Zhongjin has released a research report stating that it maintains a "Outperform" rating on Midea Real Estate (03990) and a target price of HKD 6.1. The company announced plans to internally reorganize its real estate development business, which will be held by a private company and then removed from the listed company through physical distribution of the shares of the private company and cash choice rights. After the transaction is completed, the listed company will no longer hold any shares of the private company's real estate development business, and the controlling shareholder of the listed company and other shareholders who choose physical distribution will jointly hold the shares of the private company.

CICC's main points are as follows:

The bank believes that the impact of the transaction on the company and shareholders will be as follows after completion:

1) For the listed company, the heavy asset real estate development business is comprehensively divested, but it will still retain the operation of the development business, and the business structure of the listed company will be adjusted from "real estate development + asset operation service + real estate technology" to "real estate development contractor + asset operation service + real estate technology" (the unaudited income of the last two business lines in 2023 is CNY 3.5 billion and CNY 300 million respectively).

2) For small shareholders, choosing physical distribution will maintain their rights and interests in the listed company and private company in proportion. Choosing cash replacement will receive HKD 5.90/share (with a 57.33% premium over the closing price of the previous trading day on the announcement date) and retain their rights and interests in the listed company in proportion.

3) For the controlling shareholders, they will receive all the shares of the private company under the physical distribution item and will purchase or arrange their wholly-owned subsidiaries to purchase such shares of the private company that the small shareholders who choose cash replacement have not accepted. The listed company will pay the equivalent price of cash replacement paid or to be paid to small shareholders who choose cash replacement.

The bank believes that the distribution of benefits and losses after the transaction is as follows:

1) For the listed company, after divesting the high-leverage, high-debt real estate business, the overall business model shifts from "heavy" to "light", which is expected to bring structural upward support to the valuation center. (The average transaction in the real estate development sector is trading at 5.4/5.2 times 2024-25 P/E for high-quality state-owned real estate developers and 10.7/8.9 times 2024-25 P/E for high-quality property management/contractor companies.)

2) For small shareholders, they can both choose physical distribution to share the profits of the real estate development business and choose cash replacement to realize profit locking (the price of HKD 5.90/share corresponds to 0.30/0.29 times 2024-25 P/B and 10.4/9.6 times real estate development P/E).

3) For controlling shareholders, the bank believes that their strong credit endorsement, financing strength and industrial background can smoothly take over the heavy asset real estate development business and achieve sustainable operation.

The bank is bullish on the transaction opportunities brought by the potential business restructuring of the company.

The bank reminds that 1) the above transaction needs to be approved by the general meeting of shareholders (expected to be on September 2, 2024), and there is still some uncertainty in the landing time and detailed plan; 2) the fair market value of the listed company after the transaction may be difficult to evaluate reasonably at the current point in time.

However, in the short term, the bank believes that the potential business restructuring of the listed company will bring more upside than downside risk to the stock price: 1) dragged down by the industry beta and its own land reserve structure, the listed company is currently trading at a price-to-book ratio of 0.19/0.18 times for 2024-25 years. The valuation safety cushion is quite sufficient, and there is limited downside space in the process of transitioning from policy bottom to fundamental bottom in the current sector; 2) The potential transactions mentioned above bring positive catalysts to the stock price.

Risk: The landing time of the business restructuring is later than expected.