Main points of investment

Hengsheng real estate released its 2012 annual report on Tuesday, saying that earnings per share were 12% lower than our forecast and 27% lower than market expectations.

Revenue and core net profit fell 59 per cent year-on-year in 2012, respectively. Revenue in 2012 fell 13% year-on-year to 8.4 billion yuan, 6% higher than our forecast, but 21% lower than consensus. Among them, the recorded area increased by 3% compared with the same period last year, but the average recorded price fell 15% year-on-year to 8040 yuan per square meter, significantly lower than we expected. This is mainly due to the fact that more of the recorded area comes from second-and third-tier cities (Shanghai's share fell to 18% from 50% in 2012). As a result, gross profit margin and net profit margin fell 16.7 percentage points to 22.9% and 8.4%, respectively. Core net profit and core earnings per share fell 59% year-on-year to 700 million yuan and 0.09 yuan. The company declared no dividend.

The net debt ratio is stable at 69%, but the debt structure has improved. By the end of 2012, the company's handheld cash balance had increased slightly to 3.3 billion yuan from 3.2 billion yuan at the end of 2011, and the net debt ratio remained stable at 69%. By the end of 2012, the company had a free cash balance of 1 billion yuan and short-term borrowing of 6 billion yuan (short-term borrowing accounted for 38% of total borrowing, down from 61% in 2011). This means that the coverage of free cash relative to short-term borrowing has increased slightly to 0.16 from 0.1 at the end of 2011. In view of the fact that the company chose to release its annual report so early, we do not rule out the possibility that the company may have a plan to issue bonds. Even without refinancing, according to the company's capital expenditure plan, we expect the company's hand-held cash balance to increase to 4 billion yuan by the end of 2013, and the net debt ratio will fall to about 60%.

The sales target for 2013 is 11 billion yuan. As a result of the subscription brought into this year's subscription in December last year, the company achieved month-on-month sales growth in January, but we still have concerns about the sustainability of its sales, as the strong January sales mainly came from the opening of the new Baoshan project in Shanghai in December. Looking forward to the whole year, the company set an annual sales target of 11 billion yuan, slightly higher than the actual sales amount of 10.9 billion yuan last year. We believe that the company will appropriately speed up the pace of selling this year, and the saleable resources for the whole year will reach 21 billion yuan (2.1 million square meters with an average price of 10000 yuan), which is higher than last year's 17 billion yuan (2.22 million square meters, with an average price of 8000 yuan). The removal rate is expected to fall to 55 per cent from 64 per cent last year, and full-year contract sales are expected to grow 6 per cent to 11.6 billion yuan from a year earlier.

Different from the general public:

2012 may be the worst year in the company's history, but there is still a lot of uncertainty about whether future execution will improve significantly and growth can pick up again. Share prices have rebounded recently amid the market's pursuit of Shanghai concept stocks, responding to a possible improvement in sales in the first quarter compared with the fourth quarter. Of all the companies we cover, the execution of the company is still the weakest, and the uncertainty of real estate policies in big cities still brings uncertainty in sales, so we maintain our downgrading.

Valuation and target price: according to the annual report results, we lowered our NAV forecast from 4.12 yuan to 4.01 yuan and the 3013-2014 profit forecast from 0.17 yuan 0.22 yuan to 0.15 yuan 0.19 yuan. The company's share price now corresponds to a 58% NAV discount, 0.6 times 2013 PB and 9.2 times 2013 PE. In view of the upward valuation of the industry as a whole, we narrowed the target NAV discount from 75 per cent to 60 per cent, resulting in a new six-month target price of HK $1.60, corresponding to a 5 per cent downside risk. Maintain the underweight rating.