Hong Kong Real Estate 30 January 2018 Hang Lung Properties (101 HK) Target price: HKD25.10 (from HKD23.70) Share price (30 Jan): HKD20.10 | Up/downside: +24.9% Foundation for an upturn looks to be coming into place Financial figures yet to fully reflect operating progress seen in 2017 Jonas Kan, CFA (852) 2848 4439 Plaza 66 is strong and it may have found the way out for tier-2 cities [email protected] Reiterating our Buy (1) rating; lifting TP to HKD25.10 What's new: Hang Lung Properties’ 2017 underlying net profit fell by 13% Forecast revisions (%) YoY to HKD5,530m, mainly on a 36% YoY decline in property sales profit. Year to 31 Dec 18E 19E 20E We see HLP’s rental business and earnings mix as currently in transition, Revenue change 8.1 15.2 n.a. Net profit change - 10.8 n.a. with aggregate financial results yet to reflect more significant fundamental Core EPS (FD) change - 10.8 n.a. improvement in its leasing business in both China and Hong Kong. Source: Daiwa forecasts What's the impact: Actual performance was better than what the figures Share price performance may suggest, given that HLP’s aggregate results were affected by quite a (HKD) (%) few transitional factors such as AEIs and tenants repositioning. Our read is 22.0 105 that HLP has been very active in revamping its operations during the soft 20.8 96 market in the past few years and that important progress has been made – 19.5 88 we think some initial signs of turnaround had already emerged in its 1H17 18.3 79 17.0 70 results (please see our note Initial turnaround looks to be underway from Feb-17 May-17 Aug-17 Nov-17 28 July 2017) and our read is that such trend has continued into 2H17. HLung Prop (LHS) Relative to HSI (RHS) Although this does not show up clearly in its financial numbers yet, we think this is normal for landlord companies. Overall, our read is that HLP’s rental 12-month range 17.36-21.65 income is poised for a more notable pick-up especially from 2019 onwards Market cap (USDbn) 11.52 – hence, we raise our FY19E EPS by 11%. 3m avg daily turnover (USDm) 13.05 Shares outstanding (m) 4,479 Plaza 66 is strong and appears to have finally found the way out for assets Major shareholder Hang Lung Group (55.7%) outside Shanghai. While pure luxury malls seldom work in most markets, we take the view that Plaza 66 is an exception (26% YoY sales growth in Financial summary (HKD) 2017) and looks like it can stay as the strongest pure luxury mall in Year to 31 Dec 18E 19E 20E Revenue (m) 10,080 10,329 11,229 Shanghai in terms of tenant sales. Meanwhile, after having visited nearly all Operating profit (m) 7,704 7,845 8,473 of HLP’s malls outside Shanghai in the past few months, our read is that Net profit (m) 4,955 5,030 5,476 the group may have finally found a way out for its assets outside Shanghai, Core EPS (fully-diluted) 1.106 1.123 1.223 achieving a YoY tenants sales growth of 1-99% for 2017 (see P.2). Overall, EPS change (%) (10.4) 1.5 8.9 Daiwa vs Cons. EPS (%) 2.8 12.8 n.a. we expect to see improved news-flow related to HLP’s ex-Shanghai malls PER (x) 18.2 17.9 16.4 in the coming years, and we believe that there could be a gradual Dividend yield (%) 3.8 3.9 4.0 turnaround in the market’s perception about its assets outside Shanghai. DPS 0.770 0.780 0.800 PBR (x) 0.7 0.6 0.6 EV/EBITDA (x) 13.0 13.0 12.2 We see stronger prospects for rental businesses in the years ahead, as we ROE (%) 3.6 3.6 3.9 expect its rental properties in both HK and China to achieve sustained Source: FactSet, Daiwa forecasts growth in sales. This could be supplemented by gains from disposals of non-core assets or a new round of property sales projects from China. What we recommend: We reaffirm Buy (1) and raise our 12-month TP to HKD25.10 (from HKD23.70), still on a 40% discount to our end-2018E NAV of HKD41.8 (previously based on end-2017E). Key risk: inability to ramp up mall sales in tier-2 cities. How we differ: We have visited most of HLP’s malls in recent months and believe that many of their challenges have been already overcome. We think is it normal that it will take time for this to show up in its financial results, but this has yet to be recognised by the market. See important disclosures, including any required research certifications, beginning on page 5 Hang Lung Properties (101 HK): 30 January 2018 HLP: 2017 results highlights Our current views on HLP’s various malls and offices in China YoY (in CNY Asset Comments (HKDm) 1H16 2H16 2016 1H17 2H17 2017 chg terms) Plaza 66 mall The strongest pure luxury mall in Shanghai. Total revenue Grand Gateway Looks to be on its way to become one of the two major malls in the Rental income from HK 1,869 1,873 3,742 1,886 1,935 3,821 2% 66 Xujiahui area which could become the largest retail hub in Shanghai inner Rental income from China 2,038 1,957 3,995 1,949 2,009 3,958 -1% 0.4% ring. Property sales from HK 2,404 2,918 5,322 2,523 897 3,420 -36% Plaza 66 office Tenant adjustment was over by end-2017; remains a prestigious office 6,311 6,748 13,059 6,358 4,841 11,199 -14% building in the Nanjing Road West cluster of the Shanghai office market. Operating profit Palace 66, Has kept on progressing as a mall for the mass market, especially young Shenyang families and the middle class. Rental income from HK 1,604 1,592 3,196 1,625 1,593 3,218 1% Forum 66, Repositioning continues and could gradually evolve into a luxury mall Rental income from China 1,327 1,187 2,514 1,274 1,180 2,454 -2% -1% Shenyang serving more comprehensive needs (including education, gym, etc.) of a Property sales from HK 1,389 1,820 3,209 1,642 596 2,238 -30% selected group of wealthy, as well as the professionals working and living 4,320 4,599 8,919 4,541 3,369 7,910 -11% in the complex. Other income Centre 66, Wuxi Re-positioning seems to have worked and now with solid credentials to - Disposals of inv prop 2 6 8 2 462 464 58x become the number one mall in Wuxi, with a luxury component but also - Bank interest income 470 324 794 312 236 548 -31% other floors serving the mass as well. - Net exchange gain (7) 4 (3) 73 16 89 nm Parc 66, Jinan Repositioning is going on, with solid credentials to become the number - Others 164 39 203 (5) 1 (4) nm one mall in Jinan, being gradually upgraded to take in higher-end tenants. 629 373 1,002 382 715 1,097 9% Could have some luxury components eventually. Administrative expenses (307) (300) (607) (293) (287) (580) -4% Riverside 66, Able to avoid issues faced by Forum 66 and Centre 66 when the first Tianjin lease expires. Could evolve into like Grand Gateway 66 in Tianjin, and EBIT 4,642 4,672 9,314 4,630 3,797 8,427 -10% may eventually have some luxury components. Finance cost (540) (571) (1,111) (622) (580) (1,202) 8% Olympia 66, Able to avoid issues faced by Forum 66 and Center 66 when the first Share of asso & joint cos. 30 31 61 28 25 53 -13% Dalian lease expires. Solid credentials to become the number one mall in Dalian, Profit before tax 4,132 4,132 8,264 4,036 3,242 7,278 -12% with some luxury components alongside with more floors for the mass Tax (760) (760) (1,520) (797) (556) (1,353) -11% market. Minority interests (205) (198) (403) (199) (196) (395) -2% Center 66 office Solid credentials to be a top-tier office building in Wuxi. Underlying net profit 3,167 3,174 6,341 3,040 2,490 5,530 -13% Forum 66 office Solid credentials to be a top-tier office building in Shenyang. EPS (underlying, HKD) 0.70 0.71 1.41 0.68 0.55 1.23 -13% DPS (HKD) 0.17 0.58 0.75 0.17 0.58 0.75 0% BVPS (HKD) 28.42 28.14 28.14 28.86 30.27 30.27 8% Source: Company, Daiwa Source: Daiwa HLP: price/NAV multiple HLP: PBR (Disc)/prem Hang Lung Properties (disc)/prem to NAV PBR (x) Hang Lung Properties PBR 40% 3.5 over- over- returning Current NAV disc: -50.4% optimistic? pessimistic? to normal? 20% 3.0 2.5 0% +1SD: -15.9% 2.0 Current PBR: 0.66x (20%) Avg since 1990= -36.1% 1.5 +1SD: 1.35x (40%) average since 1.0 1990: 0.96x (60%) -1SD: -56.4% 0.5 -1SD: 0.56x (80%) 0.0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 1999 2001 2010 1992 1993 1994 1995 1996 1997 1998 2000 2002 2003 2004 2005 2006 2007 2008 2009 2011 2012 2013 2014 2015 2016 2017 2018 1991 Source: Datastream, Daiwa estimates Source: Datastream, Company, Daiwa Operating performance of HLP’s various properties Gross rental income Occupancy Retail sales YoY chg Year of 1H15 2H15 1H16 2H16 1H17 2H17 YoY HoH 2016 2017 YoY Jun Dec Jun Dec Jun Dec YoY HoH Property City opening (HKDm) (HKDm) (CNYm) (CNYm) (CNYm) (CNYm) chg chg (CNYm) (CNYm) chg 15 15 16 16 17 17 chg chg 2016 1H17 2017 Palace 66 Shenyang 2010 84 86 70 72 77 78 8% 1% 142 155 9% 84% 90% 89% 93% 88% 90% -3pp +2pp slight +ve +12% +8% Parc 66 Jinan 2011 168 167 135 127 133 138 8% 4% 262 271 3% 90% 88% 84% 91% 92% 94% +3pp +2pp slight -ve +8% +12% Forum 66 (mall) Shenyang 2012 127 111 80 68 58 53 -22% -9% 148 111 -25% 88% 87% 84% 84% 77% 83% -1pp +6pp slight -ve +2% +1% Forum 66 (office) Shenyang 2015 9 35 40 42 47 55 30% 17% 82 102 24% 30% 42% 49% 58% 69% 80% +22pp +11pp na na na Center 66 (mall) Wuxi 2013 125 92 78 72 68 74 3% 9% 150 142 -5% 80% 72% 76% 80% 84% 87% +7pp +3pp slight +ve +19% +16% Center 66 (office) Wuxi 2014 30 49 41 33 37 40 22% 8% 74 77 4% 60% 70% 58% 65% 77% 87% +22pp +10pp na na na Riverside 66 Tianjin 2014 121 120 96 95 90 91 -4% 1% 191 181 -5% 88% 86% 82% 82% 87% 89% +7pp +2pp slight +ve +14% +8% Grand Gateway 66 Shanghai 2001 607 589 484 490 451 432 -12% -4% 974 883 -9% 98% 97% 96% 96% 81% 77%* -19pp -4pp slight +ve +7% slight +ve Plaza 66 (mall) Shanghai 2002 452 433 332