After a tough begin to the 12 months, robotics and automation shares are displaying indicators of stabilization. The ROBO index is up 15% to this point within the last quarter of 2022.¹ We lately spoke with our strategic advisor Morten Paulsen, head of fairness analysis at CLSA primarily based in Tokyo, who has been advising traders in Asian manufacturing facility automation firms for greater than 20 years. On this interview, we focus on why traders ought to put together for the most effective shopping for alternative for robotics since March 2020, the deflationary impression of automation expertise, and the way Asia is more likely to proceed to play a significant position within the house.

Jeremie Capron, ROBO World Director of Analysis: I want to begin this dialogue with some big-picture questions. Rather a lot has modified since your final interview with us in 2019[VB1] . We’re now in a macro surroundings of rising rates of interest, geopolitical danger, the very best inflation charges for the reason that ’70s, and a attainable international recession. How is all of this affecting the demand for robotics and automation?

Morten Paulsen, CLSA Head of Fairness Analysis: That’s lots of dialogue factors. Let’s begin with inflation and the position robotics and automation play.

Industrial automation is a deflationary power. Robots and automation gear allow producers to decrease marginal unit prices. Robots don’t put upward stress on labor prices both, and that’s one other manner of curbing inflationary stress. I wish to name robots “inflation fighters” for these causes. 

Within the surroundings we’re in at the moment, I might argue that the one deflationary power now we have left are robots and comparable applied sciences advancing labor effectivity. 

Within the previous system, earlier than 2017 or so, international locations just like the US might import deflation by means of commerce with low-cost producers like China. That system is now damaged. Manufacturing prices in China are going up. On prime of that, you might have border tariffs and better delivery and logistics prices. The US and Europe at the moment are importing inflation, not deflation. Demographics and a shrinking workforce are additionally fueling inflation. 

JC: The US launched the Inflation Discount Act a couple of months in the past. Is {that a} step in the best path? 

MP: Some will argue that subsidies solely create inflation as you pump extra money into the system, and I’ve lots of sympathy for that view. Nonetheless, a good portion of the Inflation Discount Act is aimed to stimulate the availability facet of the financial system. Based on knowledge compiled by the AMT, greater than $88 billion is immediately supporting manufacturing within the US. 

Serving to firms enhance labor effectivity by means of automation will enable them to raised compete in a extra inflationary surroundings and will deliver costs down and jobs again on the similar time.  

Provide-side insurance policies aimed to stimulate investments in effectivity are part of the answer. The best way I see it, the Inflation Discount Act is much from good, however it’s a step in the best path.

JC: Inflation can also be inflicting rates of interest to go up. Aren’t greater rates of interest making it tougher for firms to spend money on robotics?

MP: Based on textbook economics, rising rates of interest are detrimental for capital expenditure. Nonetheless, if you happen to run a historic correlation evaluation between rates of interest and automation investments, you get a constructive correlation coefficient ― which means that robotic and automation investments are excessive when rates of interest are excessive. 

JC: In order that’s the other of the textbooks. How would you clarify that?

MP: It signifies that producers received’t rush out to purchase gear simply because rates of interest are low. Demand for automation gear is extra tied to capability utilization ratios and tightness within the labor market. 

At the moment, the labor market is extraordinarily tight, explaining why robotic demand is at file excessive ranges. Every little thing I heard on the IMTS present in Chicago again in September would recommend that labor scarcity is an actual difficulty and an actual impediment for bringing manufacturing again.

We’ve talked about re-shoring for a few years now, however other than a couple of examples right here and there, it wasn’t a considerable motion. The web enhance of imports of manufactured items would dwarf the quantity of manufacturing that was introduced again. I consider that could possibly be altering now. Producers wish to localize manufacturing and shorten provide chains. That is additionally a gap for investments in “near-shoring” places reminiscent of Mexico.

JC: If producers are “re-shoring,” isn’t that detrimental for China? China is, in any case, the world’s largest marketplace for automation gear. 

MP: I don’t suppose the world will cease shopping for Chinese language manufactured items. The nation has important benefits by way of scale and manufacturing information that shall be arduous to exchange. 

Nonetheless, I do suppose producers outdoors of China are making use of a better danger premium on Chinese language-made elements. Over the following decade, I do consider {that a} greater share of the incremental manufacturing capability shall be added outdoors of China. 

JC: Again in 2007 or 2008, you printed a landmark report referred to as “Automating Asia,” the place you accurately predicted that Asia would change into a significant driver for international automation over the following decade. You sound much less upbeat about Asian automation at the moment, am I proper about that?

MP: Effectively, lots has modified since 2008. China’s robotic density in manufacturing is now pretty near that of the US and Western Europe. Because the market matures, we should always count on development charges to decelerate. 

That stated, similar to the USA, China is going through a labor scarcity. Delivery charges in China dropped dramatically within the ’80s as a result of one youngster coverage, and that’s now leading to a pointy drop in labor entry and labor participation. That’s once more resulting in greater labor price and direct labor scarcity. China is trying to robots as the answer to their issues.

Past China, I nonetheless suppose Asia will stay a development driver because the area provides lots of alternatives to extend the extent of automation in manufacturing. We’ve huge international locations like India the place the shift to automated manufacturing is simply beginning. I additionally see Southeast Asia as a beneficiary of firms shifting capability out of China. 

JC: What do you count on by way of development charges for automation globally and in China going ahead?

MP: Financial development is slowing down. I consider the April-June quarter marked the cyclical peak for international equipment orders. China peaked out 12 months earlier than the remaining, extra particularly within the April-June quarter of 2021. 

China was the primary market to get better after Covid, so an earlier peak could possibly be anticipated. Nonetheless, within the second half of 2021, the nation confronted lots of headwinds. It began with the crackdown on huge tech firms, then we had issues within the building trade across the Evergrande disaster. That was once more adopted by energy shortages and rolling blackouts. For China, 2021 was utterly a narrative of two halves. 2022 was imagined to be a restoration 12 months, however Covid lockdowns in Shanghai and different cities put an finish to that anticipated restoration.  

I believed China would have a stronger restoration within the second half of 2022 popping out of lockdowns, however that didn’t occur. The temper on the bottom will not be good. Persons are anxious that lockdowns might occur once more, and that’s having a detrimental impression on consumption. 

I see blended traits relying on finish markets. On the constructive facet, the automotive trade recovered quick, and the trade is investing closely in EVs and electrification. On the detrimental facet, we’re not seeing a lot funding happening in smartphones, PCs, and many others. for the time being. Chinese language exporters are additionally nervous about weaker finish markets.

JC: And what about Japan? Is the weaker yen making it extra enticing to supply in Japan?

MP: Japan has an inexpensive yen, a world-class industrial automation sector, and a gifted workforce. It’s arduous for me to see why the nation wouldn’t be a extremely aggressive manufacturing nation. To this point, the weaker yen hasn’t led to a lot of a capex spending growth in Japan, however I believe that would change. 

It’s arduous to be upbeat on Europe for the time being given the power state of affairs and the impression that would have on consumption and manufacturing. Nonetheless, I believe Japan together with North America could possibly be one of many extra promising markets over the following 12 months.

JC: In our earlier interview again in March 2019, you stated 2020 could be a restoration 12 months for robotics and automation demand, and also you additionally stated 2019 could be the most effective time to purchase. In hindsight, these predictions had been pretty good. The ROBO index is up 15% to this point within the last quarter of 2022. What’s the subsequent shopping for alternative for automation?

MP: Again in 2019, I wasn’t anticipating a worldwide pandemic to hit us in 2020, so I can’t say all the things went as deliberate. At the moment, markets are beneath lots of stress given geopolitical uncertainty, rising rates of interest, and cyclical contraction. 

The world might look completely different, however the attractiveness of automation is arguably even higher than what it was within the earlier cycle. 

I do suppose we’re approaching the most effective shopping for alternative for robotics and automation since March 2020. As soon as we enter the second half of 2023, I might count on quite a few key main macro-economic indicators to stabilize or backside out. That would result in a fast turnaround in sentiment, so in my view, traders have a transparent six-month window to get again into the sector at a low worth.

¹ Information As of 11/29/22