Idea of the Week: Is GuocoLand’s 4.6% perp still a buy after its non-call?

GuocoLand Limited was incorporated in Singapore in 1976, it became a publicly traded company in 1978. Guoco Group Limited is the intermediate holding company that is listed on the Hong Kong Stock Exchange. Guoco Group is a member of the Hong Leong Group, a large conglomerate with many listed firms in Singapore, Malaysia, Hong Kong and London. 

FY22 Financial Results

For its full year financial results ending 30 June 2022 (“FY22”), Guocoland (“GUOLSP”) reported revenues of SGD 965.5m (FY21: 853.7m) which was an increase of 13% year-over-year (“yoy”). The increase in revenues were due to higher recognition of sales from its Singapore properties in Meyer Mansion and Midtown Modern. Within its future development pipeline in Singapore, GUOLSP has 4 projects to be completed in 2023 to 2024.

Table 1: GUOLSP’s property development pipeline in Singapore

On the other hand, GUOLSP had also grown its recurring income from its investment properties. Revenue from GUOLSP’s investment properties grown 10% yoy to SGD 126.1m (FY21: SGD 114.7m). This is attributable to higher rental revenues from Guoco Tower. As of FY22, both office and retail tenants in Guoco Tower achieved 100% occupancy rate while 20 Collyer Quay achieved 92% occupancy rate. We expect rental revenue to continue improving from additional rental revenue from GUOLSP’s new mixed-use development, Guoco Midtown, which revenues are expected to be accretive to revenue progressively from 4Q22 to 2023.

As a result, gross profit increased by 36% to SGD 365.7m from the higher revenue in FY22. Additionally, Guoco Changfeng’s South Tower was transferred from development properties to investment properties and this attributed to the increase in gross profit. GUOLSP intends to generate rental income from this property. Guoco Changfeng South Tower is a Grade A office tower with retail stores in the basement as well as a carpark. It is located in the Putuo District in Shanghai. As of FY22, South Tower achieved 85% occupancy and the basement retail is fully occupied.

Credit Profile

As of FY22, total borrowings amounted to SGD 5.6b while total cash and cash equivalents for the company totalled to SGD 1.1b. Total borrowings saw an increase after acquiring the Lentor Hills Site with a consortium comprising of GuocoLand, Intrepid Investments Pte. Ltd and TID Residential Pte. Ltd bought the site for SGD 586.6m, of which GUOLSP owns a 30% stake in the development. As such, net debt to equity rose of 0.90x in FY21 to 0.97x in FY22. Interest coverage ratio was 3.5x. We think GUOLSP’s credit profile is decent. Given the pipeline for 2023 and 2024, GUOLSP should be able to pare down their borrowings progressively as they receive their proceeds from development properties.

Non-call of its 4.60% perps

On 16 Dec 2022, GUOLSP announced that they will not be redeeming the GUOLSP 4.600% Perpetual Corp (SGD) on its first call date on 23 Jan 2023. The notes will not be reset as the reset date is on the 23 Jan 2025. The reasons cited by the company was due to the current interest rate environment. We think this non-call by GUOLSP is likely due to economic reasons as GUOLSP will not achieve any cost savings as issuing a new perp to replace the current perp will be more expensive.

In 2H22, we saw an increased number of SGD corporates choose to not call their perps on their first call date. One reason for this is due to the higher interest rate environment where it will be more costly for the issuer to call the perps on their first call date and replace it with a similarly structured perpetual. However, we also noted that some of the non-calls came from perps that were structured in a way that their first call date do not coincide with their reset date. This does not give much incentive for the issuer to call their perps on the first call date and provide some runway for the issuer to wait until the reset date before calling the perp.

Table 2: Non-calls announced in 2022

In view of the higher interest rate environment, we would like to caution against perps and prefer perps with a high reset spread or a step-up margin embedded in the notes. A step-up margin will incentivise the issuer to call its notes as the additional step up margin can be avoided by replacing it with a new issue. We would also like to advise investors to avoid perps with call dates not coinciding with their reset date.

Recommendation

Despite the non-call event of the GUOLSP 4.600% Perpetual Corp (SGD), we think there is value in investing in the notes now. Currently, the GUOLSP 4.600% Perpetual Corp (SGD) has an indicative yield to next reset of 6.12% which we find attractive given that the reset date is ~2 years away in 2025. On its reset date, the GUOLSP 4.6% perp will face an additional step-up margin of 100 basis points (“bps”) which highly incentivises the issuer to redeem the notes. If not called, the GUOLSP 4.600% Perpetual Corp (SGD) will reset at the prevailing SGD 7Y SOR + initial spread of 260.9bps +100 bps of distribution step-up.

Comparing to other perpetual bonds from Frasers Property Limited (“FPLSP”), the FPLSP 4.980% Perpetual Corp (SGD) is yielding 5% for 1.3 years to its next call date. The FPLSP 4.980% Perpetual Corp (SGD) also faces a step up margin of 100 bps on its first call date on 11 Apr 2024. However, we think the additional yield pick-up of ~100 bps for the GUOLSP 4.6% perp is much more attractive.

Table 3: Recommendation

Key Investment Risks

Given the higher interest rate environment, investors may face non-call risks and risk holding the perp past its first call date. We would like to remind investors that the issuer is not obligated to call its perps on the first call date. Additionally, the structure of the perp will also affect the issuer’s decision to call the perp. We do not recommend perps with their first call date not coinciding with their reset date. We prefer perps with an additional step up margin embedded in the notes as this will compensate investors with higher coupon rates when the issuer does not call the notes on their reset date.

Declaration: For specific disclosure, at the time of publication of this report, IFPL (via its connected and associated entities) holds a position in GUOLSP 3.290% 26Oct2026 Corp (SGD) and FPLSP 4.980% Perpetual Corp (SGD) and the analyst who produced this report holds a NIL position in the abovementioned securities.