First Sponsor Group - DBS Research 2018-07-23: Eerste To The City Of Freedom

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FIRST SPONSOR GROUP LIMITED SGX:ADN

First Sponsor Group - Eerste To The City Of Freedom 

• Beneficiary of post-Brexit relocation to the Netherlands 
• Building its recurring income portfolio with upside from completion of development properties 
• Wild card from its growing third-party financing arm 
• Initiate coverage with BUY; Target Price of S$1.62 on fully diluted basis 

Company Background

Corporate History. 

• First Sponsor is a Singapore-based investment holding company. Its principal activities include property development and sales, property investment, hotel ownership and operations, and provision of property financing services in the PRC, the Netherlands and Germany.
• First Sponsor owns and develops residential and commercial properties in tier-two cities of Chengdu and Dongguan in the PRC and in recent years, it has invested significantly and amassed a portfolio of commercial and hospitality assets in the Netherlands (Amsterdam, Rotterdam and The Hague) and recently ventured into Germany with the acquisition of Le Meridien Frankfurt Hotel. The company also holds stakes in various hotels across these regions. With the acquisition of 95% equity stake in the Bilderberg Hotel Portfolio in Aug 2017, First Sponsor became one of the largest hotel owners in the Netherlands.
• We view this positively as we see strong demand potential going forward, supported by well-developed ancillary facilities and transportation network, and improving economic conditions in Europe. This is expected to translate into higher rentals and capital values..

Initiate with BUY; Target Price of S$1.62.

• We initiate coverage on First Sponsor Group (First Sponsor) with a BUY rating and Target Price of S$1.62 (based on 35% discount to RNAV).
• First Sponsor is one of the rare property developers listed in Singapore that will benefit from higher demand fuelled by post-Brexit relocation to Netherlands. Our Target Price of S$1.62, which offers potential upside of 31%, is based on a fully diluted RNAV. If its undiluted RNAV is used, First Sponsor’s fair value would be S$1.99, thus giving potential upside of 60%. BUY! 

Where we differ. Poised to benefit from potential post-Brexit relocation to the Netherlands.

• We are the first brokerage to initiate coverage on First Sponsor, highlighting its exposure to the Netherlands residential and commercial properties which stand to benefit from higher demand stemming from potential post-Brexit relocation to the Netherlands.
• First Sponsor currently owns 13 properties/projects in the Netherlands (mainly in Amsterdam) and one hotel property in Frankfurt, Germany. 

Potential catalysts:

• Sales and completion of development properties, rising rental rates/RevPAR, and delivery of strong earnings growth. 

Wild card from its growing third-party financing.

• With liquidity tightening in China, the group’s third-party property financing division stands to benefit from increased demand for property financing. Based on the recent demand seen in the market, management believes it can double its loan portfolio on the back of average interest rates of approximately 12%. If the deployment of cash is successful, interest income from the loan portfolio could contribute some 14% of the group’s FY18F net profit. 

Valuation: 

• Our Target Price of S$1.62 is based on a 35% discount to RNAV of S$2.49 and calculated on a fully diluted basis. The stock currently trades at 0.7x FY18F P/BV. 

Key Risks to Our View: 

1. Less-than-expected spillover impact post-Brexit.
2. Delay in completion of projects.
3. Default risk in property financing.
4. Acquisitions of less desirable investment properties. 

Highlights

Beneficiary of potential post-Brexit relocation to Amsterdam.

• Unlike its peers in Singapore, First Sponsor was one of the first few to have ventured into and stayed focused on the European (ex-UK) property market before the Brexit referendum.
• First Sponsor first ventured into the Netherlands in 2015 with the acquisition of Zuiderhof I, Amsterdam. It currently owns 13 properties/projects in the Netherlands (mainly in Amsterdam) and one hotel property in Frankfurt, Germany. While the cap rates in the Netherlands market has seen compression since 2016, First Sponsor, now with more experience in the Netherlands property market, continues to look for attractive assets.
• In the wake of the Brexit referendum held in June 2016 which resulted in the UK now paving the way to leave the European Union (EU), major cities in Europe such as Frankfurt, Paris, Dublin, Amsterdam and Luxembourg are wooing firms who are looking to relocate their offices/head offices out of London and the UK.
• Amsterdam – having won the Cushman and Wakefield, the office rents in Amsterdam have grown 6% to 23% in 2017, and vacancy rates fell to its lowest level since 2007 to 11.7%.

Building its recurring income portfolio with upside from completion of development properties.

• Since its first foray into the European market, First Sponsor has been active in the acquisition of investment properties as it builds its recurring income portfolio. As at FY2017, its recurring income contributed approximately 26% of net profit and 33% excluding fair value gains largely from its office and hotel portfolio. 
• Although recurring enhance its recurring income to c.25% of EBIT by FY18.
• Development profits will largely stem from the completion of its China projects; Millennium Waterfront, Chengdu (ongoing) and Star of East River Project, Dongguan (expected to complete from 2019 onwards). In addition, construction works for development projects in the Netherlands will begin in phases from 2019, which will see some contributions to its development profits.

Wild card from its growing 3rd party property financing business.

• With liquidity tightening in China, the group’s third-party property financing division stands to benefit from increased demand for property financing from firms like First Sponsor, who is somewhat like a “lender of last resort”. Following the progressive positive outcome from the two default cases, management remains confident and plans to expand its loan portfolio. As at FY2017, its third-party loan balance stood at RMB1.2bn (S$242m).
• Based on the recent demand seen in the market, management believes it can double its loan portfolio on the back of average interest rates of approximately 12%. If the deployment of cash is successful, interest income from the loan portfolio could contribute some 14% of the group’s FY18F net profit. Management remains cautious on the risks by evaluating the collateralised assets and ensuring that its typical LTV stays under 50%.

Key Risks

Uncertainty of Brexit and EU government policies.

• As Brexit is yet to be finalised, the impact of the UK’s exit from the EU on the rest of Europe cannot be fully determined. Any changes to potential negotiations and governments policies may impact any positive spillover to the European property market, especially in the Netherlands and Germany where First Sponsor currently has properties.

New mixed developments in the Netherlands market.

• As the Netherlands market is different to the Singapore/Asia market, mixed developments and pre-sales of properties to the retail sector are not a common concept in the Netherlands. As there is a supply shortage for residential units, First Sponsor will be introducing mixed-development properties in the city centre of Amsterdam (Dreeftoren and Oliphant). This new concept is exposure to the risk of non- acceptance or if it turns out to be successful, other local developers that have access to more strategic landplots could imitate First Sponsor.

EUR forex fluctuations.

• As approximately 39% of First Sponsor’s total assets are in the Netherlands and c.44% of the group’s earnings are derived from the Netherlands, fluctuations in foreign exchange could impact such contributions.

Default risk of its third-party financing portfolio.

• While the third-party financing business segment remains small at the moment, First Sponsor plans to expand this by riding on the tightening of liquidity to the real estate in China. While this business segment is lucrative, the risk of a potential default remains high. Since 2015, the group has experienced two default cases. Although the court case results have been favourable to First Sponsor thus far, the process in lengthy. However, management remains cautious with its selection process and manages its risk with a low LTV of approximately 50%.

Valuation

Initiate with BUY rating; Target Price of S$1.62.

• We initiate coverage on First Sponsor with a BUY rating and Target Price of S$1.62, which offers a potential upside of 31%. Our Target Price is based on a 35% discount to fully-diluted RNAV per share. Based on the current number of shares, its RNAV of S$3.05 could translate into a fair value of S$1.99 (with a 35% discount to RNAV) that offers a whopping potential upside of 60%. The stock currently trades at 0.7x FY18F P/BV on the back of a conservative NAV. This attests to the value of the stock relative to its RNAV and current P/BV.
• We believe First Sponsor is a niche property developer as well as a decent proxy to the potential positive spillover impact from Brexit into Europe (especially to the Netherlands and Germany). While it continues to expand its footprints in Europe, First Sponsor continues to reap the profits from property completions in China. Its wild card lies in its third- party property financing business that rides on the tightening of liquidity in the real estate market in China.

Key potential catalysts include

1. strong sales take-up rates for its development properties,
2. rising rental rates/RevPAR of its commercial and hotel properties in the Netherlands and Germany, and
3. delivery of strong earnings growth which continues to inspire investor confidence.

Rachel TAN DBS Group Research Research | Derek TAN DBS Research | https://www.dbsvickers.com/ 2018-07-23

SGX Stock Analyst Report BUY Initiate BUY 1.62 Same 1.62