Maintaining Hold, new TP HK$49.82
We remain cautious on the HK retail and hotel markets (two of Wharf’s key markets), given weakening visitor arrivals and tourist spending in HK, and weakening retail sales. In addition, we are cautious on the oversupply situation in the office market in Tier-2 cities (where Wharf’s new IFSs are). However, with Wharf’s current undemanding valuations (47% NAV discount and 0.43x 2015E P/B), we believe these issues are more or less priced in, although we also see a lack of positive catalysts for the next 12 months.
1H15 underlying net profit +5% YoY, in line with expectation
Wharf’s underlying profit rose 5% YoY to HK$5,258mn, boosted by the resilient performance of IP, where the profit contribution rose to 80% of total core profit (vs. 75% in 1H14). In particular, HK rental revenue rose 9% YoY on the back of firm base rent for retail and positive rental reversion for offices. Meanwhile, rental revenue in China rose 34% YoY on the higher contribution from Chengdu IFS (revenue surged by 85% YoY). However, DP saw core profit -51% YoY, dragged by a profit fall from China JV/associates, and Greentown ceased to be an associate (EBIT actually improved to 17.3% vs. 16.1% in 1H14). An interim dividend of HK$0.55/shr was declared in 2015 (flat YoY).
Pace of deterioration in Hong Kong retail market accelerating
The increased negative news flow associated with retailers recently suggests the pace of deterioration in the HK retail market has accelerated. This reaffirms our cautious view on the HK retail market, which we believe is just at the beginning of a multi-year structural de-rating. On the back of the softening trend in tourist arrivals, stretched financial position of local households and potential negative wealth impact associated with the recent stock market volatility, we expect further downward pressure on retail sales, which will ultimately drag retail rents. We expect prime retail rents to fall by as much as 15-20% in the next 12m. With HK retail property making up 41% of our est. NAV of Wharf, the deteriorating HK retail market presents a major overhang.
Valuations undemanding at current 47% NAV discount
We cut our est. NAV from HK$94.63 to HK$83.04, mainly as we adjust our assumptions on RMB, and cap rates, rental and ASP assumptions for Wharf’s properties in both China and HK. When determining our TP, we apply a 40% NAV discount – in line with the historical average. Downside/upside risks: weaker-than- expected economic conditions/prolonged low interest rate.