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New World Development’s NWS disposal cash windfall should be used to opportunistically buy back bonds – Credit Report

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[Financial model of New World Development]

Proceeds from New World Development’s (NWD) disposal of its entire 60.9% stake in Hong Kong-listed construction company and toll road operator subsidiary NWS Holdings should be used to opportunistically repurchase its bonds and perpetual securities. The sluggish property sector in mainland China and Hong Kong leaves it with few better options to redeploy that cash into investments with higher IRRs.

A case in point is that the yield-to-worst (YTW) on its bonds far exceed the Hong Kong-based and -listed conglomerate’s net operating yield on its completed investment properties. Its USD 950m, 4.125% due-July 2029 bonds had 10.6% YTW as of 15 November while net operating yield on completed investment property – accounting for 37.6% of total assets as of end-June excluding 74.99%-owned and consolidated Hong Kong-listed Chinese department store operator New World Department Store China (NWDS China) – remain stubbornly low at sub-2% in the last five years. This is far below the about 4% yields achieved by its Hong Kong-listed peers (see table 3) and its current bank loan funding costs – HIBOR+110bps, per its FY2023 annual results presentation.

Management on a 29 September earnings call said that it was planning to repay debt and or buy back its bonds and perpetual securities using proceeds from the NWS Holdings sale. Even before the planned sale, the conglomerate and its subsidiaries in FY23 through to end-June retired aggregate USD 483m principal senior notes and perpetual securities through a series of tender offers (see table 1 for details of the buy backs).

Following the NWS Holding disposal and the distribution of HKD 4bn special dividend, NWD would have HKD 47.1bn (USD 6.0bn) unrestricted cash excluding cash held by NWDS China (see first bullet of key takeaways for calculation). The conglomerate is also looking to sell at least HKD 7.3bn (USD 935m) in mature Hong Kong commercial real estate including its D.Park mall in Tseun Wan (see table 2). This is more than ample to meet all its debt obligations due by end-June 2024 comprising HKD 5bn (USD 642m) principal across six public bonds tranches and a reported HKD 38.3bn (USD 4.9bn) in bank loans.

Most – if not all – its bank loans are likely be rolled because the conglomerate has stable banking relationships (see third bullet of key takeaways for details) which is supported by its substantial asset value. On top of the HKD 47.1bn pro forma unrestricted cash and HKD 2bn restricted cash, NWD had as of end-June HKD 277.5bn (USD 35.6bn) assets including development properties that it could sell, far exceeding the HKD 203.1bn (USD 26.0bn) debt including perpetual obligations outstanding as of 15 November, per Debtwire estimates (see chart 1 and table 8 & 9 at the bottom of this report for detailed estimates).

Nonetheless, longer term prospects for the third-generation scion 44-year-old Adrian Cheng-controlled conglomerate is expected to be lacklustre after it completes by 4 December 2023 the disposal of its cash cow construction and toll road subsidiary to Cheng family’s privately held Chow Tai Fook Enterprise (CTFE).

This is because of NWD’s significant debt-financed capex into low-yielding investment properties: NWD – excluding NWS Holdings and NWDS China – burnt an aggregate HKD 14.7bn (USD 1.9bn) free cash flows (FCF) in the three-year period between FY21 to FY23 through to end-June. In contrast, over the same period, NWS Holdings generated HKD 10.8bn (USD 1.4bn) in FCF while NWDS China generated HKD 432m in FCF (see chart 2 for details).

Solid albeit overvalued investment property portfolio

NWD’s disclosures don’t explain why the net operating yield on its completed mostly Hong Kong, tier-1 and-2 city investment property portfolio is well below the levels reported by its Hong Kong-listed peers, suggesting that either occupancy rates are far below industry averages or that the book values are too aggressive. NWD does not disclose occupancy rates across its investment property portfolio. The investment property portfolio was independently valued as of end-June by Jones Lang LaSalleAVISTA GroupColliers International (Hong Kong) LimitedSavills and Knight Frank, per disclosures in its FY23 annual report.

Debtwire estimates that completed investment properties book value owned by NWD other than NWS Holdings and NWDS China should be cut by 52% or HKD 81.4bn to HKD 75bn based on a 3.94% peer-average capitalisation rate (see table 3) on HKD 3.0bn net operating income in FY23. NWD’s net operating yields – calculated by segment net income (before interests, taxes and fair value changes) for the fiscal year divided by end-fiscal year completed investment properties book value – were sub-2% in the last five years (see chart 3 for trends in NWD’s net operating yields between FY2019-FY2023).

NWD reported investment properties book value of HKD 209.5bn as of end-June, of which HKD 198.7bn were owned by NWD other than NWS Holdings and NWDS China. Of the HKD 198.7bn book value, HKD 156.3bn or 78.7% were completed investment properties and HKD 42.4bn or 21.3% were still under development (see chart 4 for details).

Hong Kong accounted for 33.6% of its 3.1m sqm investment properties attributable GFA held by NWD other than NWS Holdings and NWDS China. Tier-1 and -2 cities accounted for 18.6% and 40.3%, respectively, while tier-3 or below cities made up the remaining 7.5% of GFA (see chart 5 for details).

Hong Kong contracted sales and development landbank 

NWD’s Hong Kong contracted sales will likely face headwinds in the next 12 months because around half its near-term saleable resources are in Kai Tak area where there is a supply glut (see chart 10 and 11 for details). On top of that, amid rising interest rates, residential and commercial property sales have been very weak.

NWD reported in calendar 1H23 attributable contracted sales from Hong Kong of only HKD 1bn, down 77.3% YoY from HKD 4.4bn in the same period a year ago (see chart 6 for details)3Q23 through to end-September industry data compiled by Hong Kong property agency Centaline shows that the number of new home transactions were down 28.9% QoQ and 29.5% YoY.

Hong Kong accounted for HKD 68.5bn or 47% of the conglomerate’s total attributable residential landbank gross development value (GDV).

In addition to the residential attributable landbank, NWD has in Hong Kong a total attributable agricultural land area of around 16.36m sqf pending conversion to residential/commercial, most of which is expected to take more than three years to convert. The conglomerate will be able to generate HKD 111.2bn net profit assuming all of the agricultural landbank is converted for residential developments, per Debtwire estimates (see table 4 for details).

Mainland China contracted sales and development landbank

NWD’s mainland China contracted sales should continue to fare better than other Chinese developers thanks to its saleable resources that are heavily weighted to higher tier cities. The conglomerate’s calendar 1H23 mainland China contracted sales were down by 24.1% YoY to CNY 5.9bn (HKD 5.5bn) (see chart 7 for details), compared to a 32.4% YoY decline for aggregated contracted sales by the 32 mainland China developers (excluding NWD) that still provided comparative data in the same period, as monitored by Debtwire’s China HY property tracker.

NWD had HKD 77.1bn (CNY 71.6bn) attributable residential landbank GDV in mainland China as of end-June, accounting for 53% of the conglomerate’s total attributable residential landbank GDV. Of its mainland China landbank GDV, tier-1 and-2 cities accounted for 39.5% and 44.1%, respectively (see chart 8 and 9 for details). Its key projects available for sale in the coming seven months include three projects – two in Guangzhou and one in Hangzhou – with combined GDV of CNY 26.5bn (HKD 28.5bn), per NWD’s FY23 results presentation.

Other takeaways from NWD’s FY23 results for the year ended 30 June released on 29 September and other recent developments:

  • NWD’s pro forma unrestricted cash excluding cash held by NWDS China and after the deconsolidation of NWS Holdings of HKD 47.1bn was calculated by adjusting end-June reported consolidated unrestricted cash of HKD 32.8bn for: 1) HKD 17.8bn (USD 6.0bn) net proceeds – after the HKD 4bn special dividend – to be received from the 60.87% NWS stake disposal; 2) redemption of HKD 3.5bn offshore senior notes across three tranches in September. NWD reported HKD 52.5bn in unrestricted cash as of end-June comprising HKD 19.2bn at NWS Holdings, HKD 524m at NWDS China and HKD 32.8bn at NWD and other subsidiaries.
  • The conglomerate has HKD 203.1bn pro forma debt excluding NWDS China and NWS Holdings. NWD repaid HKD 3.5bn senior notes across three tranches that it guaranteed in September. Pro forma debt comprises HKD 99.3bn unsecured loans, USD 4.7bn (HKD 36.7bn) perpetuals across five tranches, HKD 33.3bn offshore bonds across 23 tranches, HKD 26.7bn secured loans, HKD 4.9bn loans from non-controlling shareholders, HKD 1.1bn lease liabilities and CNY 1bn (HKD 1bn) onshore commercial mortgage-backed securities (CMBS). NWD reported HKD 243.4bn total debt as of end-June comprising HKD 35.3bn at NWS Holdings, HKD 3.8bn at NWDS China and HKD 204.2bn at NWD and other subsidiaries.
  • The conglomerate’s unsecured loans – excluding those at NWS Holdings and NWDS China – as of end-June was relatively stable compared to six months and one year prior despite generally tighter financing conditions. It had HKD 99.3bn unsecured loans as of end-June, down 3.3% HoH but up 4.3% YoY (see chart 12 for unsecured loans outstanding in the past three years, table 5 for bank loans raised in FY23 and table 6 for bank loans due in FY24).
  • NWD’s FY23 dividend payout was HKD 1.9bn (equivalent to HKD 0.76/share) comprising HKD 755m (HKD 0.3/share) final dividend declared and not paid on 29 September and HKD 1.2bn (HKD 0.46/share) interim dividend paid in calendar 1H23. FY23 total dividend was 63.1% lower compared to HKD 5.2bn (HKD 2.06/share) paid for FY22. The conglomerate plans to distribute HKD 4bn (HKD 1.59/share) in special dividends from the proceeds of NWS stake divestment, per the earnings call.
  • The conglomerate sold HKD 5.9bn of Hong investment property assets in FY23 down from HKD 13.9bn in FY22 (see table 7 for details on FY23 asset sales).

Company Description

New World Development Company Limited is a Hong Kong-based and -listed conglomerate. It was established in 1970 by Cheng Yu-tung and subsequently listed on Hong Kong Stock exchange in 1972. Chow Tai Fook Enterprise Limited – which is controlled by Cheng Yu-tung family – owns a 45.24% stake in NWD as of 30 June.

NWD’s key listed subsidiaries include 74.99%-owned New World Department Store China Limited and soon-to-be deconsolidated 60.87%-owned NWS Holdings Limited.

Its businesses are divided into the following segments:

  • Property development: includes residential and commercial properties development in Hong Kong and mainland China. The segment generated HKD 8.7bn operating profit for NWD in FY23 or 59.8% of the conglomerate’s total operating profit for the period.
  • Property investment: includes investments in and collection of rental income from commercial properties located in Hong Kong and mainland China. The segment generated HKD 3.2bn operating profit in FY23 or 21.9% of the conglomerate’s total operating profit for the period.
  • Insurance (owned through NWD Holdings): includes provision of life insurance and medical insurance products in Hong Kong through NWS Holdings-wholly owned subsidiary FTLife Insurance Company Limited. The segment generated HKD 2.0bn operating profit in FY23 or 13.6% of the conglomerate’s total operating profit for the period.
  • Toll roads (owned through NWS Holdings): include operations of 18 toll roads in seven provinces and centrally governed municipalities of Mainland China. The segment generated HKD 1.9bn operating profit in FY23 or 13.3% of the conglomerate’s total operating profit for the period.
  • Construction (owned through NWS Holdings): includes provision of design and construction services in Hong Kong. The segment generated HKD 360m operating profit in FY23 or 2.5% of the conglomerate’s total operating profit for the period.
  • Hotel operations: includes operations and management of 15 hotels in Hong Kong, Mainland China and South-East Asia. The segment generated an operating loss of HKD 444m in FY23.
  • Others: include facilities management, logistics (both owned through NWS Holdings), department stores (owned through NWDS China) and others. The segment generated an operating loss of HKD 1.2bn in FY23.