City Developments - DBS Research 2018-12-11: A White Christmas For City Dev

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CITY DEVELOPMENTS LIMITED (SGX:C09)

City Developments - A White Christmas For City Dev

• Invested in two office buildings in London; potential to inject into a REIT or private fund platform.
• Expected to launch remaining land bank (c.2,300 units) in FY19.
• Attractive valuations but limited near-term positive catalysts from Singapore property.
• Maintain HOLD.

Maintain HOLD; lower Target Price at S$9.50.

• We maintain our HOLD rating on City Developments (City Dev) and lower our Target Price to S$9.50 (from S$10.00 previously).
• Although the shares are trading at attractive valuations (at close to 2SD below historical P/NAV average), we see limited catalysts for the stock and sector given expectations of a property market slowdown which historically implies that City Dev shares will likely be trading in a range.

Where We Differ: Negative sentiment to hit Singapore’s developer with the largest unsold inventory.

• Given the weakened sentiment in Singapore property, coupled with the group having the largest inventory of units for launch, we believe there could be limited positive catalysts.
• In addition, the margins of units from the land bank acquired in late 2017-2018 could be impacted given that the ability to raise property prices may be limited following a turn in sentiment.

Potential catalyst: Property sales remain strong despite the change in sentiment; successful launch of its fund management platform.

• Investing in London office properties; potential to inject into a REIT or private fund platform. In line with its 10-year target to achieve S$900m recurring EBITDA, City Dev invested in two landmark Grade A office buildings in London in 4Q18 (total GBP568m (S$1bn), taking advantage of opportunities from Brexit.
• Its passing yield is 4.7-5.0% with medium-term growth potential by yielding up the properties and potential for positive rental reversions from its current under-rented leases.

Valuation:

• We maintain our HOLD rating but lower our Target Price to S$9.50, based on a higher 40% discount to RNAV, which implies 0.9x 2018F P/NAV at 1.5SD below the historical average.

Key Risks to Our View:

• Non-completion of privatisation. The inability to complete the privatisation exercise on M&C could limit potential upside to RNAV.

WHAT’S NEW - Invested in two office buildings in London; potential to inject into a REIT or private fund platform.

• In 4Q18, City Developments (City Dev) invested in two landmark Grade A office buildings in London, namely Aldgate House and 125 Old Broad Street (formerly known as Stock Exchange Tower) with a total investment of GBP568m (S$1bn). Management sees tremendous potential, taking advantage of opportunities from Brexit.
• Both properties are currently under-rented, approximately 20-25% below market rents. Aldgate House has occupancy of 88% while 125 Old Broad Street is 100% occupied with weighted average unexpired lease term (to lease break) (WAULT) of above 5 years (AH – 5.8 years; 125 OBS – 5 years).
• We believe these acquisitions will enhance City Dev’s recurring income portfolio as it works towards its 10-year target to achieve S$900m recurring EBITDA. The medium-term growth potential will be led by yielding up the properties and potential for positive rental reversions from its current under-rented leases. We will not be surprised to see more of such deals when the opportunity arises in the future.
• In addition, these properties could ....

Aldgate House

• Aldgate House is a landmark freehold Grade A commercial building in London purchased for GBP183m (S$328m), City Dev’s first acquisition in London in a while.
• The price is approximately 5% above the asking price of the vendors of GBP175m. The vendors (Hermes Real Estate Investment Management and CPPIB) acquired the building in 2013 for GBP100m which underwent an AEI under their ownership.
• Total NLA is approximately 211,000 sqft with retail and ancillary spaces over two basements. It has a passing yield of 5%, with > 45% of the office rentals below market rents. The overall Weighted Average Unexpired Lease Term (WAULT) is 6.2 years to lease breaks and 7.9 years to lease expiries. Total occupancy stands at 88%.
• The building is strategically located in the heart of Aldgate, with excellent transportation connectivity, located next to Aldgate Underground Station. Six other underground stations – Aldgate East, Fenchurch Street, Liverpool Street, Tower Gateway, Tower Hill and Whitechapel are within a 5-minute walk away.
• Management sees tremendous potential in this prime commercial building and believes that there could be potential AEI to add value on this property to increase the rental and convert unused areas to provide additional facilities.

125 Old Broad Street (formerly known as the Stock Exchange Tower)

• 125 Old Broad Street (formerly known as the Stock Exchange Tower), purchased for GBP385m (S$687m), is City Dev’s second landmark prime freehold Grade A office tower in London bought within a month from the first acquisition.
• The price is 12% below the asking price from vendor, Blackstone which acquired the property in 2014 for GBP320m.
• Total NLA is approximately 329,000 sqft with some retail space over three basement levels. It has a passing yield of 4.7%, with average passing rents currently about 25% below prime average rents in the City of London.
• It is currently fully leased to internationally renowned tenants, including Cushman & Wakefield’s European HQ, King & Spalding and China International Capital Corporation. The top 5 tenants account for more than 60% of total NLA and income.
• The property is strategically located in the heart of London and within the main financial district. For those who know London well, it overlooks St. Paul’s Cathedral and is just 100m from the iconic Bank of England HQ. The 26-storey building enjoys magnificent panoramic views of the city skyline.

9M18 net profit jumped 25% y-o-y largely from property development (Singapore, Japan and China) and higher divestment gains.

• City Dev's 9M18 net profit jumped 25% y-o-y to S$447m largely due to higher contributions from property development (PBT contributions close to doubled y-o-y) and higher divestment gains of a total of S$41m in 9M18 (S$12m on disposal of a vacant shophouse plot at Jalan Besar and S$29m by CDL HT in 1Q18) vs S$30m in 9M17, partially offset by lower contributions from the hotel operations (PBT contributions fell 37% y-o-y).
• 3Q18 net profit grew 10% y-o-y to S$162m largely from higher contributions from property development with lump sum recognition from projects completed and sold (e.g. New Futura), partially offset by lower divestment gains in the quarter (S$12m in 3Q18 vs S$30m in 3Q17).

Property division.

• 9M18 revenue doubled mainly due to
  1. the lump sum recognition from sale of New Futura (84% sold as at 4 November 2018) which had completed,
  2. The Criterion EC upon completion in February 2018, and
  3. its overseas properties from recognition upon completion of Hong Leong City Centre (HLCC) Suzhou phase 2 (66% sold; 264 units handed over) and the group’s 20% stake in the development of Park Court Aoyama The Tower, Tokyo (140 units out of 160 units have been handed over to date).
• Similarly, PBT close to doubled y-o-y, mainly from the lump sum recognition of the development projects above. PBT margin fell marginally to 27% vs 28% in 9M17 (mainly from The Criterion EC with lower margins).

Hotel operations.

• 9M18 revenue fell 1% y-o-y mainly impacted by:
  1. hotels closed for refurbishment/rebranding exercise; Millennium Hotel London Mayfair (close from July 2018; expected completion by 1Q19), Millennium Hilton Bangkok (impacted by refurbishment) and Dehevanafushi Maldives Luxury Resort (closed from June 2018 for rebranding), and
  2. some forex impact from the weakened USD,
  mitigated by contributions from new hotels Millennium New Plymouth NZ (acquired in March 2018) and M Social Auckland (re-opened in October 2017).
• However, PBT fell 37% y-o-y, mainly due to
  1. higher costs (+20%) mainly from payroll related costs and the continuation of fixed costs of Millennium Hotel London Mayfair despite its full closure, and
  2. one-off items recorded in 2Q17 including writeback of impairment loss of S$22m on loans granted to Fena, offset by S$7m impairment of goodwill from CDLHT’s acquisition of The Lowry Hotel.

Rental properties.

• 9M18 revenue declined marginally by 2% y-o-y but PBT grew 2% y-o-y supported by higher divestment gains.

Outlook

Residential – Singapore sales volume fell 25% y-o-y to 787 units while sales value fell 12% y-o-y; targets to launch another 2,300 units in FY19.

• 9M18 property sales volume in Singapore fell 25% y-o-y to 787 units while sales value fell less by 12% y-o-y to S$1.6bn due to higher-priced products.
• Sales volume was largely led by New Futura (84% sold as at 4 November 2018 at ASP of S$3,500psf), The Tapestry (63% sold as at 4 November 2018 at ASP of S$1,350psf) and the Jovell (11% sold at ASP of S$1,250-1,300psf).
• Recent launches:
  1. South Beach Residences was launched in September 2018, capitalising on the F1 Singapore Grand Prix season and sold 12 out of 50 units released (24% of launched units; 6% of total 190 units) including a super penthouse which was sold for S$26m;
  2. Whistler Grand was launched on 3 November 2018. and sold 160 units (22% of total units) at ASP of S$1,380psf. Buyers were largely Singapore residents and 71% were first-time homebuyers.
• Upcoming launches with a total of 2,300 units expected to be launched in FY19:
  1. Amber Park (592 units) and Handy Road (188 units) in 1H19,
  2. Sumang Walk (EC; 820 units) in 2Q19 and
  3. Sengkang Central (700 units) in 4Q19.
• Boulevard 88 (154 units) has been put on hold.
• With the latest revised guidelines on the minimum average unit size, City Dev believes that it will not be impacted as most of its land banks have obtained Planning Permission (PP) except Sengkang Central GLS site. However, management is confident that it will be able to obtain its PP before the deadline.
• In China, the group sold 163 units and 16 villas in 9M18.
• Upcoming launches from overseas projects:
  1. Emerald in Chongqing (30% stake) is targeted to be launched in 1Q19, and
  2. Chelsea (9 units) show units is on track to complete by 4Q18.

Commercial properties

• In line with its focus to expand and achieve its 10-year target of S$900m recurring EBITDA, City Dev has been active in acquiring commercial properties.
• In September 2018/October 2018, the group acquired two office buildings in London; Aldgate House and 125 Old Broad Street, both are currently under-rented with potential for positive rental reversions.
• More importantly, in its effort to build a fund management platform to achieve its 10-year target, we note that it disclosed in notes of the quarterly financial statement that assets such as Aldgate House and 125 Old Broad Street “could possibly be transferred to a private fund or a REIT vehicle”. In addition, the “group is also working closely with its partners and investors in its three PPS to ensure a mutually favourable outcome for all three structures”.
• In addition, the group has planned AEI on its newly acquired office block within Yaojiang International Complex in Shanghai’s North Bund Business District, expected to complete by end-2018. The group should benefit from the immediate recurring income with the master lease signed with Distrii.
• In Singapore, its office and retail properties currently has 91.5% and 95.8% occupancy. Approximately 25% of its office portfolio is expiring in FY19 and 17% each year in FY20 and FY21 which allows it to ride on the office rent uptrend as supply falls off. Similarly, the AEI on Republic Plaza is expected to complete by 2H19 and could ride on the rising office rents when the AEI completes.
• In China, the Hong Leong Plaza Hongqiao comprises five office towers with approval for strata-titled units which will be operational by 1Q19 while the HLCC’s premium Grade A office tower has completed.

Hotel – RevPAR (on constant currency) fell marginally partially impacted by closures/refurbishments

• The group’s RevPAR fell 3.8%. On constant currency basis, the group’s RevPAR fell 0.4% y-o-y. Excluding the impact of acquisitions, closures and refurbishments, RevPAR increased 1.5% y-o-y.
• On a constant currency basis, RevPAR was up for most locations led by Australasia (+5.9%), Asia (+1.5%) and US (+1.3%) except Europe (-6.8%) mainly due to London (-11.5%).
• UK performance was partially impacted by the closure of Millennium Hotel London Mayfair for refurbishment (expected completion by 1Q19), offset by contributions from newly acquired hotels.
• Mr Tan Kian Seng was reappointed as M&C’s interim CEO in September 2018 following the departure of former CEO Ms Jennifer Fox.

Maintain HOLD; lower Target Price of S$9.50

• We maintain our HOLD rating with a lower Target Price of S$9.50. The target price is based on a higher discount to RNAV of 40% vs 35% previously to factor in a weakened sentiment from more measures from the authorities but raised our RNAV per share marginally to S$15.90 from S$15.40, taking into account of the two new London properties acquired.
• We lowered our FY18F-20F estimates by 13-25% to factor in lower property prices and longer rate of sales.
• City Developments is currently trading at 0.7x FY19F P/NAV, at close to 2SD below the historical average traded during the last property cycle (FY13-17). While share price is at attractive valuations which implies that the potential downside risks from the recent implementation of new cooling measures is limited, we see limited catalysts for the stock and sector given expectations of a property market slowdown which historically implies that City Dev's share price will likely be trading in a range.

Rachel TAN DBS Group Research | Derek TAN DBS Research | https://www.dbsvickers.com/ 2018-12-11

SGX Stock Analyst Report HOLD MAINTAIN HOLD 9.50 DOWN 10.000