
has this broad geographic coverage. We believe the only                           growth of the healthcare industry.
other truly national distributor is Jointown, but it operates in a
completely different market space. While Sinopharm targets                           Weakness in logistics support. Many distributors lack
urban hospitals, Jointown does best with retail pharmacies                            logistics management knowledge and talents. They
and rural markets. All other distributors have limited                                cannot fulfill the increasing need for logistics support
geographic coverage.                                                                  demanded by suppliers and customers. In addition to
                                                                                      drug distribution, Sinopharm offers supplier solutions and
Exhibit 70
                                                                                      advanced logistic services to its customers and suppliers,
Sinopharm: Operating Cost Analysis
                                                                                      including bonded logistics, cold-chain warehousing and
RMB (mn)                          2006a   2007a   2008a   2009a   2010a   2011a
                                                                                      storage, supply chain consulting, inventory tracking,
Total SG&A                        1,578   1,827   1,978   2,914   3,704   5,150
%
                                                                                      distribution center management, and technical support
Employee benefit expenses          35.7    35.7    45.1    44.2    44.6    43.9       and sales assistance to suppliers and customers.
Operating leases in respect of
                                    6.1     6.5     6.5     5.8     5.3     5.4
leasehold land and buildings
Depreciation of property, plant                                                      Low profitability due to low logistic efficiency. Drug
                                    5.3     5.1     6.0     5.8     5.8     6.0
and equipment                                                                         distribution is fundamentally a low-margin business with
Transportation expenses             7.3     6.8     6.8     9.7     7.6     8.3
                                                                                      thin profits driven by high volume. With numerous small
Travel expenses                     3.6     4.0     4.3     2.9     3.2     3.2
Promotion and advertising
                                                                                      distributors lacking scale and competing only on price,
                                   12.1    12.7    10.8     9.4    13.2    14.1
expenses                                                                              most players lack any kind of bargaining power with
Utilities                           1.2     1.1     1.2     1.1     1.0     1.1
                                                                                      suppliers or customers and therefore have low margins.
Others                             28.7    28.1    19.3    21.1    19.3    17.9
                                                                                      Low profitability prevents the necessary investment to
Total SG&A (%)                     100     100      100     100     100     100
Source: Company data, Morgan Stanley Research
                                                                                      upgrade technology and strengthen logistics support.

However, we think Sinopharm still has a long way to go to                            Resistance to industry consolidation. The industry
become a primarily service-oriented distributor operating with                        needs to consolidate to create a few players with scale
the type of business model offered currently by major global                          and geographic coverage, which can afford to develop
distributors, such as Cardinal Health and McKesson in the                             modern logistics supports. However, local protection of
US. For example, the healthcare supply chain services                                 small distributors and the need to bundle drug distribution
segment of Cardinal Health distributes various branded,                               with drug manufacturing to show local industry strength
private-label medical and laboratory, generic pharmaceutical,                         have slowed consolidation.
healthcare, and consumer products to retail customers,
hospitals, and alternative care providers. In addition, it




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MORGAN STANLEY BLUE PAPER




The China Files
Appendices




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Appendix 1: Logistics Basics
Logistics definition. Logistics is the coordination of the flow    Fifth-party logistics (5PL) refers to an information service
of goods between a supplier and a receiver on behalf of            provider that facilitates logistics operations for 1PL, 2PL, 3PL,
customers or corporations. Unlike the traditional concept of       and 4PL. While it does not involve any physical logistics
transportation, we believe logistics is a more integrated,         operations, it provides technical support such as EDI
complex multi-step process with the following attributes:          (electronic data interchange), ITS (intelligence transportation
                                                                   system), GIS (geographic information system), GPS (global
   The integration of information, transportation, inventory,     positioning system), barcode, and RFID (radio frequency
    warehousing, material handling, packaging, and often           identification).
    security

   A channel of the supply chain, which adds the value of         Competitive Advantages Through Value Creation
    time and place utility                                         As a main function within a company, logistics management
                                                                   helps the business to gain competitive advantages over
Logistics ≠ Transportation                                         competitors through high performance (customer satisfaction)
With the aim of optimizing overall costs, the globalization of     with low cost. With a certain service level set, it aims to
manufacturing and sourcing activities has stimulated the           minimize delivery time, inventory level, and shipping costs,
development of modern logistics from the conventional              while maximizing capacity utilization.
concept of transportation. Based on the development level
                                                                   In the increasingly complex environment of globalization,
and specific customer needs, we can organize logistics
                                                                   logistics has become vital to multinational manufacturers and
players into five groups:
                                                                   service providers, enabling them to achieve their goals
First-party logistics (1PL) refers to the in-house logistics       through value creation and thereby remain winners going
process of material procurement, warehousing, product              forward.
distribution, and delivery to end-customers performed solely
                                                                   The logistics process thus requires successful integration of
by manufacturers themselves.
                                                                   various resources to extend traditional single-step
Second-party logistics (2PL) refers to the logistics process       transportation services (trucking, shipping, airlines, etc.) into
performed by distributors or wholesalers, from the pickup of       more complete, more complex “door-to-door” services.
goods from factories to the delivery to end-customers. Some
                                                                   Furthermore, the process may require expertise in certain
auto dealers may fall into this category.
                                                                   areas to meet specific customer needs. Specialized services
Third-party logistics (3PL) involves using external entities to    such as “cold-chain logistics,” “chemical logistics,” and
execute logistics processes. It includes any form of               “engineering logistics” are examples.
outsourcing of logistics activities previously performed in-
house. Traditional transportation (trucking, airlines, shipping)   Supply chain management (SCM) Simply put, SCM is the
companies and freight forwarders fall into this category.          management of supply and demand among businesses for
                                                                   products and services. SCM may entail the transportation
Fourth-party logistics (4PL), according to Andersen                and storage of raw materials, partially finished inventory,
Consulting (Now Accenture), refers to an integrator that           and/or finished goods from the point of origin to the point of
assembles the resources, capabilities, and technology of its       consumption.
own organization and other organizations to design, build, and
run comprehensive supply chain solutions. Whereas a 3PL            The APICS Dictionary defines SCM as the "design, planning,
service provider targets a function, a 4PL targets                 execution, control, and monitoring of supply chain activities
management of the entire process. Usually, a 4PL provider          with the objective of creating net value, building a competitive
serves as a general contractor that manages other 3PLs,            infrastructure, leveraging worldwide logistics, synchronizing
truckers, forwarders, custom house agents, and others,             supply with demand and measuring performance globally."
essentially taking responsibility of the complete process for
the customer.




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Appendix 2: China’s 12th Five-Year Plan and Logistics Development
Focus on Consumption and Urbanization of Central                               To promote agricultural products, bulk mineral products,
and Western China                                                               key industrial areas, and other fields important to the
                                                                                development of logistics.
China’s government has given high priority to the
development of the modern logistics industry in China.                         To optimize the development of regional distribution
Specifically, the blueprint outlined in Part IV; Chapter 15,                    systems and support the orderly development of logistics
Section 2 of the 12th Five-Year Plan has set the foundation for                 parks and other cluster areas of logistics.
the logistics sector. Key objectives are:
                                                                               To promote the development of modern logistics
    To accelerate the establishment of a social, professional,                 management and improve the sophistication and
     information-based modern logistics system, aggressively                    standardization of logistics.
     develop third-party logistics, prioritize the integration and
     use of existing logistics resources, support the
     construction and linking-up of the logistics infrastructure,
     improve logistics efficiency, and reduce logistics costs.

Exhibit 71
State Council’s Plans for Development of a Modern Logistics Network in China
China's 9                        Tier 1 national    Tier 2 regional
logistics regions                logistics cities   logistics cities   Regional demographic highlight
Northeast                        Shenyang           Changchun          GDP:Rmb4,506bn
                                 Dalian             Harbin             Population:110mn

Northern                         Beijing            Baotou             GDP: Rmb7,678bn
                                 Tianjin            Hohhot             Population: 165mn
                                                    Shijiazhuang
                                                    Tangshan
                                                    Taiyuan

Shangdong Peninsula              Qingdao                               GDP: Rmb4,542bn
                                 Jinan                                 Population: 96mn

YRD                              Shanghai           Hefei              GDP: Rmb11,491bn
                                 Nanjing            Hangzhou           Population: 216mn
                                 Ningbo

Southeast Coast                  Xiamen             Fuzhou             GDP: Rmb2,899bn
                                                    Nanchang           Population: 82mn

PRD                              Guangzhou          Haikou             GDP: Rmb5,519bn
                                 Shenzhen                              Population: 151mn

Central                          Wuhan              Changsha           GDP: Rmb6,646bn
                                 Zhengzhou                             Population: 217mn

Southwest                        Chongqing          Guiyang            GDP: Rmb5,781bn
                                 Chengdu            Kunming            Population: 202mn
                                 Nanning            Lhasa

Northwest                        Xi'an              Xining             GDP: Rmb2,756bn
                                 Lanzhou            Yinchuan           Population: 97mn
                                 Urmuqi
Source: NDRC, CEIC, Morgan Stanley Research




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Appendix 3: China’s Railway Map




Source: Ministry of Railways




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Appendix 4: China’s Highway Network
              1




Source: Ministry of Communications



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Appendix 5: China’s Airport Network

                                                                                         Harbin: Regional hub f or
                                                                                         China Southern, 2010 C argo &
      Urum qi: Regional hub f or                                                         Mail: 71,270 ton; 1% of grand
      China Southern, 2010 C argo &
                                                                                         total China
      Mail: 95,120 ton; 1% of grand
      total China
                                                                 Xi’an: Regional hub f or
                                                                 China Eastern, 2010 Cargo & Mail:
                                                                 158,050 ton; 1% of grand total China                                              BEIJING: Base hub f or A ir
                                                                                                                                                   China, 2010 Cargo & Mail:
                                                                                                                                                   1,551,470 ton; 14% of grand
                                                                                                                                                   total China




                                                                                                                                                    SHANGHAI: Base hub f or
                                                                                                                                                    China Eastern (including SH
                                                                                                                                                    A irlines), 2010 Cargo & Mail:
                                                                                                                                                    3,708,520 ton; 33% of grand total
                                                                                                                                                    China



                                                                                                                                                     GUANGZHOU: Base hub f or
                                                                                                                                                     China Southern, 2010 Cargo &
                                                                                                                                                     Mail: 1,144,460 ton; 10% of grand
                                                                                                                                                     total China

         Kunm ing: Regional hub f or
         C hina Eastern, 2010 Cargo &
         Mail: 273,650 ton; 2% of grand
         total C hina                                                                                                    Shenzhen: Regional hub f or both Air
                                                                                                                         China (including SZ Airlines) and China
                                                                                                                         Southern, 2010 Cargo & Mail: 809,130
                                                      Chongqing : R egional hub Chengdu : Regional hub                   ton; 7% of grand total China
                                                      f or Air China and China       f or Air China, 2010 Cargo &
                                                      Southern, 2010 Cargo & Mail: Mail: 432,150 ton; 4% of
                                                      195,690 ton; 2% of grand total grand total China
                                                      China

Source: CEIC, Company data, Morgan Stanley Research


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Appendix 6: Leading Global Logistics Providers’ Regional Hub in China




Source: Company data, Morgan Stanley Research

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Appendix 7: Recent M&A in China Logistics
Acquirer                 Acquiree                          Description                                                                     Deal time   Deal value
TNT                      Huayu Logistics Co. Ltd.          TNT acquired Huayu Logistics, a privately owned logistics provider with 1,200    3/1/2007          NA
                                                           network subsidiaries in China.
YRC Worldwide            Jiayu Logistics Co. Ltd.          YRC Worldwide acquired 65% share of Shanghai Jiayu Logistics with                8/1/2007    US$83.7mn
                                                           US$44.7mn and planned to purchase the remaining 35% share of Jiayu with
                                                           US$39mn by 2010.
Menlo Worldwide          Chic Logistics Ltd., Co. & Chic   Menlo Worldwide acquired Shanghai Chic Logistics and Chic Supply Chain           9/1/2007     US$60mn
                         Supply Chain Management Co.       Management.
DHL-Sinotrans            Uni Top Express                   DHL-Sinotrans acquired Uni Top Express in May 2010 under the new brand          5/30/2010     US$44mn
                                                           name of Sinotrans-Uni Top Express.
China Merchants         China Merchants Cold Chain         China Merchants Americold Logistics(51% CMHI and 49% Americold Realty            7/1/2010    HK$700mn
Americold Logistics Co. Co. Ltd. and KX Logistics Co.      Trust) acquired 70% of China Merchants Cold Chain and 100% of KX
                        Ltd.                               Logistics.
Taobao                   Best Logistics                    Taobao and Foxconn jointly invested in Best Logistics in Hangzhou, with          7/1/2010    Rmb200mn
                                                           US$30mn. Best Logistics would acquire 70% of HTKY Express. Taobao also
                                                           invested Rmb30mn in Star Express. HNA Group acquired TTK Express with
                                                           Rmb80mn.
Sinotrans Ltd.           Sinotrans Changjiang Co. Ltd.     Sinotrans Ltd. acquired the remaining 49% of Sinotrans Changjiang from           9/1/2010   Rmb16.97mn
                                                           CCNSC(Group) with Rmb16.97mn to own 100% of Sinotrans Changjiang and
                                                           with the intention of integrating the container and bulk shipping business in
                                                           Yangtze River.
Amazon                   Zappos and Diapers.com            Two companies that Amazon acquired—Zappos and Diapers.com—were Kiva             11/1/2010          NA
                                                           users. Through these acquisitions, Amazon now owns four Kiva-powered
                                                           warehouses.
Rizhao Port Co. Ltd.     Rizhao Lanshan Wansheng           Rizhao Port Co. Ltd. acquired 24% stock of Rizhao Lanshan Wansheng Port         12/7/2010   US$24.92mn
                         Port Service Co. Ltd.             Service Co. Ltd.
ZhongFu Industrial       Furen Warehouse & Fuyin           ZhongFu Industrial acquired 55% of Furen Warehouse and 55% of Fuyin              1/1/2011    Rmb147mn
                         Logistics                         Logistics.
Hainan Rubber Group      Yunnan Luhang Logistics           Hainan Rubber Group acquired 80% share of Yunnan Luhang Logistics               1/27/2011    US$5.79mn
                         Service                           Service for Rmb38mn via its 90% controlled subsidiary, Hainan Agricultural
                                                           Reclamation Logistics.
Amoi Electronics         Xiangyu Logistics Co. Ltd.        Amoi issued stocks to acquire Xiangyu Logistics from Xiangyu Group and          6/30/2011    US$569mn
                                                           changed the company name from Amoi Electronics to Xiangyu Co. Ltd. in
                                                           order to keep the original ticker 600057.SS in SSE.
Tangshan Port Group      Jingtang Port Shougang Berth      Privately placed 127.9mn common shares to raise Rmb860mn. Rmb550mn to            9/6/2011   US$73.23mn
 Co. Ltd.                Co. Ltd.                          buy 60% of Jingtang Port Shougang Berth Co. Ltd.; the remaining Rmb310mn
                                                           to provide capex invest in the construction of Shougang Berth.
GLP                      Zhejiang Transfer Logistics       GLP acquired 60% in Zhejiang Transfer Logistics.                                11/1/2011          NA
GLP and CIC              LaSalle Investment                GLP and CIC to set up 50/50 JV to acquire 15 logistics facilities located in    12/1/2011     US$1.6bn
                         Management                        Japan from LaSalle Investment Management with JPY122.6bn.
FedEx                    DTW Logistics                     FedEx acquired another 50% of DTW-FedEx Logistics from DTW Logistics to          1/1/2012    US$400mn
                                                           control 100% of DTW-FedEx and all of the fast-forwarding business-related
                                                           assets with US$400mn.
GLP                      Chiwan Base and Airport City      GLP indirectly acquired 20% of Chiwan Base (2300053.SZ) and 53% of Airport      2/20/2012          NA
                         Development                       City Development.
Zhuhai Port Group        Shuhai Qinfa Coal Berth           Zhuhai Port Group acquired 40% of Shuhai Qinfa Coal Berth from Hebei Port        2/1/2012          NA
                                                           Group.
Bao Steel                SGIS Songshan(000707.SZ)          With a 51% ownership transfer by State Assets Management, Bao Steel              2/1/2012          NA
                                                           received 51% of Shanggang Group for free, to indirectly control 36.27% share
                                                           from Shaogang Songshan.
Source: Company data




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Appendix 8: Milestones of Global Players’ China Expansions
Year                  FedEx                                UPS                                  DHL                                   TNT

1984    Entered mainland China market.

1986                                                                              Entered the mainland China market
                                                                                  by creating a 50% JV with
                                                                                  Sinotrans, called Sinotrans-DHL.

1988                                         Entered mainland China through                                           Entered the mainland China market
                                             Sinotrans' network of 63 cities in                                       by forming International Express JV
                                             China.                                                                   with Sinotrans.

1993                                         Began international parcel and
                                             package delivery business in
                                             China.

1994                                         Opened operation offices in
                                             Beijing, Guangzhou, and
                                             Shanghai, China; UPS, Sinotrans,
                                             and China Customs signed
                                             agreement to apply EDI
                                             (electronic data interchange)
                                             system for importing package.

1995                                         UPS signed MOU with Sinotrans
                                             (Group) and Sinotrans (Group)
                                             Shanghai to create JV in Beijing,
                                             Guangzhou, and Shanghai.

1996                                         Founded 50%-owned JV with
                                             Sinotrans Air Transportation
                                             Development, named Sinotrans
                                             Air-UPS Express.

1999    Founded 50% JV with Tianjin DTW                                                                               TNT signed a strategic alliance with
        Logistics, named FedEx-DTW.                                                                                   China State Post to develop the
                                                                                                                      Chinese domestic market for express
                                                                                                                      documents, parcels and freight.

2001    Received approval from US                                                                                     Established the largest automotive
        Department of Transportation to                                                                               logistics JV with Shanghai
        operate 10 pairs of cargo flights                                                                             Automotive Industry Corporation,
        between US and China.                                                                                         providing state-of-the-art logistics
                                                                                                                      technology, solutions design and
                                                                                                                      implementation.

2002                                                                                                                  TNT launches new express direct air
                                                                                                                      freight flights from China to Europe
                                                                                                                      under code-share agreement with
                                                                                                                      China Southern Airlines.

2003    Direct freight route from Shenzhen                                        Sinotrans-DHL announced a five-     TPG (parent of TNT) signed MoU
        to Anchorage, Alaska, to provide                                          year plan to promote the network    with China Post signed to deepen
        next-day delivery services from                                           and facilities with a capex of      cooperation in areas of Express,
        Southern China to North America.                                          US$200mn.                           Logistics and Mail.
                                                                                  By the end of 2003, Sinotrans-DHL   TNT expands China-Europe direct
                                                                                  had taken 37% market share of       flights to 5 times per week.
                                                                                  international express in China,     TNT-Sinotrans JV agreement
                                                                                  covering 318 Chinese cities.        expired. Both companies mutually
                                                                                                                      agreed not renew partnership.




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Appendix 8: Milestones of Global Players’ China Expansions (cont.)
Year                  FedEx                                   UPS                                  DHL                                   TNT

2004    Approved by US Department of                                                                                    Opened a corporate head office in
        Transportation to operate additional                                                                            China in conjunction with the week-
        12 pairs of cargo flights per week                                                                              long visit of the entire TPG Board of
        between US and China, increasing                                                                                Management to China,
        the frequencies of US-China FedEx                                                                               demonstrating TNT's strong
        cargo flights to 23 pairs per week.                                                                             commitment to its growth strategy in
                                                                                                                        China.
        Built China headquarters in
        Shanghai.



2005    Follow WTO agreement, China opened logistics industry for foreign investors since beginning of 2005. Foreign investors can invest and
        operate domestic logistics businesses in China, e.g. transportation, warehousing, shipping, fast-forwarding, etc., under their own names,
        or via JVs.

2005    Launched air cargo route from           Received license to conduct                                             Introduced its logistics flagship suite
        Shanghai, China, via Frankfurt,         international express business in                                       Matrix™ Transportation Management
        Germany, to Memphis, Tennessee,         China and built domestic network                                        to China, with the goal of improving
        to facilitate the west-link routes in   to cover 23 major cities China.                                         the proficiency and efficiency of the
        FedEx global strategy.                                                                                          logistics industry for TNT's clients
                                                Acquired the remaining 50%                                              and partners and advancing industry
        Announced US$150mn capex to             share of its JV, Sinotrans Air-UPS                                      standards and practices.
        build the new Asia-Pacific regional     Express, with US$100mn, to
        hub in Guangzhou Baiyun                 conduct the express business                                            Announced advanced negotiations to
        International Airport.                  independently in China.                                                 acquire Hoau, China's leading
                                                                                                                        domestic freight and parcels
        Began the new "Next Day" air                                                                                    operator, indicating strong intention in
        freight route from China to India,                                                                              the China market.
        part of the new east-link routes in
        the FedEx global strategy, which
        connects Europe, China, Japan,
        and India with the global hub in
        Memphis, Tennessee.


2006    Paid US$400mn to acquire the                                                                                    Signed equity transfer agreement
        remaining 50% share of FedEx-                                                                                   with Hoau Group in Shanghai to
        DTW and bought DTW's express                                                                                    acquire its nationwide road transport
        business in China.                                                                                              and freight business at ~Rmb800m.
        Approved by US Department of
        Transportation to operate additional
        three pairs of cargo flights per week
        between US and China; starting in
        June 30,2006, FedEx US-China
        offered 26 pairs of cargo flights per
        week.


2007    FedEx (China) announced                                                      DHL announced the building of a    Launched Boeing 747-400 ER
        domestic time-definite services in                                           north Asia hub in Shanghai         freighter to connect China and
        China to officially enter the China                                          Pudong International Airport, to   Europe. The new TNT Boeing 747-
        domestic express market by                                                   open June 2-12, at US$175mn        400 ERF flies four times a week
        operating lease of three freighters                                          capex and a capacity of 20,000     between Shanghai and TNT's
        from Okay Airways. With low                                                  pieces/hour.                       European Air Hub. The new flight
        revenues at ~Rmb135m, company                                                                                   links TNT's extensive network in
        was prepared to lose money for                                                                                  China to its European network,
        three years in this market.                                                                                     connecting more than 500 cities in
                                                                                                                        China to more than 400 cities in
                                                                                                                        Europe.




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Appendix 8: Milestones of Global Players’ China Expansions (cont.)
Year                  FedEx                            UPS                                 DHL                                     TNT

2008    Despite operating losses,         UPS International Transit Hub                                          Announced launch of the only
        implemented aggressive pricing    began operation in Shanghai                                            scheduled road services between
        cuts to compete for domestic      Pudong International Airport.                                          China and five countries of southeast
        market shares.                    Total capex was US$125mn with                                          Asia, using its Asia Road Network.
                                          capacity of 17,000 pieces/hour.                                        The Asia Road Network connects to
                                                                                                                 TNT's international express network
                                                                                                                 at Nanning and Guangzhou.
                                                                                                                 Most of the eight new branches were
                                                                                                                 located in the PRD and the YRD
                                                                                                                 areas: Dongguan, Zhongshan,
                                                                                                                 Foshan, Shunde, Nanning, Wenzhou,
                                                                                                                 Kunshan, and Shanghai Pudong. This
                                                                                                                 brought TNT's international express
                                                                                                                 branches in Mainland China to 34.



2009    China Postal Law, enacted on Oct. 1, 2009, stated that "foreign entities cannot invest, nor operate domestic express mail
        business."

2009                                                                        Sinotrans-DHL acquired three         TNT-Hoau, the wholly owned
                                                                            China domestic express delivery      subsidiary of TNT in China, officially
                                                                            companies with Rmb300mn, (Uni-       launched its first domestic day-
                                                                            Top Express) to enter the domestic   definite road distribution service in
                                                                            express market.                      China.
                                                                                                                 Inaugurated its road mega-hub in
                                                                                                                 Wuhan, Hubei Province, China, to
                                                                                                                 operated and managed by TNT's
                                                                                                                 wholly owned subsidiary, TNT Hoau.
                                                                                                                 Started a new dedicated B747-400
                                                                                                                 ERF service between Hong Kong and
                                                                                                                 Liege, Belgium, TNT's European air
                                                                                                                 hub.



2010                                                                                                             TNT-Hoau announced the completion
                                                                                                                 of its pioneering Day-Definite road
                                                                                                                 distribution network, a first-of-its-kind
                                                                                                                 in China.
                                                                                                                 Announced the addition of air freight
                                                                                                                 capacity between China and Europe
                                                                                                                 to meet growing demand using
                                                                                                                 Boeing 747-400 ERF aircraft between
                                                                                                                 China and Liege, Belgium.
                                                                                                                 TNT-China launched its fifth
                                                                                                                 international gateway in Shenzhen,
                                                                                                                 after Beijing, Guangzhou, Shanghai,
                                                                                                                 and Hong Kong. The new gateway
                                                                                                                 occupies 1,600 sq. m., with more than
                                                                                                                 50 employees.
                                                                                                                 Puxi Operation Center of TNT China
                                                                                                                 IE's Shanghai branch was officially
                                                                                                                 launched.
                                                                                                                 Announced plans to invest another
                                                                                                                 170 million Euros into TNT-Hoau over
                                                                                                                 the next few years.
                                                                                                                 Announced a new air service
                                                                                                                 between Chongqing and Europe.




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Appendix 8: Milestones of Global Players’ China Expansions (cont.)
Year                   FedEx                              UPS                   DHL                     TNT

2011                                      Sinotrans-DHL sold 100% share               TNT Express announced the opening
                                          of China domestics express                  of a 99,087-sq. ft. distribution facility
                                          delivery companies acquired in              in Hong Kong to provide Asia-Pacific
                                          2009 to Youhe Daotong in                    regional distribution and value-added
                                          Shenzhen, for Rmb100mn, to                  logistics services to the fashion
                                          focus on its international delivery         industry.
                                          business.
Source: Company Data




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Appendix 9: China Logistics Investment Basket
(Bloomberg ticker: <MSNJCHLO>)
Our China Logistics Investment Basket contains 15 stocks covering five sectors. The basket is denominated in US dollars.

Company name                                      Ticker               Sector                                                 Weight
Sinotrans Limited                                 0598.HK              3PL- comprehensive logistics                           0.15%
SITC International Holdings Company               1308.HK              3PL-shipping/logistics                                  0.27%
China Merchants Hldg Intl                         0144.HK              3PL- ports/cold chain logistics                         6.27%
China COSCO                                       1919.HK              3PL-shipping/ports/logistics                           10.07%
Sinopharm Group                                   1099.HK              3PL-pharmaceutical/healthcare                           3.98%
Kintetsu World Express                            9375.T               3PL - overseas                                          1.98%
Dangdang Inc                                      DANG.N               Online book store/distributor                           4.67%
Digital China Holdings Limited                    0861.HK              IT systems supplier                                     3.38%
CIMC                                              200039.SZ            Logistics equipment                                     2.05%
Sun Art Retail Group Limited                      6808.HK              Consumer staple                                         3.07%
China Resources Enterprise                        0291.HK              Consumer discretionary                                  9.57%
Tingyi (Cayman Islands)                           0322.HK              Consumer discretionary                                 18.24%
China Mengniu Dairy                               2319.HK              Consumer discretionary                                 17.03%
Belle International                               1880.HK              Consumer discretionary                                 19.15%
Pou Sheng International Holdings                  3813.HK              Consumer discretionary                                  0.13%


An investable basket: Morgan Stanley Research has created a basket of the 15 stocks that we believe are most positively geared
to the themes outlined in this report. The basket of the 15 stocks can be viewed on Bloomberg under the symbol MSNJCHLO.
Type MSES <Go> to access the Morgan Stanley Equity Baskets / Indices homepage and select Strategy / Research
<MSNJCHLO>.

The information contained herein has been prepared solely for informational purposes and is not a solicitation of any offer to buy or
sell any security or other financial instrument or to participate in any trading strategy. Products and trades of this type may not be
appropriate for every investor. Please consult with your legal and tax advisors before making any investment decision.

Please contact your Morgan Stanley sales representative for more details.




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Morgan Stanley Blue Papers
Morgan Stanley Blue Papers address long-term, structural business changes that are reshaping the fundamentals of entire
economies and industries around the globe. Analysts, economists, and strategists in our global research network collaborate in the
Blue Papers to address critical themes that require a coordinated perspective across regions, sectors, or asset classes.

Recently Published Blue Papers

                                     Solvency                                                       Asian Inflation
                                     The Long and Winding                                           Consumers Adjust As Inflation
                                     Road                                                           Worsens
                                     March 23, 2012                                                 March 31, 2011



                                     Wholesale & Investment                                         Wholesale & Investment
                                     Banking Outlook                                                Banking
                                     Decision Time for                                              Reshaping the Model
                                     Wholesale Banks                                                March 23, 2011
                                     March 23, 2012


                                     Banks Deleveraging and                                         Global Gas
                                     Real Estate                                                    A Decade of Two Halves
                                     Implication of a €400-700bn                                    March 14, 2011
                                     Financing Gap
                                     March 15, 2012


                                     The China Files                                                Tablet Demand and
                                     China’s Appetite for Protein                                   Disruption
                                     Turns Global                                                   Mobile Users Come of Age
                                     October 25, 2011                                               February 14, 2011



                                     The US Healthcare                                              The China Files
                                     Formula                                                        Chinese Economy through
                                     Cost Control and True                                          2020
                                     Innovation                                                     November 8, 2010
                                     June 16, 2011


                                     Cloud Computing Takes                                          The China Files
                                     Off                                                            Asian Corporates & China’s
                                     Market Set to Boom as                                          Megatransition
                                     Migration Accelerates                                          November 8, 2010
                                     May 23, 2011


                                     China High-Speed Rail                                          The China Files
                                     On the Economic Fast                                           European Corporates &
                                     Track                                                          China’s Megatransition
                                     May 15, 2011                                                   October 29, 2010




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                                     Petrochemicals
                                     Preparing for a Supercycle
                                     October 18, 2010




                                     Solvency 2
                                     Quantitative & Strategic
                                     Impact, The Tide is Going
                                     Out
                                     September 22, 2010

                                     The China Files
                                     US Corporates and China’s
                                     Megatransition
                                     September 20, 2010



                                     Brazil Infrastructure
                                     Paving the Way
                                     May 5, 2010



To find downloadable versions of these publications and information on Other Morgan Stanley reports, visit
www.morganstanley.com




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Morgan Stanley Research: Belle International, China Mengniu Dairy, Li & Fung Ltd., Sun Art Retail Group Limited.
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Certain disclosures listed above are also for compliance with applicable regulations in non-US jurisdictions.
STOCK RATINGS
Morgan Stanley uses a relative rating system using terms such as Overweight, Equal-weight, Not-Rated or Underweight (see definitions below).
Morgan Stanley does not assign ratings of Buy, Hold or Sell to the stocks we cover. Overweight, Equal-weight, Not-Rated and Underweight are not
the equivalent of buy, hold and sell. Investors should carefully read the definitions of all ratings used in Morgan Stanley Research. In addition, since
Morgan Stanley Research contains more complete information concerning the analyst's views, investors should carefully read Morgan Stanley
Research, in its entirety, and not infer the contents from the rating alone. In any case, ratings (or research) should not be used or relied upon as
investment advice. An investor's decision to buy or sell a stock should depend on individual circumstances (such as the investor's existing holdings)
and other considerations.
Global Stock Ratings Distribution
(as of March 31, 2012)
For disclosure purposes only (in accordance with NASD and NYSE requirements), we include the category headings of Buy, Hold, and Sell
alongside our ratings of Overweight, Equal-weight, Not-Rated and Underweight. Morgan Stanley does not assign ratings of Buy, Hold or Sell to the
stocks we cover. Overweight, Equal-weight, Not-Rated and Underweight are not the equivalent of buy, hold, and sell but represent recommended
relative weightings (see definitions below). To satisfy regulatory requirements, we correspond Overweight, our most positive stock rating, with a buy
recommendation; we correspond Equal-weight and Not-Rated to hold and Underweight to sell recommendations, respectively.

                         Coverage Universe    Investment Banking Clients (IBC)
                                        % of                   % of % of Rating
Stock Rating Category       Count       Total     Count Total IBC Category
Overweight/Buy               1105         38%        465        43%         42%
Equal-weight/Hold            1242         42%        471        43%         38%
Not-Rated/Hold                101          3%         26         2%         26%
Underweight/Sell              478         16%        126        12%         26%
Total                       2,926                   1088




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Data include common stock and ADRs currently assigned ratings. An investor's decision to buy or sell a stock should depend on individual
circumstances (such as the investor's existing holdings) and other considerations. Investment Banking Clients are companies from whom Morgan
Stanley received investment banking compensation in the last 12 months.
Analyst Stock Ratings
Overweight (O). The stock's total return is expected to exceed the average total return of the analyst's industry (or industry team's) coverage
universe, on a risk-adjusted basis, over the next 12-18 months.
Equal-weight (E). The stock's total return is expected to be in line with the average total return of the analyst's industry (or industry team's) coverage
universe, on a risk-adjusted basis, over the next 12-18 months.
Not-Rated (NR). Currently the analyst does not have adequate conviction about the stock's total return relative to the average total return of the
analyst's industry (or industry team's) coverage universe, on a risk-adjusted basis, over the next 12-18 months.
Underweight (U). The stock's total return is expected to be below the average total return of the analyst's industry (or industry team's) coverage
universe, on a risk-adjusted basis, over the next 12-18 months.
Unless otherwise specified, the time frame for price targets included in Morgan Stanley Research is 12 to 18 months.
Analyst Industry Views
Attractive (A): The analyst expects the performance of his or her industry coverage universe over the next 12-18 months to be attractive vs. the
relevant broad market benchmark, as indicated below.
In-Line (I): The analyst expects the performance of his or her industry coverage universe over the next 12-18 months to be in line with the relevant
broad market benchmark, as indicated below.
Cautious (C): The analyst views the performance of his or her industry coverage universe over the next 12-18 months with caution vs. the relevant
broad market benchmark, as indicated below.
Benchmarks for each region are as follows: North America - S&P 500; Latin America - relevant MSCI country index or MSCI Latin America Index;
Europe - MSCI Europe; Japan - TOPIX; Asia - relevant MSCI country index.
.
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                                                                     Close Price
  Ticker         Company Name                                 (as of 04/20/2012)
  600761.SS      Anhui Heli Co., Ltd.                                 CNY 12.20
  1880.HK        Belle International                                  HKD 14.88
  1919.HK        China COSCO                                           HKD 4.72
  2319.HK        China Mengniu Dairy                                  HKD 22.95
  0144.HK        China Merchants Hldg Intl                              HKD 25
  0291.HK        China Resources Enterprise                           HKD 28.30
  200039.SZ      CIMC                                                 HKD 10.77
  DANG.N         Dangdang Inc.                                         USD 8.80
  0861.HK        Digital China Holdings Limited                       HKD 16.44
  9375.T         Kintetsu World Express                                JPY 2752
  0494.HK        Li & Fung Ltd.                                         HKD 17
  3813.HK        Pou Sheng International Holdings                      HKD 0.83
  1099.HK        Sinopharm Group                                      HKD 21.30
  0598.HK        Sinotrans Limited                                     HKD 1.40
  1308.HK        SITC International Holdings Company                   HKD 2.29
  6808.HK        Sun Art Retail Group Limited                         HKD 10.36
  0322.HK        Tingyi (Cayman Islands)                                HKD 21




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