APAC Realty - RHB Invest 2018-05-28: Investor Luncheon Key Notes

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APAC REALTY LIMITED SGX: CLN

APAC Realty - Investor Luncheon Key Notes

• Maintain BUY and SGD1.35 Target Price, 50% upside.
• We recently hosted an investor luncheon with APAC Realty to allay some investor concerns. Management addressed queries on market competition, seasonality, balance sheet, gross margins, and its commissions structure.
• Post luncheon, we remain confident that fundamentals remain sound, and view the recent weakness as a buying opportunity.
• APAC Realty is now trading at 2018F P/E of 10.7x vs peers’ 14x, and offers a compelling 5.6% yield.

Takeaways from our investor luncheon:

1. Management noted that its market share position has remained fairly stable despite the increase in competition. YTD-23 May, APAC Realty’s (APAC) real estate services brand ERA has secured a healthy market share 41.6% for project launches, or > 10ppts higher than the next agency. ERA Realty Network’s (ERA) agent count has also increased to ~6,100, 3.7% higher when compared to the start of the year. Management emphasised that its focus is more towards increasing agent productivity rather than just increasing headcount;
2. Gross margins for the project sales segment typically ranges between 15- 25%, depending on project size and type, and other factors. Management expects project sales’ average margins to remain steady at 18-20%. For secondary sales, gross margins are expected to remain stable at 6-7%. The slight reduction in gross margin for 1Q18 was also due to the fact that ~74% of APAC Realty’s agents are currently in a 90/10 commission split when compared to just 71.7% last year;
3. 1Q tends to be weakest quarter for resale and leasing revenues due to the year-end festivities and Lunar New Year celebrations. This is mainly due to timing difference between sale of a unit and its earnings recognition. Typically, the time lag between sales and earnings recognition is 3-6 months for new launches and 2-3 months for resales;
4. Management does not expect developers to lower commissions in a bullish market (at ~1.5% currently), as this might lead agents to divert buyers towards projects with higher commissions. The commissions structure for resale transactions has also been fairly steady over the years, at 1-2%;
5. Management is staying committed to its guidance of at least 50% payout ratio, and does not expect this to be impacted by potential acquisitions. It has to be noted that in 4Q17, APAC Realty distributed 90% of its income as dividends. Currently, we have assumed a 60% payout ratio, which translates into a healthy dividend yield of 5.6%.

Still our mid-cap real estate Top Pick, with DCF-derived Target Price of SGD1.35 (50% upside, WACC: 8%, TG: 0%).

• We have fine-tuned our revenue and net profit assumptions – 2018F/2019F at 0% to +1%. 
• Upside could come from potential acquisitions or expansion of APAC Realty’s businesses, for which we have yet to factor in. 
• Key risks include a loss in market share.

Other Key Takeaways

• Aside from the five takeaways mentioned above, there were five other points we took away from the luncheon:

1. Strong 2H expected from project launches. In 2017, ERA was appointed as a marketing agent for eight new launches, of which seven were launched in 1H17, and only one was launched in 2H17 – in Aug 2017. While ERA’s agents have been fairly active in selling the balance units in its earlier-appointed projects, the lack of new launches in 4Q17 and 1Q18 are expected to result in a softer 2Q, in terms of project revenues. However, management noted that it has a pipeline of 14 new launches (c.8,821 units) in 2Q18/3Q18, which should provide a healthy boost to its 2H income; 
2. Management does not see any concerns with regards to its trade receivables, nor has there been an increase in default rates. APAC Realty’s trade receivables mainly relate to commission receivables – derived from its real estate brokerage services – from various individual debtors and developers. It has to be noted that ERA collects the commissions before it pays agents their share. Additionally, the group’s net exposure – after factoring in the corresponding commissions payable – is less than 10% of the amount of receivables that could have been impaired;
3. Gearing and acquisitions. APAC Realty is currently in a comfortable net cash position, with SGD64m of net cash as at 1Q18. Management noted that the balance sheet remains sound and can take a bit of gearing for future acquisitions. It also does not see any need for equity fund-raising in the near term. APAC Realty is still on track to expand its business via its three stated growth strategies, but noted that any such acquisitions had to be accretive to earnings in the long term, and are dependent on market conditions. The growth plans are:
   1. Acquisition of its Indonesia franchisee and starting a brokerage business in addition to its current franchise business model;
   2. Acquisition of a Singapore office building to centralise its business operations – the building ought to also help boost its recurring rental income, as ERA would be renting out most of the space to its agents;
   3. Acquisition of a domestic real estate support services business, which could add stability to its non-recurring income stream;
4. Possible open market share sale by major shareholders? Management noted that for major shareholder Northstar – through its shareholdings via Asia Pacific Realty – any dilution in stake to below 51% (subject to exception) would require the written consent of ERA’s master franchisor, Realogy. Northstar, however, may sell the shares on block sale, but this is unlikely to happen in the near term, ie within the next one year;
5. Potential share buybacks in future? APAC Realty plans to obtain a share buyback mandate from unit holders before the upcoming AGM. The free-float is currently low at 28%, thus it is limited to buying back only a maximum of 3% from the open market. Management however, noted that – in future – it would consider buying back its shares if it sees value arising from any potential selldown.

Shekhar Jaiswal RHB Invest | https://www.rhbinvest.com.sg/ 2018-05-28

SGX Stock Analyst Report BUY Maintain BUY 1.350 Same 1.350