CK Asset: Administration Has Undermined Confidence In Its Asset-Gentle, Recurring Revenue Mannequin

CK Asset Holdings (OTCPK:CHKGF) (1113.HK) was speculated to be a go-to identify amongst Hong Kong builders in the course of the more durable occasions, as the corporate’s asset-light (or “lighter”, no less than) mannequin centered on recurrent revenues and money flows was supposed to supply extra safety and suppleness throughout downturns. And certainly, circumstances in Hong Kong stay powerful, with housing costs down double-digits in Q1’24 and workplace vacancies at or close to their highest degree in 20 years.

As a substitute of being a secure haven, CK Asset’s administration has undermined investor confidence, chopping the dividend by 12% regardless of what ought to have been adequate protection after which promoting items in a brand new residential growth beneath value.

These actions, in addition to poor sentiment on HK property typically, have contributed to an almost 30% decline within the worth of the ADRs since my final replace. Whereas I could make a number of arguments as to why this share value is just too low and CK Asset must be well-placed to recuperate as rates of interest transfer decrease, it may take extra time to rebuild investor confidence in administration.

Monetary Outcomes Weaker, However Not Disastrously So

Going again about 4 months, the second half 2023 outcomes that CK Asset posted weren’t nice, however they weren’t disastrous. The corporate missed by about 10% on the attributable working revenue line, with 26% year-over-year development in 2H’23 however 3% half-over-half contraction.

Weaker outcomes from property gross sales (down 59% / down 17%) weren’t so stunning, however the Pub Operations missed by near 25% and that was a tougher miss to elucidate for what must be a extra sustainable enterprise (outcomes have been compromised partially by value inflation). On the optimistic facet, the resort and serviced suite enterprise did higher than anticipated (up 252%), as Hong Kong benefitted from improved journey.

Administration’s Decisions And Communication Undermine Confidence

Ongoing weak point within the Hong Kong property sector has definitely impacted CK Asset, however I imagine administration’s selections have made a tricky scenario worse.

Chopping the dividend by 12% was an enormous and sudden blow. Free money move from recurrent enterprise exercise (that’s, not property growth/gross sales) ought to have been adequate to cowl the dividend, resulting in legitimate questions on whether or not the shift towards a mannequin extra centered on recurrent money move streams is absolutely as beneficial as beforehand thought. Furthermore, administration’s commentary didn’t actually assist, with a remark that mainly recommended that the buybacks accomplished in 2023 (near HK$ 2B) make up the distinction – whereas that may be a legitimate level, they hadn’t beforehand framed buybacks and dividends in an “both/or” context.

Roughly a month later, the corporate additional eroded investor confidence by launching its Blue Coast residential venture at costs beneath development value. With costs round HK$ 22K- HK$ 23K per sq. foot towards an estimated value of round HK$ 27K – HK$ 28K, CK Asset shall be taking a loss right here even when subsequent gross sales are at higher costs. Administration talked about eager to stoke purchaser curiosity, and certainly the primary spherical of gross sales was closely oversubscribed (I feel there have been 65 or 66 bids for each unit), however right here once more administration may have tipped off traders forward of time that they might be partaking in promotional exercise to assist drum up curiosity. As is, the corporate bought items at a loss, and at costs round 20% beneath surrounding properties, with out a lot of an evidence as to the technique behind the transfer.

Administration has additionally been fairly quiet about their intentions with respect to their land financial institution. With property values in HK decrease now, and with a clear stability sheet that may assist extra leverage, this might appear to be an excellent time to begin selectively buying land with a watch towards future growth. Certainly, administration has talked about “trying to opportunistically” add to the land financial institution. Had administration supplied context across the dividend lower such that they have been preserving/constructing capital to be extra lively on the acquisition facet, I feel traders would have responded a bit of extra positively.

As it’s, although, CK Asset’s administration appears to be signaling some clear negatives – the recurrent money flows from the non-development companies don’t supply the hoped-for safety, demand could also be even softer than the 13% decline in Q1’24 HK housing costs suggests, circumstances aren’t more likely to flip rapidly, and there’s additional room for property/land values to fall.

Circumstances Are Certainly Difficult

So far as the essential working circumstances in Hong Kong go, there’s not quite a lot of nice information now. Larger mortgage charges have made an already-challenging housing market even more durable, driving a 13% decline in housing costs (the ninth straight quarter of yoy declines) and resulting in the best degree of unsold items in 20 years. This comes regardless of the HK authorities cancelling mainly all demand-side administration measures again in February (mainly, numerous authorities guidelines and necessities meant to chill/management housing).

Retail gross sales are likewise displaying pressure for customers. Whereas vacationer arrivals have been up 20% in Might (good for CK Asset’s resort properties), retail gross sales fell nearly 12% and that makes three straight declines, in addition to a 6% year-over-year decline for the yr to this point. Weaker client confidence (pushed partially by well-publicized weak point in housing costs) can’t be serving to, however retail gross sales are additionally taking a success from elevated on-line buying in addition to decrease spending from vacationers from mainland China (they’re nonetheless travelling to HK, as seen within the vacationer arrivals, however they’re spending much less).

Final and never least, there’s nothing a lot to rejoice within the workplace sector. Whereas rents did choose up some within the first quarter relative to the year-ago interval (about 5% to six% for the Central district), the bounce in rents seen in 2023 appears to be fading, as rents declined about 4% from the fourth quarter of 2023 and vacancies are close to 17% (14% within the Central district) – the best degree in round 20 years.

This latter level will not be a optimistic one for CK Asset, because it appears to lease up Cheung Kong Heart II. CKC I nonetheless had 20%-plus vacancies close to the tip of 2023 (I haven’t been capable of finding a newer quantity), and with a still-weak market, CK Asset could need to make some offers to get the constructing leased up.

The Outlook

I do anticipate the weak point in Hong Kong to persist some time longer, and I anticipate it’ll drive an almost 20% year-over-year decline in attributable income for FY’24 (I’m a bit of beneath the Avenue right here). I do anticipate a rebound beginning in FY’25 (as charges must be decrease by then, driving a restoration), however my FY’25 quantity can be a bit of beneath the Avenue. Long run, I anticipate round 5% development in core earnings; that quantity is considerably inflated by the decrease place to begin of FY’23 core earnings, and if I common the earnings of FY’20-FY’22, the expansion charge falls to round 3% which I imagine is extra consultant of the true “core” development.

Discounting these earnings again leads me to a good worth of HK$41.70, or nearly 40% above at the moment’s value. I additionally word that the shares are buying and selling round 1 / 4 of guide worth versus a long-term historic common of round a 20% low cost to guide worth.

The Backside Line

Administration has accomplished rather a lot over a comparatively quick time frame to lose my belief. Possibly I’m overreacting to the dividend lower and the below-cost residential property gross sales; whereas I don’t assume any specific determination CK Asset’s administration has made is horrible in isolation, I feel the best way they’ve communicated their technique and expectations has left rather a lot to be desired.

I do assume these shares are too low-cost now, however I additionally assume there may very well be additional unfavourable revisions to earnings, because the arrow nonetheless appears to be pointing down for HK’s retail, residential, and workplace sectors. Maybe the market is already pricing this in, and we’re close to a backside, however I’d favor to be a bit of extra cautious now, given my considerations about CK Asset’s essential market and the way administration is considering its enterprise and strategic priorities at the moment.

Editor’s Be aware: This text discusses a number of securities that don’t commerce on a serious U.S. change. Please concentrate on the dangers related to these shares.