HK) recently unveiled its long-awaited restructuring plan with its sibling Poly Real Estate (600048: CH) to help resolve the long-standing competition between the two, and we are optimistic that Poly Real Estate's fundamentals will continue to improve in the future. We reiterate Poly's purchase rating and raise its target price to HK $5.36.
Direct shareholding is 20%. A year ago, Poly Real Estate announced on November 29, 2016 that it had decided to stop buying Poly property-related projects by issuing shares because the time was not yet ripe. A year later, Poly Real Estate announced again on November 30, 2017 that it intends to use cash to acquire the 50% stake in Poly (Hong Kong) Holdings Limited (Poly Hong Kong Holdings) held by China Poly (Hong Kong) Holdings, the actual controller of the company. Poly Hong Kong Holdings holds about 40% of Poly Real Estate, with a transaction price of 2.4 billion yuan. And according to 50% of the shares to undertake Poly Hong Kong Holdings should repay 2.8 billion yuan of debt. Before disclosing the restructuring plan, Poly Real Estate valued the Hong Kong market at about 0.5 times PB and had a market capitalization of about HK $12.6 billion, meaning the deal was priced at about 1.1 times PB.
Look forward to more cooperation in the future. The restructuring deal is still subject to the approval of Poly Real Estate's shareholders' meeting and the State-owned assets Supervision and Management Committee, and if approved, Poly Real Estate will have two board seats in Poly Hong Kong Holdings. Poly Real Estate is currently developing about 50 projects in 20 cities, with a total land storage area of about 2000 square meters, while Poly Real Estate has developed a total of 460 projects in 87 cities, with a total land storage area of 145 million square meters. The layout of the two projects overlap in many cities such as Shanghai, Wuhan, Shenzhen, Guangzhou and Foshan, and more cooperation is expected in new projects in such cities in the future.
The hardest time is over. Poly Real Estate has been the overseas listing platform of China Poly Group, a central enterprise, since 1993, and has shifted to real estate development business since 2005. Although its contract sales increased from 2.2 billion yuan in 2010 to 33 billion yuan in October 2017, with a 10-year compound annual growth rate of 32% (compared with the industry average of 15% over the same period), Poly's gross profit margin fell from 30-40% in 2007-2012 to 10-20% in 2014-4016. In terms of cities, Nanning, Guiyang, Wuhan, Zunyi and Ningbo together account for 65% of Poly's total land reserves, while the Guiyang and Zunyi markets have been under pressure for a long time before 2017.
Profit margins will bottom out and pick up. Thanks to the overall strong recovery in third-and fourth-tier cities this year, Poly property sales gross profit margin rebounded to more than 20%. Accordingly, we expect the company to confirm that gross profit margin will rise from 11% in 2018 and 16% in 2016 to 18-19% in 2017 and continue to rise to 20-25% in 2015-2019. Among them, the high gross margin project, long Yu, a Hong Kong residential project, will be delivered in 2018, with a total estimated value of about HK $10 billion, which has reached 60% since the opening of trading in March. At the same time, the company added only three new projects to the overheated public land market in 2016, which is expected to support a continued rebound in gross profit margins in the coming years.
Maintain the buy rating. Taking into account the rebound in gross profit margin and the accelerated pace of delivery, we raised the company's core net profit per share forecast for 2017-2019 from a low base in 2016 to HK $0.26 (up 12 times), HK $0.69 (up 165 per cent) and HK $0.84 (up 22 per cent), respectively. We have raised the company's net asset value per share by 9 per cent to HK $7.65 and expect the company to resume its dividend, which is currently valued at 5.6 times 18-year PE,0.5 and 18-year PB. We expect that the restructuring effect will gradually emerge, and Poly Real Estate will actively expand overseas market opportunities. We maintain the company's target net asset value discount of 30% and get a new 12-month target price of HK $5.36 (HK $4.90 compared to the original target price). Considering that there is about 34% upside in the current share price compared with the newer target price, we maintain Poly home purchase rating.
