HK$ Company Research HK & China China Overseas Land & Investment(688.HK) June 6, 212 China Overseas Land & Investment(688.HK) BUY Share price: HK$15.3 Target price: HK$18.4 Upside: +2% Strong costs control to drive profit margins Investment highlights A leading property developer in China. COLI mainly develops medium to high-end luxury residential properties. It was listed in Hong Kong in August 1992, and COLI became an HSI constituent stock in December 27. Analyst Peter Cao + 86 755 61865385 caohui@guosen.com.hk SFC CE No.:AVM93 Strong costs control represents major competitive advantage. COLI became China s No.1 property developer in 211 in terms of profitability, with its core profit reaching HK$13.2 billion. Between 27 and 211, COLI s average core net profit margin was 22%, significantly above the average of 15% for its listed peers. Price performance vs HSI 19 17 15 13 25, 23, 21, 19, Less susceptible to austerity measures. Compared to small to medium-sized developers, COLI s asset portfolio is more widely distributed, which allows it to flexibly adjust its marketing strategy to minimise the impact from tightening measures on property sales. Besides, a flexible and diversified portfolio mix enables COLI to quickly adapt to market changes. 11 17, 9 15, May/211 Oct/211 Mar/212 688.HK (HK$,LSH) HSI (RHS) Source: Bloomberg, data as at June 5, 212 Expect strong 212 results. We forecast COLI to generate pre-sales of HK$91.2 billion, HK$19.91 billion and HK$126.94 billion for 212-14 respectively. We forecast core EPS will gradually increase to HK$1.84, HK$2.14 and HK$2.53 over the next three years. Initiate coverage with a BUY rating. Our 12-month target price of HK$18.4 represents a dynamic P/E of 1.x, 8.6x and 7.3x for 212-14 respectively, and implies an 8.5% discount to our estimated year-end NAV of HK$2.1. Exhibit 1: Financial summary Year to Dec 21A 211A 212E 213E 214E Turnover (HK$ mn) 44,313 48,583 68,461 79,48 94,377 Chg (%) 18.7 9.6 4.9 16.1 18.7 Core net profit (HK$ mn) 9,87 13,2 15,14 17,489 2,644 Chg (%) 51.6 32.8 15.3 16.5 18. Core EPS (HK$) 1.2 1.59 1.84 2.14 2.53 P/E (x) 12.8 9.6 8.3 7.1 6.1 P/B (x) 2.3 1.8 1.5 1.3 1.1 Dividend per share (HK$).27.33.37.43.51 Source: Bloomberg, Guosen Securities Economic Research Institute Sales Contact Dan Weil Global Head of Institutional Sales and Trading Managing Director +852 2248 3588 dan.weil@guosen.com.hk Chris Berney Managing Director +852 2248 3568 chris.berney@guosen.com.hk Roger Chiman Managing Director +852 2248 3598 roger.chiman@guosen.com.hk Joe Chan Director +852 2248 3578 joe.chan@guosen.com.hk Cancy Kong Vice President +852 2248 3538 cancy.kong@guosen.com.hk For ratings definitions and other important disclosures, refer to the Information Disclosures at the end of this report. 1
China Overseas Land & Investment(688.HK) 1 A leading property company in China COLI also has other businesses such as property investment, real-estate management and building design to diversify its income source. China Overseas Land & Investment Ltd. (COLI), established in Hong Kong in 1979, is a subsidiary of the China State Construction Engineering Corp, the largest construction conglomerate in China. COLI mainly develops medium to high-end luxury residential properties, but it also has other businesses, such as property investment, real-estate management, building design, etc, to diversify its income source. After more than 3 years of continuous development, COLI has become a leading Chinese developer. It was the fifth biggest property company in China in 211 in terms of sales revenue. COLI was listed in Hong Kong in August 1992. Given its strong track record and prominent market position, COLI became an HSI constituent stock in December 27. Exhibit 2: COLI s equity structure State-owned Assets Supervision and Administration Commission 1% China State Construction Engineering Corp 52.7% China State Construction Engineering Corporation Limited (61668 CH) 1% China Overseas Holding Limited 53.1% China Overseas Land & Investment Ltd. (688 HK) 61.9% China State Construction International Holdings Limited(3311 HK) 37.9% China Overseas Grand Oceans Group Limited(81 HK) 2 Strong costs control represents a major competitive advantage COLI provides housing for over 5, residents in Hong Kong. After entering the Hong Kong market in 1979, COLI completed the construction of a number of residential and commercial property projects on Hong Kong Island, Kowloon and the New Territories, with a total floor area of 12.8 million square metres. It now provides housing for over 5, Hong Kong residents, which means one out of every 15 Hong Kong residents should be residing in properties constructed by COLI. Since 1984, the company has gradually expanded its market share through cooperation with Hong Kong s local property giants. It began to invest in property development, successfully transforming from being a contractor to a property developer. Guosen Securities (HK) Brokerage Co., Ltd. 2
Agile SOHO China COLI R&F (H) Longfor CRL POLY(HK) Shimao Country Gdn Greentown Evergrande Sino-ocean COLI Longfor Agile Evergrande Country Gdn Shimao Sino-ocean Greentown R&F (H) CRL SOHO China POLY(HK) China Overseas Land & Investment(688.HK) As property construction was COLI s core business before, the company has experience in maintaining tight project costs control, which enables it to achieve relatively high gross margins. At the same time, COLI keeps operating, administrative and financial expense ratios at low levels. Exhibit 3: Comparison of major developers gross margin Exhibit 4: Comparison of major developers expense ratios (including operating expense, management expense and financial expense) 6% 5% 4% 3% 2% 1% % 16% 14% 12% 1% 8% 6% 4% 2% % 3 Expected to enjoy strong momentum through support from parent company 3.1 COLI s majority shareholder is a key construction and property enterprise in China China State Construction Engineering Corp had been awarded contracts worth a total of RMB1.8 trillion as at end 21. China State Construction Engineering Corp, the majority shareholder of COLI, is a key state-owned conglomerate in China engaged in construction and property development. It s the No.1 housing construction contractor in China, and the world s largest residential housing construction company. As at the end of 21, China State Construction Engineering had been awarded contracts worth a total of RMB1.8 trillion, generated cumulative turnover of RMB1.8 trillion since its establishment in 1982, and held total assets of RMB38 billion. The group was ranked 147th on the Fortune Global 5 in 211. Given COLI is the flagship subsidiary of China State Construction Engineering Corp for property development, the group has extended tremendous support to it in terms of land purchase, construction projects, access to capital and business management, etc. 3.2 Taking the initiative to expand land reserves By leveraging its extensive experience, balance-sheet strength and strong support from its majority shareholder, COLI began to enter into the mainland property market in 1988. COLI accelerated its expansion in tier-1 cities, including Shenzhen, Guangzhou, Beijing and Shanghai, by increasing land reserves in 2. Then in 24, COLI started to aggressively purchase land in prime locations in tier-2 cities. After acquiring China Guosen Securities (HK) Brokerage Co., Ltd. 3
' sq m China Overseas Land & Investment(688.HK) Overseas Grand Oceans Group in 21, COLI developed the company into its platform for expanding into tier-3 cities, such as Yinchuan, Guilin, Nanchang and Hefei etc. COLI acquired China Overseas Grand Oceans Group in 21 for expanding its business into tier-3 Chinese cities. Given the aforementioned expansion, COLI managed to enter into a number of tier-1, tier-2 and tier-3 cities, with its business network covering six major regions. At present, COLI has a total GFA of 43.3 million sq metres of land reserves across 34 cities and areas, laying a strong foundation for its development over the next five years. Exhibit 5: Total GFA of COLI s land reserves, and the number of cities it covers 5, 45, 4, 35, 3, 25, 2, 15, 1, 5, 22 23 24 25 26 27 28 29 21 211 4 35 3 25 2 15 1 5 GFA of COLI's land reserves( ' sq m, LHS) Number of cities COLI's business covers (RHS) Exhibit 6: Distribution of COLI s business network (by region) Exhibit 7: Distribution of COLI s business network (by city).5% 17% 9% 2.3% 19.6% 12.8% 16.2% 29.8% 74% Pearl River Delta Bohai Sea Gulf Western China Yangtze River Delta Northern China Hong Kong and Macau Tier 1 cities Tier 2 cities Tier 3 cities 3.3 Relatively low land purchase costs The average purchase cost of COLI s land bank was equivalent to only 19.5% of its average property selling price in 211. As COLI is a central government-backed company, it has better access to high-quality land, and is able to control land purchase costs. As at the end of 211, the average purchase cost of COLI s land reserves were RMB2,51 per sq m, equivalent to only 19.5% of its average property selling price in 211. Guosen Securities (HK) Brokerage Co., Ltd. 4
22 23 24 25 26 27 28 29 21 211 ' sq m HK$ bn China Overseas Land & Investment(688.HK) Exhibit 8: COLI s average property selling price and land purchase cost 14, 12, RMB/Sq.m. 1, 8, 6, 4, 2, 25 26 27 28 29 21 211 Average property selling price (RMB/sq m) Average land purchase cost (RMB/sq m) 3.4 Continues to gain market share China s residential property market underwent rapid development during the past decade, boosted by acceleration in urbanisation. Given the sound industry fundamentals and leveraging its strong management capability, COLI increased its market share and consolidated its leading position in the industry during that period. Exhibit 9: COLI s contracted sales and contracted GFA Exhibit 1: COLI s market share continued to grow 6, 5, 4, 3, 2, 1, 1 9 8 7 6 5 4 3 2 1 1.6% 1.4% 1.2% 1.%.8%.6%.4%.2%.% 24 25 26 27 28 29 21 211 Contracted GFA (' sq m, LHS) Contract sales(hk$ bn, LHS) COLI's market share in terms of sales income COLI's market share in terms of GFA sold 3.5 Performing better than peers in terms of profitability COLI s core net profit margin of 22% is considerably higher than its listed peers of 15%. COLI became China s No.1 property developer in 211 in terms of profitability, with its core profit reaching HK$13.2 billion. Between 27 and 211, the company s average core net margin was 22%, much higher than the average of its listed peers of 15%. On the one hand, by leveraging its strong brand and good market reputation, COLI is able to sell properties with a relatively high premium. On the other hand, the company has the ability to control land purchase costs, construction costs and operating expenses. These two factors, in combination, enable it to enjoy good profitability. Over the past few years, COLI has managed to weather the financial crisis and keep its profit margin at Guosen Securities (HK) Brokerage Co., Ltd. 5
COLI Vanke Evergrande POLY(A) Country Gdn Agile CRL SOHO China Shimao Longfor R&F Greentown Sino-ocean POLY(H) RMB mn HK$mn China Overseas Land & Investment(688.HK) relatively high levels, which we believe is indicative of the company s strong risk management capability. Exhibit 11: 211 core profit and core net margin of major developers Exhibit 12: COLI s turnover, gross margin and net margin 12, 1, 8, 6, 4, 2, 3% 25% 2% 15% 1% 5% % 6, 5, 4, 3, 2, 1, 24 25 26 27 28 29 21 211 5% 45% 4% 35% 3% 25% 2% 15% 1% 5% % Core profit (RMB mn) Core profit margin Turnover (HK$ mn, LHS) Gross profit margin (RHS) Core net profit margin (RHS) 4 COLI is less susceptible to industry tightening measures 4.1 Stable financial condition COLI s financial condition remains stable despite its rapid and aggressive business expansion. As at the end of 211, the company s net debt-to-equity ratio 1 was only 33.3%. Standard Poor s and Moody s assigned BBB and Baa2 ratings respectively with stable outlook to COLI s corporate bonds issued this year. As a result, we believe the government s credit tightening have had limited impact on COLI s overall financial condition. 1 Net debt-to-equity ratio = (Gross debt - cash and cash equivalents) / Equity Guosen Securities (HK) Brokerage Co., Ltd. 6
China Overseas Land & Investment(688.HK) Exhibit 13: COLI s net debt-to-equity ratio 5% 45% 4% 35% 3% 25% 2% 15% 1% 5% % 25 26 27 28 29 21 211 Net debt ratio 4.2 Flexible marketing strategy and product mix Compared to small to medium-sized property companies, COLI s asset portfolio is more widely distributed across a number of areas and cities. This enables COLI to flexibly adjust its marketing strategy to minimise the impact from property tightening measures. For example, to boost its overall sales the company can launch more promotion activities in tier-2 and 3 cities where property demand is more robust. Exhibit 14: Distribution of COLI s 211 contracted sales by region 2.8% 18.8% 16.7% Pearl River Delta Yangtze River Delta Bohai Sea Gulf Northern China Western China Hong Kong and Macau 18.2% 2.1% 23.5% What s more, a flexible and diversified product mix enables COLI to quickly adapt to changes in market condition. According to COLI s management, the company plans to launch more small and medium-sized apartments to satisfy genuine demand, which won t be affected by the government s property regulations. 4.3 The property market is expected to become more concentrated We believe the property industry will become more concentrated going forward, as the pace of consolidation in the real-estate sector accelerates. Leading developers with competitive advantage in terms of access to capital, business scope, management capability, brand recognistion, etc, such as COLI, are expected to take advantage of the industry consolidation to expand market share and increase brand recognision. Under Guosen Securities (HK) Brokerage Co., Ltd. 7
HK$ bn China Overseas Land & Investment(688.HK) such a scenario, leading companies are well positioned to strengthen their competitive advantages, with their profit growth expected to significantly outperform the industry average. Exhibit 15: Combined market share of the top 1 Chinese property developers 11% 1% 1.2% 1.4% 9% 8% 8.2% 7% 6% 29 21 211 Market share of top ten property developers in China's property market 5 Forecast strong 212 results 5.1 Well-placed to achieve its 212 pre-sales target COLI has conservatively set a pre-sales target of HK$8 billion for 212, slightly lower than its 211 pre-sales income of HK$87.1 billion. The amount of sellable properties is on track to reach HK$125 billion this year, HK$2 billion of which come from the Hong Kong and Macau markets, according to the company s forecasts. During the first two months of 212, COLI s contracted sales grew 42% y-o-y to HK$17.1 billion, out of which HK$4.8 billion came from the Hong Kong and Macau markets. We believe the company is well positioned to achieve its 212 target in view of its robust sales momentum. Exhibit 16: COLI s contracted sales and contracted sales growth 1 9 8 7 6 5 4 3 2 1 27 28 29 21 211 Jan-Feb 212 9% 8% 7% 6% 5% 4% 3% 2% 1% % Contract sales(hk$ bn, LHS) Y-o-y growth rate of contract sales (RHS) Guosen Securities (HK) Brokerage Co., Ltd. 8
China Overseas Land & Investment(688.HK) 5.2 High pre-sales to drive up results Given COLI s pre-sales totaled HK$55.2 billion as at the end of 211, and it achieved another HK$38. billion of pre-sales over Jan-Apr 212, COLI s pre-sales should have amounted to HK$93.2 billion as at the end of Apr 212, much more than HK$68.46 billion, the estimated 212 full year turnover. As pre-sales will be included in the company s balance sheet after the delivery of properties, this means the company s 212 results are basically guaranteed. According to COLI s development plan, it targets to deliver properties with a total GFA of 7 million sq m in 212, up 25% y-o-y. Under such a scenario, we believe COLI s results could be in line or even exceed our forecast for this year. Exhibit 17: COLI s undelivered pre-sales HK$ bn COLI's undelivered pre-sales as of Apr 212 (HK$ bn) 93.2 2 4 6 8 1 5.3 Earnings forecasts We forecast COLI s pre-sales to reach HK$91.2 billion, HK$19.91 billion and HK$126.94 billion respectively over 212-14. The company s turnover is on course to increase to HK$68.46 billion, HK$79.48 billion and HK$94.38 billion respectively over this period, in our view. Exhibit 18: COLI s contracted sales Exhibit 19: COLI s turnover 14, 12, 1, 8, 6, 4, 2, HK$mn 21 211 212E 213E 214E 1, 9, 8, 7, 6, 5, 4, 3, 2, 1, HK$mn 21 211 212E 213E 214E Pre-sales (HK$ mn) Turnover (HK$ mn, LHS) Based on our forecasts, COLI s gross margin will be 37.1%, 36.9% and 37.%, while its core net profit margin is forecast to reach 21.9%, 22.% and 21.9% respectively over 212-14. Guosen Securities (HK) Brokerage Co., Ltd. 9
China Overseas Land & Investment(688.HK) Exhibit 2: COLI s gross profit margin 5% Exhibit 21: COLI s core net profit margin 3% 45% 4% 25% 35% 3% 2% 25% 2% 15% 15% 1% 21 211 212E 213E 214E 1% 21 211 212E 213E 214E Gross profit margin Core net profit margin We forecast the company s core EPS will gradually increase to HK$1.84, HK$2.14 and HK$2.53 over the next three years. Exhibit 22: COLI s Core EPS 3. 2.5 HK$ 2. 1.5 1..5. 21 211 212E 213E 214E Core EPS(HK$) 6 Valuation & recommendation COLI is trading at a 23.9% discount to NAV of HK$2.1 at the end of 212E, and a prospective P/E of 8.3x, 7.1x and 6.1x for 212-14E respectively. We initiate coverage of COLI with a Buy rating. Our 12-month target price of HK$18.4 reflects a dynamic P/E of 1.x, 8.6x and 7.3x for 212-14 respectively, and implies a 8.5% discount to NAV. Given COLI s strong track record, stable operations and robust growth momentum, the company is well-placed to further expand its market share, and the counter s valuations are expected to rebound going forward, in our view. 7 Risks China s economy could experience a hard landing. Construction contractors could fail to complete projects on schedule Guosen Securities (HK) Brokerage Co., Ltd. 1
China Overseas Land & Investment(688.HK) Property sales momentum is weaker than expected. Exhibit 23: Income statement (HK$ mn) 21 211 212E 213E 214E Turnover 44,313 48,583 68,461 79,48 94,377 Property sales income 42,962 46,764 66,243 76,772 91,66 Property rental income 294 359 467 67 789 Other income (property agency/ real estate management) 1,57 1,46 1,751 2,12 2,522 Operating cost (26,539) (27,91) (43,95) (5,15) (59,411) Operating gross profit 17,774 2,673 25,367 29,33 34,966 Selling and distribution costs (593) (662) (89) (133) (1321) Administrative expenses (1314) (1236) (1,712) (1,987) (2,359) Other revenue 1,31 1,593 1,593 1,593 1,593 Earnings Before Interest, Tax, Depreciation 16,899 2,369 24,358 27,93 32,878 Depreciation Amortization Earnings Before Interest & Tax 16,899 2,369 24,358 27,93 32,878 Finance costs (461) (591) (768) (921) (1,16) Profit/loss attributable 335 922 1,87 2,94 2,484 Fair value changes 2,16 3,2 Profit from other businesses 1,78 46 Profit before taxation 2567 23766 25,397 29,75 34,256 Income tax (7898) (8646) (9,592) (1,665) (12,525) Annual profit 12,67 15,12 15,85 18,41 21,731 Profit attributable to minority shareholders 296 94 79 92 1,87 Net profit 12373 1526 15,14 17,489 2,644 Core profit 9,87 13,2 15,14 17,489 2,644 EPS(HK$) 1.51 1.84 1.84 2.14 2.53 Core EPS(HK$) 1.2 1.59 1.84 2.14 2.53 Dividend per share(hk$).27.33.37.43.51 Guosen Securities (HK) Brokerage Co., Ltd. 11
China Overseas Land & Investment(688.HK) Exhibit 24: Balance sheet (HK$ mn) 21 211 Cash 32,23 19,179 Short-term investments Net accounts receivable 4,36 2,879 Inventory 84,469 97,55 Other current assets 5,43 8,421 Total current assets 125,895 127,984 Fixed assets 319 338 Investment properties 14,54 17,765 Intangible assets 149 19 Long-term equity assets 11,557 16,32 Other long-term assets 1,274 13,747 Total assets 162,248 175,975 Liability and shareholders' equity Short-term liabilities 1,214 9,82 Pre-sales 23,274 24,48 Tax liabilities 1,952 12,68 Other current liabilities 16,958 2,949 Total current liabilities 61,398 67,929 Long-term liabilities 34,324 32,83 Other long-term liabilities 8,584 4,658 Total liabilities 14,36 15,391 Equity attributable to minority 3,27 273 Shareholder s equity 54,735 7,312 Guosen Securities (HK) Brokerage Co., Ltd. 12
China Overseas Land & Investment(688.HK) Information Disclosures Stock ratings, sector ratings and related definitions Stock Ratings: Buy: A return potential of 1 % or more relative to overall market within 6 12 months. Neutral: A return potential ranging from -1% to 1% relative to overall market within 6 12 months. Sell: A negative return of 1% or more relative to overall market within 6 12 months. Sector Ratings: Buy: The sector will outperform the overall market by 1% or higher within 6 12 months. Neutral: The sector performance will range from -1% to 1% relative to overall market within 6 12 months. Sell: The sector will underperform the overall market by 1% or lower within 6 12 months. Interest disclosure statement The analyst is licensed by the Hong Kong Securities and Futures Commission. Neither the analyst nor his/her associates serves as an officer of the listed companies covered in this report and has no financial interests in the companies. Guosen Securities (HK) Brokerage Co., Ltd. and its associated companies (collectively Guosen Securities (HK) ) has no disclosable financial interests (including securities holding) or make a market in the securities in respect of the listed companies. Guosen Securities (HK) has no investment banking relationship within the past 12 months, to the listed companies. Guosen Securities (HK) has no individual employed by the listed companies. Disclaimers The prices of securities may fluctuate up or down. It may become valueless. It is as likely that losses will be incurred rather than profit made as a result of buying and selling securities. The content of this report does not represent a recommendation of Guosen Securities (HK) and does not constitute any buying/selling or dealing agreement in relation to the securities mentioned. Guosen Securities (HK) may be seeking or will seek investment banking or other business (such as placing agent, lead manager, sponsor, underwriter or proprietary trading in such securities) with the listed companies. Individuals of Guosen Securities (HK) may have personal investment interests in the listed companies. This report is based on information available to the public that we consider reliable, however, the authenticity, accuracy or completeness of such information is not guaranteed by Guosen Securities (HK). This report does not take into account the particular investment objectives, financial situation or needs of individual clients and does not constitute a personal investment recommendation to anyone. Clients are wholly responsible for any investment decision based on this report. Clients are advised to consider whether any advice or recommendation contained in this report is suitable for their particular circumstances. This report is not intended to be an offer to buy or sell or a solicitation of an offer to buy or sell the securities mentioned. This report (including any information attached) is issued by Guosen Securities (HK) Brokerage Co., Ltd, a member of Guosen Securities Co., Ltd. Some parts of the report may have been originally published in Chinese, within the People s Republic of China, by Guosen Securities Co., Ltd. That material has been reviewed, translated and, where applicable, adapted by Guosen Securities (HK) Brokerage Co., Ltd. This report is for distribution only to clients of Guosen Securities (HK). Without Guosen Securities (HK) s written authorization, any form of quotation, reproduction or transmission to third parties is prohibited, or may be subject to legal action. Such information and opinions contained therein are subject to change and may be amended without any notification. Guosen Securities (HK) Brokerage Co., Ltd. 13