Parkson’s  53%-owned Hong Kong subsidiary,  PRG was  ordered to pay Metro City CNY140m, after a ruling by the China International Economic and  Trade  Arbitration  Commission.  Maintain  SELL  with  an  unchanged SOP-derived TP of MYR1.96 (7% downside). We expect Parkson to incur one-off  provisioning  expenses  in  the  next  quarter,  estimated  at MYR44m, which would dent its weak bottomline earnings further.

Negative  surprise  with  no  prior  indications.  The  dispute  betweenParkson Retail Group (PRG) and its landlord, Metro City Shopping Plaza (Metro  City)  originated  in  Apr  2012,  when  Metro  City  requested  for  a change in its contractual terms. This was followed by a notice of breach of  contract  to  PRG  and  the  latter’s  application  to  the  Arbitration Commission in Dec 2012. The commission has now made an award in favour of Metro City.

Material impact on both Parkson and PRG. Based on the award, PRG has to surrender the premises  and pay a total of CNY140m, mainly for the difference in rental payable and what the company  had  paid. While we  believe  PRG  may  appeal,  it  is  likely  to  make  a  provision  of  this amount  for  the  immediate  quarter.  For  Parkson,  we  estimate  this  will amount to around MYR44m, based on its 53% ownership of PRG. This will be a material amount to both companies, and may make up around 46% of Parkson Holding’s FY15F net profit.

Operating environment in China remains challenging.  On top of the compensation,  PRG  will  likely  close  down  the  25,140  sq  m  store  in Beijing,  which  has  already  been  vacated.  This  will,  however,  not  affect the other 60 stores, which are not under the same landlord. We believe the  operating  environment  in  China  remains  challenging,  with consumption  continuing  to  trend  towards  specialty  stores  and  ecommerce.   

Maintain SELL. We remain cautious  on  Parkson’s  earnings outlook and maintain  our  SELL  recommendation,  with  an  unchanged  SOP-derived TP  of  MYR1.96.  We  make  no  changes  to  our  earnings  estimates immediately, till further announcements by the  company. Fundamentally, the company has sufficient net cash (estimated MYR788m) to withstand the one-off expenses without solvency issues. 

Source: RHB