Upgrade to Buy on attractive valuation/good earnings visibility; TP HK$21.38We upgrade Kerry Properties to Buy (from Hold) with a target price ofHK$21.38. Following the recent sell-off, we believe current valuations havemostly priced-in the 3-year bearish outlook on HK property. Current valuationsremain above the historical trough, but with better earnings visibility on theback of much higher contributions from recurring rental income, we believe thehistorical reference may be less relevant. In particular, total leasable area of itsIP portfolio has grown markedly since 2006, with its China IP size increasing81%. Moreover, we believe this established portfolio should support a steadydividend going forward regardless of volatility in development bookings.
Current valuations still above historical trough but less relevant due to bigger IPKerry Properties has historically traded at an average discount of 46% to NAV(ranging between the peak premium of 21% in 2006 and the trough discountof 86% in 1998), P/E of 12x (peaked at 34x in 1996 and troughed at 2x in 1998)
and P/B of 0.6x (peaked at 1.9x in 2007 and troughed at 0.1x in 1998). Afterthe 22% sell-off in the past two months, Kerry now trades at a 55% discount toNAV, 7x PE, and 0.3x PB with a 5.1% potential dividend yield. While suchvaluations are above historical troughs, we believe historical references may beless relevant considering the material increase in contribution from recurringrental income that greatly enhances earnings visibility.
Total leasable area risen to 11.3mn sf; China IP size risen 87% since 2006As of mid-2015, Kerry had a total leasable area of 11.3mn sf, with its China IPincreasing by 87% since 2006. Consequently, rental revenue had grownmarkedly to HK$3,169mn in FY14 (from just HK$962mn in 2006), particularlyboosted by the opening of Jing An Kerry Centre in 2013/14. In our view, thisestablished IP portfolio should support a steady dividend going forwardregardless of volatility in development bookings. Indeed, our projected FY15-18DPS is based on payout of only 37-47% of core profits (despite factoring-inASP/rental declines), and such dividend is fully covered by recurring income.
Target price at 45% discount to our estimated NAV of HK$38.87/shareOur target price of HK$21.38 is based on a 45% NAV discount to our estimatedNAV of HK$38.87/share, which implies 2015E PER of 9x. Our target discount ismostly on par with its historical discount to NAV, which is markedly steeperthan industry leaders, reflecting Kerry’s slower asset turnover, lower marketcapitalisation and less-proven execution capabilities, which we believe isappropriate. Risks: rate hike and fluctuations in HK/China economies.