Investment Highlights

• 1HCY22 results were largely in line with our expectation. Out of the 7 companies under our coverage, 2 exceeded our expectations, 4 were in line and a single underperformer (Exhibit 1). Most of the developers posted stronger 1HCY22 results YoY while 3 companies S P Setia (Setia), IOI Properties Group (IOIProp) and Lagenda Properties (Lagenda)registered weaker bottom lines (Exhibit 2). These are the salient highlights of the companies’ 1HCY22 performance:
  • The outperformers Sunway and UEM Sunrise (UEMS) reported better-than-expected 1HCY22 earnings. As a conglomerate, Sunway registered 1HCY22 PBT growth in all segments with the main contribution from property investment. UEMS recorded a stronger revenue YoY, contributed by increased divestments of non-strategic land, which made up 30% of its 1HCY22 total revenue. Sime Darby Property’s (SimeProp) earnings missed our estimate due to slower progress billings as a result of labour shortages.
  • The core net profits of Setia, IOIProp, Mah Sing and Lagenda came in within expectations.
  • QoQ, all of the developers posted stronger results (except Mah Sing) as a result of stronger sales (Exhibit 4) and higher progress billings from ongoing development projects following the transition to the endemic phase from 1 April 2022 onwards.
• Sales momentum started to pick up in 2QCY22. New sales in 1HCY22 declined by 8% YoY mainly from the expiry of the Home Ownership Campaign (HOC) and slower new launches in 1HCY22 (Exhibit 3). Nevertheless, we saw new sales began to gather momentum in 2QCY22 with all developers registering stronger sales QoQ (Exhibit 4). In 1H2022, developers attained 29%–75% of their FY22F sales target (average of 46%) vs. 30%–75% for 1H2021 to FY21 sales (average of 51%). 
  Mah Sing and Lagenda’s new 1HCY22 sales surged 23% YoY on average as a result of stronger affordable housing demand following a decline in transactions for mid-to-high end properties after the end of the HOC. SimeProp also reported robust sales in 1HCY22 on the successful launch of attractively priced products at strategic locations, achieving a remarkable 89% take-up rate for its properties launched in 1HCY22. Meanwhile, Paramount Corp’s new 1HCY22 sales rose 74% YoY due to a low 1HCY21 base as its 2QCY21 property sales were hampered by the closure of sales galleries since 1 June 2021.
• Eyeing more 2HCY22 launches after a quiet 1HCY22. Except for Lagenda and SimeProp, which exceeded 50% of their full-year target of property launches in 1HCY22, most of the companies attained 3%–20% of their FY22F planned launches (Exhibit 6). In view of improving labour market conditions and easing building material prices, Mah Sing, UEMS and Paramount plan to ramp up new launches in 2HCY22 (Exhibit 7). Meanwhile, we anticipate Sunway and Setia to continue being prudent in their new launches and are likely to scale back their FY22F planned launches.
• Building material costs reached its peak in 2QCY22. We believe most building material costs have reached its peak in 2QCY22 following the easing of supply chain disruptions, coupled with the tightening of monetary policy by the Federal Reserve. Steel price slid 9% to RM3,205/MT in Aug 2022 from a peak of RM3,525/MT in Apr/May 2022 (Exhibit 8). Nevertheless, the construction cost of ongoing projects will be minimally impacted as prices were already locked in when the contract was awarded to contractors. In addition, we believe the increased building material cost for new projects will be mitigated through the adoption of the industrialised building system (IBS), bulk purchasing and value re-engineering.
• Gradual easing of labour shortages. We anticipate the industry-wide labour shortages to gradually ease over the remainder of 2022 with the reopening of international borders, coupled with the recent lifting of Indonesia’s freeze on its workers entering Malaysia effective 1 Aug 2022. Based on our recent meeting with developers, we understand that foreign workers are arriving in phases and worker constraints are expected to be resolved in early 2023. In addition, the majority of developers are adopting the IBS, which could reduce the reliance on labour at construction sites by 20–30%.

• Active inventory clearance to curb overhang. Despite persistent overhang, we observe a declining trend in overall inventory levels since 2019, mainly attributed to fewer new launches and more aggressive inventory clearing efforts during the HOC. All developers (except IOIProp) registered an average inventory decrease of 43% in June 2022 as compared to Dec 2019 (Exhibit 16).

• Premium Visa Programme (PVIP) benefits luxury properties. On 1 Sep 2022, Malaysia introduced the PVIP to attract wealthy foreigners to invest and reside in Malaysia for 20 years. Eligible foreigners must have an offshore income of at least RM40,000/month and a fixed deposit of at least RM1mil. The PVIP is well received with 20,000 applications from agents on launching day. We view this as a plus for the Malaysian real estate market, particularly for developers like Setia, UEMS and SimeProp, that focus on high-end residential units.

• Stamp duty exemption under i-MILIKI to boost affordable properties. Under i-MILIKI, first-time homebuyers can enjoy a stamp duty waiver for properties priced at RM500,000 and below. A stamp duty exemption incentive of 50% will also be given for housing units priced above RM500,000 to RM1mil. The exemption is for sale and purchase agreements completed from 1 June 2022 to December 2023. We see this move benefiting developers with products largely priced below RM500,000, particularly Mah Sing and Lagenda.

• Overnight policy rate (OPR) to be normalised in 2023. Our in-house economist is anticipating Bank Negara Malaysia (BNM) to raise the OPR by another 25bps in 2H2022 (to 2.75%) after the last 25bps increase in September 2022. Despite the 2 consecutive hikes in May and July 2022, loan applications for the purchase of residential properties remain healthy with the approval rate improving to 43% in July from 41% in June 2022 (Exhibit 13). Based on our sensitivity analysis, monthly installments for a property purchased at RM500,000 with 90% loan financing will increase by RM66–69 or 3.3–3.5% for every 25bps hike (Exhibit 14). While the interest rate hike will dampen consumer sentiment, this could be mitigated by stronger economy growth following the reopening of the economy.

• We upgrade the property sector to OVERWEIGHT from NEUTRAL. Notwithstanding various negative headwinds in the property sector (increased building material costs, labour shortages and rising interest rates), we think the current depressed valuations have already been priced in the downtrend commencing early April 2022. With the gradual easing of building material costs and labour shortages, we believe the current Kuala Lumpur Property Index’s price-to-book value (PBV) of 0.4x is appealing vs. the 10-year average and median of 0.7x and pre-pandemic (2018–2019) average PBV of 0.5x (Exhibit 15).
  In 2023, we expect a gradual recovery in property transaction volumes with improved post-lockdown market sentiments and stronger demand after the reopening of international borders. This is proven by the still resilient sales in 1HCY22 despite the HOC’s expiry. We also do not see a further deterioration in residential units and serviced apartments’ overhang in 1QCY22 (Exhibit 11).

• Selective criteria. We like developers with healthy balance sheets (net gearing ratios of less than 0.5x) and sufficient cash flows to support prospective land acquisitions while also sustaining their businesses during industry downturns. We also favour developers with a high exposure in the sought-after affordable housing segment, particularly those launching in strategic locations.

• Our top BUY is Sunway (fair value RM2.29) given the strong brand recognition established by its highly successful landmark developments and expanding healthcare business, supported by substantive unbilled sales and outstanding order book. We favour Lagenda (FV RM1.82) for its focus on the underserved and affordable landed housing development in second-tier states with a large population of the B40 and M40 income groups. We also like Mah Sing (FV RM0.86) for its strength in affordable housing developments at strategic locations as well as savvy execution and its quick-turnaround business model.
• Downside Risks: 
  i) Stagflation which could lead to higher unemployment alongside higher inflation, posing downside risk to property demand; 
  ii) a potential new wave of the pandemic, which could disrupt business operations and construction progress; and 
  iii) any prolonged or worsening of supply chain disruptions, which will impact the pace of economic recovery and heighten the cost of building materials, affecting our estimates for earnings growth of property developers.

Source: AmInvest Research - 14 Sept 2022