Singapore Property Sector - DBS Research 2016-09-30: Another Centenarian for Sale


Singapore Property Sector - Another Centenarian for Sale

  • The sale of United Engineers (UE) is in the lime light again! A rare opportunity to gain access to a quality property portfolio built on 999-year leasehold/freehold land
  • Among major listed developers, Frasers Centrepoint and City Developments have assets that are most similar to UE’s portfolio
  • Based on past privatizations at average of 1.0x P/NAV, acquisition of UE at NAV of S$2.75 per share implies a 10% upside to current price.
  • If it materializes, this could lead to a re-rating of developers who are trading at an average of 0.75 P/NAV. Top pick in the sector is CDL.

United Engineers for Sale….again? 

Sale of United Engineers back on? 

  • The news on OCBC’s potential disposal of United Engineers has hit the media once again, which sent UE’s share price up close to 6% this week and and 12% since the middle of September.
  • On 26 Sept 2016, OCBC and Great Eastern made a joint announcement that they are currently reviewing strategic options for their combined stakes in United Engineers Ltd (UE) and WBL Corporation Limited (WBL). However, no decision has been made at this time.
  • Great Eastern, OCBC and Lee Foundation are estimated to hold an aggregate stake of 32% in UE. A sale of their stakes to a third party will trigger a general offer for UE, according to current listing rules.

OCBC’s intention to dispose UE is not new. 

  • In Aug 2014, it was reported by the media that OCBC were in exclusive talks with Thai billionaire Charoen Sirivadhanabhakdi, who owns an 88% stake in Frasers Centerpoint Ltd (FCL) via Thai Beverage and TCC. However, the parties did not reach an agreement and discussions fell through in Feb 2015. Based on media reports at that time, both parties could not agree on the final pricing.
  • In this report, we look into a few areas and attempt to answer a few questions that might arise with regards to the potential disposal.

What has changed since then? 

  • Over the past few years, UE has been streamlining its portfolio by selling non-core assets and also to realise its real estate portfolio.
  • After discussions with Kun Charoen Sirivadhanabhakdi ended in Feb 2015, UE continued on a divestment path and has since sold a substantial portion of their assets and non-core businesses. In recent times, UE completed the sale of MFLEX, its manufacturing business, in July and the group is expected to book a gain of close to S$115m. It is in the midst of completing the sale of its engineering and distribution segment (UES Holdings and UE Envirotech).
  • Over the past two years, total divestment value is estimated to be close to S$575m.

UE is now an attractive acquisition prospect after streamlining its business units. 

  • After the disposals of its non-core business segments, UE’s businesses are now more streamlined with a majority of the balance sheet made up of assets from the group’s commercial portfolio and property development business. 
  • Now that UE is looking more like a property company, we believe it is an attractive acquisition target for property developers and/or property funds that are looking to acquire a sizeable portfolio with substantial recurring income in Singapore.

The Crown Jewel of UE 

  • Prized commercial portfolio which sits on mainly freehold land is UE’s key jewel. UE’s prized assets are mainly its investment properties which comprise all segments of investment properties - office, retail, service apartments and industrial. Among its investment properties, we believe that the three crown jewels are i) UE Bizhub City (UE Square), ii) One North mixed development, and iii) UE Bizhub West on Alexandra Road.
  • These assets are located either along the fringes of the Central Business District (CBD), or emerging suburban commercial hubs with good infrastructure and a critical mass of workers, implying strong demand for the assets.
  • In addition, a substantial portion of the investment portfolio is built on either 999-year leasehold or freehold land titles, a rarity in the current investment climate.
  • We believe the strategic locations of the three developments are what could be very attractive to potential property developers.
  • We provide more colour on the three key assets: 
    1. UE Bizhub City (UE Square), located at Clemenceau Avenue, River Valley is at the fringe of the city. This will be within walking distance to a new MRT station, Fort Canning Station, upon the completion of phase 3 of the Downtown Line by 2017. The mixed development has a full spectrum of retail, office and service apartments. With the new MRT station, the development may be allowed to increase its gross floor area (GFA), which is currently not priced in.
    2. One North mixed development is located in an upcoming suburban office and business park hub located at the fringe of the city. The government has earmarked the area to be developed into Singapore’s ‘Silicon Valley’ with an increasing number of companies and workers moving there.
    3. UE Bizhub West is located in the Alexandra precinct, an emerging suburban office location located just off the Central Business District. The area has been revitalised with the completion of Mapletree Business City phase 1 and 2 which has drawn global corporates in the IT, Finance and media companies to move there. UE Bizhub West‘s anchor tenant – HP is likely to move out by the end of 2016, making it ripe for redevelopment or an asset enhancement. The buildings (450 and 452 Alexandra Road) sit on two plots of freehold land, one for industrial (Class B1) and the other for commercial use and can be positioned to attract tenants from different industries.
  • Among the remaining investment properties, we believe Seletar Mall, which is 70% owned by SPH, will eventually be sold to SPH REIT, implying that ability to realise value from the assets is highly visible, even if the portfolio changes hands. The asset was one of the assets that SPH REIT has a right-of-first-refusal on.
  • In addition, the group has a number of residential developments located in Singapore, Malaysia and China. A majority of the unsold inventory comes from its overseas projects in Malaysia and China.

Revalued Net Asset Value of UE 

  • In this report, we have re-looked at the potential market value of UE’s commercial and development divisions, as we see upside from 
    1. rejuvenation of the assets (through asset enhancements), and 
    2. (active leasing of empty spaces to optimise returns. 
  • Our revalued net asset value (RNAV) for United Engineers is S$3.30/share, representing an enterprise value of S$2.02bn. This is a 20% premium to our estimated NAV of S$2.75/share.
  • Our RNAV of UE’s Singapore portfolio is S$1,988m which is S$155m above the current valuation of close to S$1,840m.
  • We believe that our estimate is conservative as we have not assumed any potential increase in GFA and or asset enhancements that could result in upside to valuations.
  • In the case of UE’s property development and overseas investments, given the lack of information, we have assumed that the group will look to sell them to third parties.

What is a possible take-over premium? 

We believe that 1.0x P/NAV is a fair price, judging by historical transactions involving developers. 

  • We have considered selected privatisation transactions between 2010-latest practicable date involving property developers listed on the SGX but acknowledge that the list may not be exhaustive. We also noted that there may be differences in terms of size, market capitalisation, financials and portfolios that would make it tough to price the stock.
  • Looking at the mean / median in the past transactions, property developers have been transacted at an average P/NAV multiple of 1.0x and P/RNAV of 0.8x. Using this as a reference and not attaching any value for its other business, this will value UE at S$1.75bn or S$2.75/share.
  • This represents a 20% discount to our RNAV of S$3.30 for UE, in line with historical transactions.

Who might be interested? 

Listed developers, private developers or overseas investors.

  • Given the rarity of availability of a substantially freehold portfolio in Singapore, we believe that interest among developers (listed and private developers like Far East Organization), or investors looking to deepen their footprint in Singapore will be interested.
  • We compared UE’s assets against the four major listed developers, namely Capitaland, CDL, FCL and OUE, to assess who could be the best fit or potentially be interested in UE’s assets. The table below shows the list of assets held by other developers that are located in the same area as UE’s assets.
  • Based on our analysis, we found that CDL and FCL are close matches due to two factors: 
    1. they have the most number of assets that are nearby or adjacent to UE’s assets, where they could leverage on the larger space or potentially cement their dominance in the area, and 
    2. both CDL and FCL are involved in similar asset segments as UE.
  • While Capitaland has some assets which are near UE’s assets (in retail, service apartments and office), Capitaland does not have expertise in industrial properties in which UE has a sizable portfolio. We see limited overlap between OUE. However, this does not mean that OUE may not be interested as they may be looking for opportunities for land banking or entry into certain segments, though UE’s scale is small.
  • On UE’s overseas assets (mainly China), most of the developers have property developments in China except OUE. FCL has properties in Chengdu, and Capitaland has projects in Chengdu and Shenyang, similar to UE’s assets.
  • Other parties that could be interested in UE include foreign property developers looking to expand into the Singapore property market, and private property developers such as Far East and property funds.

What is potential upside to earnings? 

  • A potential acquirer looking to gain exposure into emerging commercial hubs into Singapore could potentially reap higher returns through undertaking a rejuvenation of selective assets (i.e. UE Biz Hub) or actively marketing empty spaces to optimise returns. Based on our estimates, assuming underlying leases are marked-to-market on rents and occupancy rates, the yields could be raised 5.0% from 3.7% (based on NAV).
  • Our estimates do not include the scale of asset enhancement initiatives. However, yields could be higher in the medium term with some asset enhancements.

Who has the capacity to acquire? 

  • Based on a review of the four major listed developers (Capitaland, CDL, FCL and OUE) who could be potential acquirers and assuming an acquisition price of S$1.6bn (S$2.51 per UE share), which is at current market value and S$1.75bn (S$2.75 per UE share), based on 1x P/NAV, the developers except for OUE would be able to maintain a net debt-to-equity ratio of less than 1x. 
  • CDL have the most capacity to acquire, and still keeping their net debt-to-equity post-acquisition at 0.5x to 0.6x, while Capitaland and FCL would see their net debt-to-equity ratios rising to 0.8x to 0.9x from 0.7x.

Implications on other listed developers.

1. Who are other candidates? 

  • We believe that investors will continue to focus on other potential candidates with similar characteristics i.e. 
    1. strong portfolio of recurring income delivering robust cash flows, 
    2. stock prices trading significantly below their NAVs and RNAVs, imply that the market is not appreciating their portfolio’s value and cashflows, and 
    3. likelihood of a corporate action from a major shareholder keen to privatise the vehicle.

2. Valuation lift for listed developers 

  • If a deal is transacted for UE, we believe that it will once again provide investors with a valuation benchmark for developers, who are trading at 0.75x P/NAV and at steeper discount to their respective revalued NAVs (RNAV). 
  • Developers that could potentially see a re-rating on the back of this are the likes of Hobee (unrated), Wheelock (unrated), Wing Tai (unrated) and City Developments (BUY, TP S$9.90).

Peer Comparison

Property Developer Stocks - DBS Research 2016-09-16

Rachel Tan DBS Vickers | Derek Tan DBS Vickers | http://www.dbsvickers.com/ 2016-09-30
DBS Vickers SGX Stock Analyst Report BUY Maintain BUY 3.60 Same 3.60
BUY Maintain BUY 9.90 Same 9.90
BUY Maintain BUY 1.90 Same 1.90
BUY Maintain BUY 2.47 Same 2.47
NOT RATED Maintain NOT RATED 99998 Same 99998