Time to look at Singapore-listed blue chip developers

CDL, UOL and CapitaLand shares present investors with significant valuation upside if they can ride out this down cycle

Tue, May 26, 2020

Marissa Lee


PRIVATE home prices are poised for a moderate decline as unemployment looks set to rise and property viewings continue to be disallowed due to social distancing measures.

But shares of the largest Singapore-listed developers look attractive as they are trading close to previous trough scenarios - presenting investors with significant valuation upside if they can ride out this down cycle, analysts said.

RNAV, or revalued net asset value, is the most widely used valuation method for locally listed developers.

RNAV is similar to the NAV or book value reported by firms in their financial statements, except that adjustments and estimates are made to reflect more recent market values for the firm's assets and liabilities.

Developers typically trade at a discount to their RNAVs. The discount is larger if a firm is in a weaker financial position, or when industry fundamentals weaken.

After a broad market sell-off in March, developer valuations have already been pushed lower.

According to a report from CGS-CIMB, the sector was trading at a 57 per cent discount to RNAV as at May 6. This is close to two standard deviations from its long-term mean.

For investors looking for bargains, the developers in the Straits Times Index are a good place to start.

City Developments

Among the blue chips, CDL is often said to be the most direct proxy for investing in the Singapore residential sector. The gross development value of its Singapore residential inventory accounts for roughly one-third of its stock valuation.

For CDL, its published NAV is said to be conservative because the group accounts for investment properties on a historical cost basis, less accumulated depreciation and impairment losses.

Recently, CDL started publishing its own RNAV figure that includes fair value gains on investment properties. But brokers also have their own figures.

CGS-CIMB has a target price of S$10.13, based on a 45 per cent discount to its assessed RNAV per share of S$18.42. UOB Kay Hian's target price is S$12.50, or a 20 per cent discount to its assessed RNAV per share of S$15.60. CDL's stock last closed at S$7.38.

Adrian Loh, head of research at UOB Kay Hian, explained: "Investors need to look at the sell-side numbers and overlay whether they are more bullish or bearish compared to other analysts... How far away are the analysts from the company's own numbers? Is this reasonable? Is the discount to RNAV appropriate for the current point in time, and more importantly is it appropriate for the next six to 12 months or whatever time horizon that the investor is looking at?

"Does the discount appropriately factor in management capabilities, branding, execution track record, etc? Investors need to ask these questions and have to make a call as to whether the rationale is cohesive and well thought-out."

Citi analyst Brandon Lee has a S$14.15 target price for CDL based on a 30 per cent discount to an RNAV per share of S$20.22.

This discount is in line with what was seen during the last down cycle from the fourth quarter of 2013 to the second quarter of 2017, said Mr Lee. In 2013, a Total Debt Servicing Ratio framework was introduced to cap borrowing and cool the property market.

CDL is also in the midst of transforming itself to add stable and long-term revenues to its portfolio. Mr Lee's choice of assumptions takes this into account. "As the company shifts away from being a Singapore proxy, we believe that its historical trading bands may no longer be reflective of its forward trading bands," he said.

Key inputs into any developer's RNAV would be the value of its development properties, the value of the investment properties from which it earns rent, and the value of its stakes in other companies.

Credit Suisse says it values residential development properties by forecasting their take-up schedule and selling prices over the next 10 years, using an 8 per cent to 12 per cent discount rate for Singapore and overseas, respectively.

For investment properties, analysts will usually apply the appropriate cap rates to the income derived.

Investors trying to pick an entry point for CDL should also consider its stakes in Millennium & Copthorne Hotels and CDL Hospitality Trusts.

These two assets, alongside CDL's own hotel operations, account for about one-third of CDL's RNAV by most analysts' estimates. So the outlook for the hotel sector is another focus point for the stock.

UOL

UOL, owned by the Wee family of United Overseas Bank, is considered a good proxy to the overall Singapore property market. Roughly 83 per cent of its RNAV comes from Singapore property, compared to 60 per cent for CDL, according to Citi.

While CDL has greater exposure to the residential space, UOL is more exposed to commercial properties. It is among the largest commercial landlords and operators of hotel and serviced suites here. This means its income profile is more stable, with a larger recurring base. Credit Suisse estimates that 75 per cent of UOL's income sources are recurring, versus 58 per cent for CDL.

Citi's Mr Lee has an S$8.03 target price for UOL, based on a 25 per cent discount to an RNAV of S$10.70. "We believe UOL deserves to trade at a slightly narrower RNAV discount (than CDL), given its smaller exposure to overseas markets (hence lower risk to currency fluctuations) and the hospitality sector," he said. UOL last traded at S$6.49.

UOL's investment properties - shops, offices and serviced suites - are revalued annually. But its hotel properties are booked under property, plant and equipment at cost.

The company also owns a 50.4 per cent stake in locally listed United Industrial Corporation (UIC). UIC owns a portfolio of prime commercial assets in Singapore, and currently trades below its book value. More conservative RNAV estimates would adopt the market value of UIC, though others hope to see value unlocked from a potential restructuring.

UOL is also less leveraged than other developers, which is an advantage as it has more headroom to use debt to fund purchases. Said JP Morgan analysts: "With (net debt-to-equity) at a sub-optimal 30 per cent, we see significant upside for return on equity provided acquisitions remain of high quality."

Finally, UOL's shares have been supported by consistent insider purchases. The Wee family vehicle was buying on dips in March at prices ranging from S$6.09 to S$6.56.

CapitaLand

CapitaLand, which is 51 per cent owned by Temasek Holdings, has a smaller exposure to Singapore's private home market.

In fact, most of CapitaLand's assets are in China. The key asset class driving its recurring income is retail, though the group also owns offices and serviced residences.

Citi puts CapitaLand's China retail portfolio at 24 per cent of RNAV, while China property development contributes 16 per cent.

Citi has a S$4.42 target price for CapitaLand, based on a 30 per cent discount to RNAV of S$6.31. CapitaLand closed last week at S$2.87.

CapitaLand's investment properties are stated at their fair values based on annual valuations while its hotel properties are valued at cost.

Other contributors to RNAV include five Reits that are consolidated into the group's revenues. These are CapitaLand Mall Trust (CMT), CapitaLand Commercial Trust (CCT), Ascott Residence Trust (ART), CapitaLand Retail China Trust and CapitaLand Malaysia Mall Trust.

The ones to watch are CMT and ART. DBS Credit Research estimates that ART will contribute to 11 per cent of group revenue after its merger with Ascendas Hospitality Trust, while CMT will contribute around 19 per cent after its merger with CCT.

Separately, CapitaLand earns fund management income from its growing assets under management. An earnings multiple is typically applied to its fund management business to add to the RNAV tally.

At its current price, CapitaLand also offers investors a forward yield of 4 per cent. Most analysts are projecting yields in the low 2 per cent range for CDL and UOL. But those dividend projections may change.

UOB Kay Hian's Mr Loh said: "I think many businesses in the current environment will find it difficult to maintain a steady dividend versus last year's, just because the economic transition to normality is likely going to be bumpy, and potentially longer than expected. Thus these companies will need to conserve cash. So I don't think that developers are going to be any different."

Investors might also want to think about whether Covid-19 could drive structural changes in the property market. Firms may find, for instance, that productivity rises when employees work remotely. Or, more people may get used to online shopping.

Mr Loh said: "Longer term, we wonder whether consumer and corporate behaviour will forever be changed by the Covid-19 lockdowns. The SARS epidemic in 2003 arguably ushered in China's penchant for transacting online. Should Covid-19 result in long-term changes in consumer and corporate behaviour, this could have a lasting effect on various segments of the property market."