China / Hong Kong Company Focus China Vanke Bloomberg: 2202 HK Equity | 000002 CH Equity | Reuters: 2202.HK | 000002.SZ Refer to important disclosures at the end of this report DBS Group Research . Equity 6 January 2016 H: HOLD (Downgrade from BUY) Shareholding uncertainty overshadows Last Traded Price (H): HK$20.80 (CSI300 Index : 3,540) strong fundamentals Price Target (H): HK$19.60 (6% downside) (Prev HK$23.41) Better-than-expected sales/acquisitions in Dec 2015 will likely lead to decent sales growth in 2016 A: BUY (Under review) Yet, shareholding structure is unlikely to improve in the near Last Traded Price (A): RMB24.43 (HSI : 20,981) term and potential asset restructuring is uncertain Price Target (A): RMB19.31 (21% downside) Shareholding competition will likely distract management Potential Catalyst: Better-than-expected shareholding structure efforts and affect Vanke’s long-term strategy Where we differ: Our FY15-17F EPS are below consensus Share price is under pressure after trading resumption; Analyst Downgrade Vanke-H from BUY to HOLD Ken HE CFA, +86 21 6888 3375 Uncertainty in potential asset restructuring (Details on page 3). The [email protected] difficulties are in: (i) identifying potential acquisition targets to fall in Carol WU +852 2863 8841 the definition of “material asset restructuring”, and to improve [email protected] shareholding structure (or mitigate Baoneng’s influence in Vanke’s Danielle WANG CFA, +852 2820 4915 board/strategy), as well as to strengthen Vanke’s traditional [email protected] residential and new business lines; and (ii) obtaining shareholders’ Andy YEE CFA, +852 2971 1773 approval given current shareholding structure and rich valuation. In [email protected] fact, Vanke-H’s trading resumption was earlier than expected, implying that it has yet to have a concrete plan. Price Relative Shareholding war may continue and spread to H-shares. So far, the HK$ Relative Index RMB Relative Index 240 shareholding war has been contained within the A-share market only. 25.9 24.0 209 220 It is possible for the battlefield to switch to the H-share market, but 22.0 189 20.9 200 this will not change the story as Vanke’s H-share only accounts for 20.0 169 180 160 11.9% of total shares. In fact, this may only add uncertainty to the 18.0 149 15.9 140 shareholding structure, which will likely distract management’s 16.0 129 10.9 120 efforts and affect Vanke’s long-term strategy. 14.0 109 100 12.0 89 5.9 80 Expect >10% growth in 2016. Better-than-expected new starts and Jun-14 Nov-14 Apr-15 Sep-15 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 new acquisitions in 2015 will likely fuel 2016 growth. We expect its China Vanke (LHS) Relative HSI INDEX (RHS) China Vanke-A (LHS) Relative SHSZ300 Index (RHS) 2016 sales to grow >10% y-o-y to Rmb290-300bn, supported by Forecasts and Valuation sufficient saleable resources (36m sm), rising ASPs, and improving FY Dec (RMB m) 2014A 2015F 2016F 2017F sell-through. Management also aims >15% y-o-y growth in Turnover 137,994 172,058 202,972 221,956 EBITDA 28,619 34,355 41,387 44,599 completion in 2016. This, coupled with better gross margin and Pre-tax Profit 29,987 33,898 40,791 44,036 lower interest costs, lays a solid foundation for earnings growth. Net Profit 15,745 17,053 19,882 20,917 Downgrade Vanke-H to HOLD. After today’s correction, Vanke-H is Core Profit 13,768 16,912 19,882 20,917 now trading at 9.7x FY16F PE, still a 31% premium over COLI’s 7.4x. Core Profit Gth (%) (8.6) 22.8 17.6 5.2 We have revised down our TP to HK$19.60/share, pegged at 8.9x EPS (RMB) 1.43 1.55 1.80 1.90 EPS (HK$) 1.70 1.84 2.14 2.25 FY16F PE (vs. previously 12.5x FT15F PE), which is in line with what EPS Gth (%) 4.1 8.1 16.6 5.2 we applied for COLI. Downgrade to HOLD from BUY. Our PE (X) 12.3 11.3 9.7 9.2 recommendation and TP for Vanke-A is under review. P/Cash Flow (X) 4.6 nm 12.9 14.4 At A Glance EV/EBITDA (X) 7.9 7.2 6.0 5.6 Issued Capital - H shares (m shs) 1,315 DPS (HK$) 0.59 0.64 0.75 0.79 - Non H shrs (m shs) 9,733 Div Yield (%) 2.9 3.1 3.6 3.8 H shs as a % of Total 12 Net Gearing (%) 5.4 16.2 8.8 4.5 Total Mkt. Cap (HK$m/US$m) 309,778 / 39,963 ROE (%) 19.1 18.2 18.6 17.3 Major Shareholders Book Value (HK$) 9.51 10.73 12.23 13.73 SZ Jushenghua Co. Ltd. (%) 24.3 P/Book Value (X) 2.2 1.9 1.7 1.5 China Resources Co. Ltd. (%) 15.3 Earnings Rev (%): Nil Nil Nil Anbang Insurance(%) 6.2 Consensus EPS (RMB) 1.61 1.87 2.12 Major H Shareholders (%) Other Broker Recs: B: 15 S: 1 H: 3 JPMorgan Chase & Co. (%) 14.6 First State Investments (%) 9.7 ICB Industry: Financials Commonwealth Bank of Australia (%) 6.9 ICB Sector: Real Estate Holding & Development BlackRock, Inc. (%) 6.5 Principal Business: Property development and management H Shares-Free Float (%) 61.5 Source of all data: Company, DBSV, Thomson Reuters, HKEX 3m Avg. Daily Val. (US$m) 32.4 ed-TH / sa- AL Company Focus China Vanke INVESTMENT THESIS Profile Rationale China Vanke was founded in 1984. It is now the largest Sufficient resources to drive growth of core residential residential developer in China, with extensive exposure in 65 business cities across the nation. Sales exceeded Rmb215bn in 2014, Vanke’s landbank size is underestimated by the market again the highest in the global real estate industry. The The landbank is more efficient given smaller project size and company had completed the conversion from B-share to mass market focus H-share on Jun 25, 2014, which enables Vanke to enjoy better funding channels and trading liquidity. Cooperation with Wanda could accelerate land acquisition Management-fee based model will generate additional income from JV projects New growth drivers in the near-term Property management business will see decent organic growth as well as M&A opportunites. The segment may also have spin-off potential to unlock values Vanke aims to become the second largest warehouse player in China in 3-5 years, given their advantage in acquiring land and partnerships with investors and 3PLs. Yet shareholding shareholding uncertainty overshadows strong fundamentals Shareholding structure is unlikely to improve in the near term. Potential asset restructuring is another uncertainty. Valuation Risks Our valuation for Vanke-A/-H is based on 8.9x FY1F PE, on Macroeconomic risk par with its nearest comparable COLI’s average PE multiple If China’s economy slows faster than expected and triggers a since 2011. hard landing, the property sector will be substantially affected. Policy risk Unexpected sector tightening and loosening which are likely to trigger a sector-wide re-rating or de-rating, in which bottom up research will become less important. Source: DBS Vickers Page 2 Company Focus China Vanke Uncertainty in identifying potential acquisition targets asset restructuring, as (i) the size of potential target should be large as analysed above; and (ii) management needs to place Potential target likely to be large in size. On Dec 21, 2015, shares to allied parties to dilute the Baoneng consortium's Vanke announced the suspension of trading due to “material influence. asset restructuring (重大資產重組)”. In our view, it is difficult to identify the potential targets. Based on definition of An ideal way is asset injection in exchange for shareholding. “material asset restructuring”, the potential target should be Therefore, CR Group is widely expected by most investors. Yet, large in size. The table below indicates that the potential we think the possibility is not high, as: (i) CR group has limited target needs to be at least Rmb44bn in size. property assets that can be injected into Vanke. CR Group still owns Shenzhen Bay project in Shenzhen, which is promised to Potential target should support Vanke’s existing and newly be injected into CR Land (1109.HK). According to CR Group’s growing businesses. As reiterated by chairman Wang Shi, the website, it also owns CR Property which owns/operates CR asset restructuring is intended to strengthen Vanke’s Building in HK and hotel assets in HK/China, and a commercial traditional residential business or accelerate the growth of its complex in downtown Bangkok. Therefore, injecting CR new businesses, or a combination of both. Property into Vanke seems to make sense. But (ii) if CR Group is injecting assets into Vanke, the former cannot vote at the A Share placement is needed to dilute Baoneng’s influence. In shareholders’ meeting. It is unlikely for the deal to be our view, there might be a share placement for the potential approved by A shareholders’ vote (detailed discussion later). Any one of the below scenario could be viewed as “material asset restructuring” Scenario Vanke's End-FY14 financials Implied target size Total assets of potential target to be Total asset: Rmb508bn Total asset >= Rmb254bn acquired/sold >= 50% of listco's total assets for the recent financial year Total revenue of potential target to be Total revenue: Rmb138bn Total revenue >= Rmb69bn acquired/sold >= 50% of listco's total revenue for the recent financial year Net equity of potential target to be Net equity: Rmb88bn Net equity >= Rmb44bn acquired/sold >= 50% of listco's net equity for the recent financial year, and >= Rmb50m Source: China Securities Regulatory Commission (CRIC), DBS Vickers Uncertainty in obtaining shareholders’ approval for Latest key shareholders and ownership share placement A share holding A share holding Three votes needed for the share placement.