Highlights:
- New World Development’s bonds rebounded significantly after the announcement of FY24 result, reflecting an increased market confidence in the Group's debt repayment. The Group is expected to have over ten billion revenues recognized from large projects going forwards, which should support future performance.
- The Group’s weak operating performance was foreseeable. This result can be interpreted as a short-term pain from transitioning from a conglomerate to a pure real estate player.
- Achieving the target for non-core asset disposal in FY25 should not be difficult, allowing the Group to continue reducing and repayment debt through non-core asset disposal. The value release from agricultural land becoming a source of growth and potential liquidity.
- In summary, the Group’s operational performance is expected to improve, mainly due to several factors including more completion of investment properties, the gradual recognition of residential projects and peaking interest expenses. Coupled with the Group's ability to reduce debt through operations and asset disposal and strong financing support from banks, the overall default risk remains quite manageable.
With Rebound in Bond Prices, it shows Increased Market Confidence in Debt Repayment
On 26 September, New World Development ("NWD") announced its fiscal year 2024 results, together with future development and personnel changes. This article will analyze NWD’s credit risk from three aspects: results, future development and credit status and explain why NWD’s bonds are appealing to investors.
Market attention was previously focused on NWD’s nearly HKD 20 billion loss this period, which led to a small-scale sell-off of NWD bonds. However, after the announcement of FY24 result and some remedial measures, with a series of Chinese Government's heavy-handed measures to revive the economy and market, NWD bonds rebounded significantly. The yield to maturity or current yield of its bonds, including perpetual bonds, dropped from around 12% to 10.5%, reflecting an increased market confidence in the Group's debt repayment.
This result can be interpreted as a short-term pain from transitioning from a conglomerate to a pure real estate player
About the result, in FY2024 (July 2023 to June 2024), NWD’s revenue decreased by 34.4% YoY (adjusted for NWS Holdings disposal) to HKD 35.8 billion, mainly due to a decrease in revenues from property development and construction, leading to a drop of 18% YoY in the core operating profit to HKD 6.9 billion. However, the Group is expected to have approximately HKD 11.2 billion in revenue from large projects such as The Pavilia Farm III, Mount Pavilia, The Knightsbridge and Uptown East, which should support future performance.
As shown in Chart 1, during the same period, NWD’s attributable contracted sales in Hong Kong and Mainland China were HKD 1.5 billion and RMB 12.4 billion respectively. The former indicates that NWD did not launch large projects for pre-sales, while the latter shows that the Group's sales in Mainland China remained robust, with a YoY decline of 17% but maintaining above RMB 12 billion, significantly better than the approximately 40% YoY decline of peers.
Chart 1: NWD’s Attributable Contracted Sales
The property investment segment remains a significant source of profits for NWD. As shown in Chart 2, the Group’s operating profit from the property investment increased by about 9% YoY to HKD 3.5 billion, with a five-year CAGR of up to 10%, primarily driven by the strong growth of the K11 investment properties. The book value of these investment properties is as high as HKD 210 billion (including several uncompleted investment properties. As more investment properties gradually complete, we believe this segment's profit could reach HKD 5 billion or more in the coming years, remaining the Group’s core growth source.
Chart 2: Segment Profit from Property Investment
In FY24, NWD generated an attributable loss to shareholders of HKD 19.7 billion, mainly arises from impairment losses, provisions and accounting losses (see Table 1). These non-cash losses total approximately HKD 16.3 billion, explaining nearly 80% of the loss. Excluding the depreciation and amortization expenses, these losses are one-time in nature and based on the Group's conservative accounting principles. It is reasonable to believe that the Group undertakes a big bath in accounting to prepare for better future performance. Of course, the high interest expenses (about HKD 7.8 billion) and tax expenses (about HKD 5.1 billion) also contribute to the Group’s loss making. The Group thus suspended dividend payments as a good signal towards creditors.
Table 1: Non-Cash Loss Breakdown
Category | Amount (in HKD billion) |
Fair Value Loss on Investment Properties | 0.9 |
Impairment Loss or Provisions on Properties Under Development, Properties Held for Sales and Other Assets | 5.9 |
Depreciation and Amortization | 1.2 |
Accounting losses from the Disposal of NWS Holdings | 8.3 |
Total Non-cash Loss | 16.3 |
Adjusted Loss Attributable to Shareholders (excluding Non-cash Loss) | 3.4 |
Source: Company Announcements, iFAST compilations Data as of 30 June 2024 | |
As mentioned in our previous article "Implications of New World Development's Profit Alert to Bond Investors", the weak operating performance was foreseeable, as the Group did not have significant residential projects recognised in FY24 and sold NWS Holdings, which results in losing at least HKD 3 billion in annualised operating profits. This poor result can also be interpreted as a side effect and short-term pain of the Group's transition from a conglomerate to a pure real estate player.
Continue Selling Non-Core Assets to Reduce Debt, with value release from agricultural land becoming a source of growth and potential liquidity
In the recent earnings call, NWD set a target of HKD 13 billion for non-core asset disposal in FY25. NWD also sold or shared the management rights of the K11 brand with a private company owned by former CEO, Adrian Cheng, for HKD 210 million. It proposes to sell 75% stake of the operating rights of Kai Tak Sports Park to Chow Tai Fook Enterprises (Mr. Cheng family’s private company). The consideration is still under discussion.
To add on, the operating right and ownership of the K11 brand and K11 investment properties are still under NWD. Kai Tak Sports Park is a project in partnership with the Hong Kong government, who bears the construction costs of around HKD 30 billion, while NWD is responsible for design, construction and operation of the project. Originally, NWD takes the responsibility for the project own profits and losses and has the right to operate the projects for 20 years. We estimate this project should generate an annual cash inflow for the Group of about HKD 0.8 billion to HKD 1.2 billion, so the value of the operating right should be at least HKD 5 billion or more. This indirectly reflects that achieving the target for non-core asset disposal in FY25 should not be difficult, allowing the group to continue reducing and repayment debt through asset disposal.
In this result, the management did not mention achieving the goal of approximately 50% of core profit as recurring profit by FY2026, which could indicate that the Group has abandoned this goal and is relying more on property sales from both Hong Kong and Mainland China going forward. However, the Group is expected to collaborate more with state-owned enterprises in transforming idle agricultural land (see Table 2), including selling all or part of the land rights to state-owned enterprises and jointly developing property projects in the agricultural land.
Table 2: Methods of Transforming Agricultural Land into Liquidity
Agricultural Land | Specific Content |
Accelerating the conversion of agricultural land use | · Accelerate to pay land premium and convert the agricultural land use into being eligible for residential projects · Favourable policy support in Hong Kong allows a higher plot ratio, potentially improve the project profit margin · Introducing state-owned enterprises for collaboration and sharing construction costs and capital expenditures |
Sale of all or part of land rights for capital recycling | · Selling land rights to state-owned enterprises and other developers |
Agricultural land resumption by Hong Kong government | · Currently, the compensation rate by government is HKD 1,114 per site area square foot · NWD owns 15.8 million square feet of agricultural land. Based on the latest compensation rate, the value is approximately HKD 17.6 billion, which can be considered as the lower limit of agricultural land value |
Source: Company Announcements, iFAST compilations Data as of 30 June 2024 | |
The value release from agricultural land is expected to become a source of growth and potential liquidity for NWD. On one hand, the Group can take advantage of the conversion of agricultural land use to replenish land bank in Hong Kong for future development. On the other hand, it can transform agricultural land into cash-generating projects or sell them to third parties or the government, in exchange for liquidity.
Debt Reduction through Operations or Asset Disposal, with Strong Financing Ability
About credit conditions (see Table 3), as of the end of June 2024, NWD’s total debt (including perpetual bonds) was HKD 192.8 billion, a 19% YoY decrease, reflecting the Group's ability to reduce debt through operations and asset sales.
Table 3: NWD’s Credit Indicators
Jun 23 | Dec 23 | Jun 24 | |
Total Debt (HKD billion) | 237.8 | 198.5 | 192.8 |
Total Property Assets (Including Properties under Development, Properties Held for Sales and JVs & Associates) (HKD billion) | 371.4 | 353.3 | 340.2 |
Net Debt / Total Property Assets (%) | 49% | 45% | 48% |
Net Gearing Ratio (%) | 81% | 79% | 87% |
Interest Coverage Ratio (times) | 1.9x | 1.5x | 0.9x |
Average Cost of Borrowings (%) | 3.9% | 5.1% | 5.0% |
Property Asset Collateral Ratio (%) | 21% | 20% | 29% |
Source: Company Announcements, iFAST compilations Data as of 30 June 2024 | |||
Moreover, due to NWD recognizing approximately HKD 20 billion in losses, the Group’s leverage ratios have inevitably worsened, with net debt to total property assets increased to 48% and net gearing ratio increased to 87%. However, these leverage ratios remain at a manageable level, especially considering the net debt to total property assets ratio of 48%. Even if the property assets were to depreciate by half, the Group could still have chances to fully repay the principal, indirectly reflecting that credit risk is under control.
Another red flag is the deteriorating interest coverage ratio. Particularly, in the second half of FY24, the interest coverage ratio is less than one. However, as mentioned, the weak operating performance was foreseeable, and we believe the future profitability and results will improve due to the delivery of large residential projects and the more completion of investment properties. Together with the Group’s deleveraging pace and decreasing cost of borrowings due to the rate cut environment (the interest expenses could fall to about HKD 7 billion, around 10% decrease), the Group should recover its interest coverage ratio to the previous 1.5 times or higher.
It is noted that NWD's property asset collateral ratio rose to 29%, but it remains at a controllable and healthy level. This ratio is worth monitoring by investors, as if the Group were to face liquidity issues, this ratio would likely rise to a high level, meaning the Group pledges the assets as many as it can. (However, even if this ratio is high, it does not necessarily mean the Group faces liquidity issues).
Since the year to date, NWD already refinanced bank loans over HKD 51 billion. The Group recently issued a USD 400 million bond, reflecting its strong financing ability. Besides, the Group continues to increase its onshore RMB borrowings to lower the cost of borrowings, which could reduce the average cost of borrowings to around 4.5% level going forward.
Overall Default Risk Remains Quite Manageable
In summary, NWD’s operational performance is expected to improve, mainly due to several factors including more completion of investment properties, the gradual recognition of residential projects and peaking interest expenses. Coupled with the Group's ability to reduce debt through operations and asset disposal and strong financing support from banks, the overall default risk remains quite manageable. NWDEVL 4.800% Perpetual Corp (USD)
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Related Risks
Despite the Chinese central government’s heavy-handed measures to revive the economy and market and Hong Kong government scrapping all tightening measures related to the stamp duty in the property market, it is still uncertain whether the downturn of China and Hong Kong property markets has ended. If the property markets continues to deteriorate, leading to a significant decline in NWD’s property sales over a prolonged period, the Group's operating performances could continue to worsen.
One of the NWD’s debt repayment methods is to dispose its non-core assets, which involves an execution risk. If the Group ultimately fails to dispose a significant amount of non-core assets, it could increase its liquidity pressure. If the disposal prices of these assets are too low, it could also show a weaker-than-expected asset monetization ability, affecting its debt repayment ability.
The confidence crisis in the Chinese real estate industry is still showing a sign of proliferation. If the homebuyers’ confidence in the New World brand is undermined, it could lead to a sharp drop in NWD’s contracted sales. At the same time, the Group could need to record an impairment loss of its Chinese property projects instead of getting a profit margin premium of its projects at present. These will affect its asset value and liquidity.
In addition, NWD is reliant on bank loans for refinancing. If banks decide to tighten their financing limits with some reasons, it will significantly increase NWD’s liquidity pressure and default risk.
If NWD experiences slight liquidity pressure, it can suspend the coupon payments on its perpetual bonds, which does not constitute a debt default. This means that perpetual bond investors cannot seek legal recourse for unpaid coupons and principal but need to wait for the Group to improve its operational condition to repay the accumulative coupons or until the Group defaults on its debts, where the perpetual bonds would be restructured along with other fixed-tenor bonds.
Conclusion
New World Development’s bonds rebounded significantly after the announcement of FY24 result, reflecting an increased market confidence in the Group's debt repayment. The Group is expected to have over ten billion revenues recognized from large projects going forwards, which should support future performance.
The Group’s weak operating performance was foreseeable. This result can be interpreted as a short-term pain from transitioning from a conglomerate to a pure real estate player.
Achieving the target for non-core asset disposal in FY25 should not be difficult, allowing the Group to continue reducing and repayment debt through non-core asset disposal. The value release from agricultural land becoming a source of growth and potential liquidity.
In summary, the Group’s operational performance is expected to improve, mainly due to several factors including more completion of investment properties, the gradual recognition of residential projects and peaking interest expenses. Coupled with the Group's ability to reduce debt through operations and asset disposal and strong financing support from banks, the overall default risk remains quite manageable.
