Analysts shift to liquidity gauge in evaluating developers

A year ago, the most popular question from property stock analysts after developers' results presentations was how fast the firms could refill their land banks for expansion. Today, analysts have other concerns.

As CCB International Securities analyst Raymond Cheng Wai-mo said, the questions have turned to: 'What is the company's cash-flow situation?' 'Does the company have enough investment funds?'

After enjoying good earnings last year, Mr Cheng said mainland developers were being affected by internal policy changes and a deteriorating economic environment.

Austerity measures introduced in the fourth quarter of last year - particularly a more stringent mortgage approval process, bigger down-payment ratios and more restrictive project financing - have shrunk cash flows and trimmed bottom lines.

Developers also find it harder to get approvals for A-share listings. And with investors taking a pessimistic view of mainland property stocks, they can hardly turn to the Hong Kong market for alternative funding. Nor is the bond market viable in view of the global credit crunch.

'Faced with such a challenging environment, liquidity is the most important factor to evaluate developers this year,' Mr Cheng said.

STOCK SELECTION

Generally speaking, firms with less net debt, strong cash flows, sizeable land banks and strong pre-sales are the safest bet. Investing in national development plays - with their diversified locations - is less risky than buying regional stocks, analysts say.

'Large developers with proven strong financial positions will be resilient to the challenging business environment,' Mr Cheng said.

Analysts prefer China Overseas Land & Investment, which fulfils all the above requirements. Its earnings of HK$4.18 billion were beyond expectations because of high margins and expanded sales. Credit Suisse has a HK$20.78 price target for China Overseas Land. The stock ended at HK$16.84 on Friday.

Citigroup analyst Oscar Choi recommends China Resources Land.

However, some analysts noted the two stocks' respective share prices already reflected these positive factors in the short term, making them relatively expensive with price-earnings ratios of about 20 times this year's profit.

China Aoyuan Property Group and KWG Property Holding, by contrast, are trading at lower PE ratios of between six times and 7.6 times, Morgan Stanley notes.

Sun Hung Kai Financial strategist Castor Pang Wai-sun said short-term investors should pay more attention to the ratios and the potential to quickly increase property sales.

His pick was KWG, which reported a 1,640 per cent surge in underlying profit to 967 million yuan (HK$1.08 billion) last year on rising selling prices and saleable floor area.

Mr Cheng also picked Shimao Property Holdings, setting a price target of HK$27.90, a 70 per cent premium to its Friday close of HK$16.40. A national developer, Shimao has a sizeable land bank and relatively low net gearing of 36 per cent, he said.

'The only uncertainty is that the company has had little property sales in the first quarter,' Mr Cheng said.

Shimao has generated only 1 billion yuan from pre-sales, still a long way below its target of 17 billion yuan this year. It will need to generate revenue of 2 billion yuan a month for the next eight months to reach that goal.

Morgan Stanley considers Agile Property Holdings attractive.

'We remain positive on the stock and believe the current distressed share price is not justified,' analyst Derek Kwong said in a recent report, citing the company's 'solid financials and growing momentum in new market launches'.

His price target is HK$14.30, a 25 per cent discount to its 12-month forward net asset value of HK$19.10, which implies a 75 per cent upside. Agile closed at HK$10.74 on Friday.

So which stocks do analysts have reservations about?

Mr Cheng named Beijing North Star, citing its limited land bank and small cash flow. Mr Pang said he would shun Guangzhou R&F Properties, which has a 140 per cent gearing, one of the sector's highest. 'I'm not touching the stock,' he said.