CIO WM Research 8 January 2015

Transcription

1 CIO WM Research 8 January 2015 US equities Transformational technologies Over the next decade, we expect a wave of technological innovation to drive productivity growth, disrupt industries and create substantial growth opportunities. In this report, we take a deeper dive into two such transformational technological trends: digital data and automation & robotics. Digital data growth is set to explode in the coming years, with the global digital universe likely to increase 50-fold increase from 2010 to This is driven by a combination of demographic factors like rising global internet penetration and increased data usage in emerging markets, and secular trends like changing consumer digital lifestyles and the Internet-of- Things. From an investment perspective, digital data is a trend that offers interesting long-term growth opportunities. There are two ways to participate: by investing in data enablers, and in data infrastructure companies, where we believe software and semiconductor firms will be winners. We believe smart automation is powering the ongoing industrial revolution, combining the innovation power of industrial and IT processes to drive global manufacturing productivity gains. We expect the smart automation industry, which is still in the early growth stages in our view, to post mid-to-high single-digit growth on average in the next decade owing to strong growth in industrial software. Rising wages and challenging demographic developments will pressure costs of manufacturing companies in emerging markets, driving automation investments. From an investment perspective, smart automation represents one of the fastest growing segments in the broader industrial and IT sectors. At least since the industrial revolution, technological progress has always been a key driver of economic growth and of corporate profitability. Accordingly, understanding where technological progress is most likely to occur and make a material difference is a worthwhile activity for investors as it can help unlock investment opportunities. In this report, we focus on two broad areas of technological innovation that we believe will be driving forces behind productivity gains during the next decade. The first area is the broad set of business opportunities around the explosion of digital data. Alexander Stiehler, CFA, analyst, UBS AG Sundeep Gantori, CFA, CAIA, analyst, UBS AG Stephen Freedman, CFA, strategist, UBS FS stephen.freedman@ubs.com, Manish Bangard, CFA, strategist, UBS FS manish.bangard@ubs.com, Related research US Equities: Beneficiaries of ransformational technologies, 8 January 2015 Sections of this report on digital data were originally published outside the US on 10 June 2014 while sections on automation and robotics were originally published outside the US on 28 October These sections were modified for US distribution. This report has been prepared by UBS AG and UBS Financial Services Inc. (UBS FS). Please see important disclaimers and disclosures that begin on page 8.

2 The second is one that we group under the header of automation and robotics. Both areas have the potential to profoundly transform the structure of our economy, disrupt existing business models but also create substantial growth opportunities for those well-positioned to participate. Digital Data In the next decade, favorable demographics and other secular trends should drive solid demand for data. Thanks to rapid urbanization, we expect the global internet user base to increase by 1.5bn to 4.2bn or around 52% of the global population, primarily driven by emerging markets, where we also expect increased data usage. In addition, secular trends like changing consumer digital lifestyles and the proliferation of Internet-of-Things connected devices mean unabated data growth in the foreseeable future. IDC, a leading industry research firm, in a joint study done with EMC, a provider of IT storage hardware solutions, projects that the global digital universe will reach around 44 zettabytes (ZB) by 2020, more than a 50-fold increase from That is equivalent to 636 iphones (16 GB) per household. We believe the exponential growth in data has far-reaching investment implications. We expect steady growth not only for data enablers but also for data infrastructure companies, as we think significant capex investments are required to support the surge in digital data. In particular, we believe data-related software and semiconductor companies will be long-term winners given their better pricing power. Growth drivers for digital data We see various growth drivers for the expansion of digital data, some demographic, some technological in nature: Demographic driver 1: Rising global internet penetration Despite the internet user base more than doubling over the past seven years, global internet penetration is still only 38%, highlighting the significant growth potential ahead. While in various developed economies penetration is north of 80%, in some of the most populous markets in the world, penetration is well below such levels (see Fig. 1). We expect this to change driven by increased broadband penetration and the rising affordability of smart devices. As a result, we expect 1.5bn new internet users (see Fig. 2) to be added in the next decade, with internet penetration expected to cross the 50% mark. Demographic driver 2: Rising data usage in emerging markets We expect increased data usage in emerging markets (EM), particularly among the younger generation which should lead to a data surge in the region. Emerging markets are well positioned to participate in data growth because of growth in e-commerce and mobile phone usage. E-commerce has already made significant inroads in China, where online sales account for around 8% of total retail sales compared to only 7.3% in the US. This trend is set to continue and reach other EM countries. Another factor contributing to the data surge in EM is the strong reliance on mobile phones to access the internet. Smartphones are often the first computing device for many individuals in EM, given that most of them have never owned a PC before. With the on-the-go connectivity, we expect an increased scope for data usage in emerging markets. Our positive view is reflected in IDC's Fig. 1: Global internet penetration Internet penetration of some key geographies India Indonesia Global Average China Japan US Switzerland 0% 20% 40% 60% 80% 100% Source: World Bank and UBS Fig. 2: Penetration and population Global internet users (million) 4,500 60% 4,000 3,500 50% 3,000 40% 2,500 2,000 30% 1,500 20% 1, % 0 0% Internet users (lhs) Penetration rate (rhs) Source: ITU and UBS, as of 6 May 2014 Fig. 3: Data surge from emerging markets Share of global data 70% 60% 50% 40% 30% 20% 10% 0% Emerging markets China India Source: ITC, EMC and UBS, as of 6 May 2014 CIO WM Research 8 January

3 estimates, which predict that emerging markets' share of the global digital universe will increase from 36% in 2012 to 62% by 2020 (see Fig. 3). In particular, the combined share of China and India should be broadly equivalent to the combined share of the US and Western Europe of around 30%. Changing consumer digital lifestyles The advent of smart devices like smartphones and tablet PCs has significantly changed the data consumption patterns of consumers. Smart devices have become indispensable tools in our day-to-day lives as they not only provide a new range of services thanks to alwayson connectivity, but they also replace most of our traditional devices. With a two-thirds share of the digital universe currently, consumer data should continue to outpace the overall data growth, in our view, in light of changing digital lifestyles. Consumers are already generating 18% of the digital universe from these smart devices, and their share is expected to grow to 27% by 2020, according to IDC. Internet-of-Things as a further growth driver Internet-of-Things (IoT) refers to a network of connected devices, where everyday objects like thermostats, watches, cars, etc., are connected to a network, constantly sending and receiving data. IDC estimates that the total installed base of all connected devices was close to 11.2bn units at the end of 2013, of which traditional devices like smartphones and PCs accounted for about two-thirds. Other devices, mainly IoT devices based on sensors, controllers and communications, constituted the remaining one-third. However, this segment is expected to grow at a five-year CAGR of 43.5% against only 9.5% for traditional connected devices. In addition to strong consumer demand, we expect the rapid growth in connected devices to come from the healthcare, utilities, manufacturing and transportation sectors, to name a few. Given increasing communication between and among devices, IoT is expected to be another long-term driver of data growth, with IDC estimating its share of the digital universe potentially rising from less than 2% currently to around 10% by Trends in data pricing and enterprise storage While we expect strong data growth in the next few years, only onethird of data is stored, with the rest being transient, i.e., used to stream videos or play games. Nevertheless, the data storage market is a very big opportunity for all storage vendors. We expect strong demand for storage capacity to be driven by the need for enterprises and consumers to store various forms of information and content. Storage hardware pricing generally declines by 25 30% a year, which is not necessarily a bad thing as it is associated with a simultaneous decline in costs as well as the need to keep data pricing attractive to stimulate strong volume growth. That said, we believe the pricing of storage-related semiconductors and software is less price sensitive due to their better pricing. In particular, we believe the importance of storage software, which we believe is around one-fifth of the overall size of the storage market, will gain importance as a shift to industry standard architectures, virtualization and software-defined storage trends gains traction. While pricing in the consumer storage industry had previously followed the overall storage industry trends of sharp declines every year, recent industry consolidation and capex discipline have resulted in an overall stable pricing environment. With only a few industry players CIO WM Research 8 January

4 left, we expect consumer storage pricing to fare better than enterprise storage in the foreseeable future. Analytics - the "Big Data" opportunity Despite the strong growth in the digital universe, we believe only a tiny fraction of digital data is fully exploited. IDC estimates that only 23% of digital data is valuable - i.e., data that, if analyzed properly, could lead to either cost savings or revenue maximization - but that this fraction could rise to 33% by 2020 (see Fig. 4). Moreover, we believe not all valuable data is still properly analyzed, given that less than 1% of the current overall data is actually evaluated. However, we see promise in "Big Data" technology as a potential solution to data analysis problems. Big Data technology refers to analytics used to extract value from large and untapped pools of data that are generally too complex to manipulate with standard methods or tools. With the majority of generated data being unstructured, non-traditional technologies like Big Data, are employed to analyze data and add value to business. Fig. 4: Valuable data on the rise % of data eligible for analytics 35% 30% 25% 20% 15% 10% 5% 0% Source: IDC, EMC and UBS, as of 6 May 2014 While we believe Big Data is in its early stages, we see strong commitment from not only corporates but also governments across the world toward Big Data analytics, in particular in the Defense and Transport sectors. On the enterprise side, Big Data analytics tools are widely used by retailers like Walmart and e-commerce companies like Amazon and ebay to generate more business, while other corporates have also started to allocate more spending on Big Data tools to potentially save costs or generate revenues from new sources. How to participate in the data wave? Given the strong volume growth in data, we believe digital data offers a very good long-term investment opportunity. There are two broad ways to participate in the digital data wave; while conventional wisdom argues in favor of only data infrastructure companies, we believe investors will be best rewarded by also focusing on data enablers. Data enablers: The first group to participate in the digital data wave is data enablers, or companies that promote the creation and growth of data, including internet, enterprise-application and smart-device companies. Data infrastructure providers: The next group to participate in the digital data wave is data infrastructure providers, which mainly include companies that store, carry and analyze data. They often belong to broader sector groups like semiconductors, networking, hardware, software and services. Automation and Robotics At every major crossroad, the manufacturing industry has always been able to re-invent itself. Whether it is the first industrial revolution, involving the generation of steam power or the next revolution, supported by electric power, the industry always found answers to solve productivity problems. There is another industry revolution underway, powered by smart automation (SA), that we believe will transform the future of manufacturing. SA combines the innovation power of industrial and IT processes to drive global manufacturing productivity gains. CIO WM Research 8 January

5 We see two positives for companies positively exposed to this theme: 1. above-average earnings growth and 2. re-rating potential for industrial companies with automation software exposure. Both should lead to superior performance compared to the broader equity market in the years to come. Despite the growth in recent years, we believe SA is still in its early stages. Based on our market definition, automation only has a 1% share of the manufacturing industry's total global revenues (USD 150bn). If our assumption is correct that automation revenues will clearly outperform normal manufacturing revenues, the share could almost double to 2% over the next 10 years based on our assumption that average revenue growth in the SA industry will be in the mid-tohigh single digits. From an investment perspective, SA represents one of the fastest growing segments within the broader industrial sectors during the next decade. Secular trends that we expect to see drive such growth include an increasing reliance on robotics in Emerging Markets (see Fig. 5) on the back of demographic challenges and rising wages, rising IT penetration in the manufacturing sector (industrial software), and the North American shale gas revolution and the cheap access to energy it provides could stimulate investments in the chemicals industry for years to come. Fig. 5: Robot density by country, 2012 Robots per 10,000 employees China United Kingdom Canada France Spain USA Italy Sweden Germany Japan Korea Source: IFR World Robotics Fig. 6: Relative unit labor costs Indexed to 100 in the year In the following, we cover the most important industry drivers and investment opportunities around the automation theme: factory automation, process automation, industrial software, and 3D printing China Brazil Factory automation Factory (or discrete) automation generally describes assembling processes, such as robotics in the automotive industry, but also other automation processes in the general manufacturing industry, packaging and semiconductors, to mention the most important ones. The largest end-market in the factory automation market is the automotive industry; typical products are programmable logical controllers (PLCs), electric motors, sensors, robots and, of course, manufacturing software. The market is very much consolidated and controlled by European and Japanese vendors. In our view, the robotics subsegment is very exciting. On top of the software revolution we see several additional drivers that should spur sustainable growth in the coming years. EMs account for roughly half of global manufacturing output. However, robot penetration is much lower than in developed countries. For instance, in terms of robot density, China appears to be at a level comparable to Japan in the 1970s and Korea in the late 1980s and early 1990s. In the early 2000s, when EM companies first started to invest in automation equipment, the underlying trend was toward better quality (machines are more precise than human beings) and first attempts to increase productivity. Today, we see two additional trends for automation demand: rising labor costs and labor shortage. Both arise from an aging and better-educated population (see Fig. 6 and 7). Process automation Process automation is defined as continuous production processes that transform raw materials into final products (e.g. mixing of liquids, Germany Japan US Source: Haver, UBS US Japan China Brazil Germany Fig. 7: A rising education level is also unconducive to cheap labor supply China - % of year olds attending schools 36% 30% 24% 18% 12% 6% 4% 13% 27% 0% E Source: World Bank CIO WM Research 8 January

6 gases and electricity). Usually a high degree of measurement, timing and precision is important. The automation part is a kind of central computer that interacts with valves and sensors to run the process smoothly. Typical process automation end-markets are the oil and gas industry, refining, chemicals or power generation. Process automation can greatly improve the efficiency of production processes by, for instance, making adjustments in real time or scheduling maintenance only when necessary rather than in preset intervals. The growth rate has been on average 5% p.a. since 2006, driven by a strong investment cycle in the chemical and oil and gas markets. The shale gas revolution in the US has triggered a wave of investments in both sectors, supporting process automation, a trend we expect to see continue. Industrial software The software industry is largely dominated by office automation vendors given the high spending focus from Fortune 500 companies. That being said, industrial software (8% of the broader software industry) is emerging as one of the fastest growing sub-groups as manufacturing companies start to leverage the benefits of digitalization in product manufacturing. The two major arguments in favor of industrial software include: 1. Solving design complexity: Industrial software helps manufacturing firms reduce design complexity, which in most cases is considered a key bottlenecks. Despite rising usage, we still expect significant growth potential for design-based software, particularly from EMs given the low penetration. 2. Improved time to market: By solving design complexity and improving production efficiency through integrated tools, industrial software can significantly improve the time to market. A Siemens study found that a 30% time savings will be achieved with integrated engineering. In this regard, the advancement in 3D printing or additive manufacturing (discussed in the next section) is a key development that will support the increased adoption of industrial software. 3D printing Last but not least, another hot topic getting plenty of press coverage recently is 3D printing. 3D printing is commonly referred to as additive manufacturing (AM). AM involves print heads, depositing slices or layers of a powder or filament very precisely according to the digital instructions. That deposited material may be a plastic, glass, ceramic, plaster, metal and/or some substance yet to be created. Layer upon layer is deposited, creating our widget one slice at a time. In today s globalized world, the fast pace of change coupled with the growing complexity of manufacturing puts product development at the center stage of the process as companies try to stay ahead of the curve and create products with faster time to market. This has led to many companies revisiting their product development strategies and turning to new and quicker processes. 3D printing provides an optimal solution, as it facilitates rapid prototyping by accelerating development cycles, detecting and fixing design flaws earlier, saving significant rework expenses and improving overall product quality. In contrast, the traditional method of prototyping can take weeks or even months. Therefore, we believe 3D printing will save time and CIO WM Research 8 January

7 money during the product development stage due to its superior flexibility. How to participate in the automation wave? We expect that hardware companies with sizable software exposure should grow their automation business in the mid-single-digit area and pure-play software companies in the high-single to low-doubledigit area. Overall, we think that industrial software will be a growing differentiator for companies and investors. We expect the industrial software market to grow on average at around 10% with superior margins. Software is at the center of this revolution, but there is also tremendous demand for automation hardware, such as robots, from EMs and several sectors which should lead to sustainable growth. CIO WM Research 8 January

8 Appendix Terms and Abbreviations Term / Abbreviation Description / Definition Term / Abbreviation Description / Definition A actual i.e. 2010A CAGR Compound annual growth rate Capex Capital expenditures COM Common shares E expected i.e. 2011E p.a. Per annum (per year) Shares o/s Shares outstanding UP Underperform: The stock is expected to underperform the sector benchmark CIO UBS WM Chief Investment Office Chief Investment Office (CIO) Wealth Management (WM) Research is published by UBS Wealth Management and UBS Wealth Management Americas, Business Divisions of UBS AG (UBS) or an affiliate thereof. CIO WM Research reports published outside the US are branded as Chief Investment Office WM. In certain countries UBS AG is referred to as UBS SA. This publication is for your information only and is not intended as an offer, or a solicitation of an offer, to buy or sell any investment or other specific product. The analysis contained herein does not constitute a personal recommendation or take into account the particular investment objectives, investment strategies, financial situation and needs of any specific recipient. It is based on numerous assumptions. Different assumptions could result in materially different results. We recommend that you obtain financial and/or tax advice as to the implications (including tax) of investing in the manner described or in any of the products mentioned herein. Certain services and products are subject to legal restrictions and cannot be offered worldwide on an unrestricted basis and/ or may not be eligible for sale to all investors. All information and opinions expressed in this document were obtained from sources believed to be reliable and in good faith, but no representation or warranty, express or implied, is made as to its accuracy or completeness (other than disclosures relating to UBS and its affiliates). All information and opinions as well as any prices indicated are currently only as of the date of this report, and are subject to change without notice. Opinions expressed herein may differ or be contrary to those expressed by other business are as or divisions of UBS as a result of using different assumptions and/or criteria. At any time, investment decisions (including whether to buy, sell or hold securities) made by UBS AG, its affiliates, subsidiaries and employees may differ from or be contrary to the opinions expressed in UBS research publications. Some investments may not be readily realizable since the market in the securities is illiquid and therefore valuing the investment and identifying the risk to which you are exposed may be difficult to quantify. UBS relies on information barriers to control the flow of information contained in one or more are as within UBS, into other areas, units, divisions or affiliates of UBS. Futures and options trading is considered risky. Past performance of an investment is no guarantee for its future performance. Some investments may be subject to sudden and large falls in value and on realization you may receive back less than you invested or may be required to pay more. Changes in FX rates may have an adverse effect on the price, value or income of an investment. This report is for distribution only under such circumstances as may be permitted by applicable law. Distributed to US persons by UBS Financial Services Inc., a subsidiary of UBS AG. UBS Securities LLC is a subsidiary of UBS AG and an affiliate of UBS Financial Services Inc. UBS Financial Services Inc. accepts responsibility for the content of a report prepared by a non-us affiliate when it distributes reports to US persons. All transactions by a US person in the securities mentioned in this report should be effected through aus-registered broker dealer affiliated with UBS, and not through a non-us affiliate. The contents of this report have not been and will not be approved by any securities or investment authority in the United States or elsewhere. UBS specifically prohibits the redistribution or reproduction of this material in whole or in part without the prior written permission of UBS and UBS accepts no liability whatsoever forthe actions of third parties in this respect. Version as per May UBS The key symbol and UBS are among the registered and unregistered trademarks of UBS. All rights reserved. CIO WM Research 8 January