Hongkong Land Holdings Ltd (OTCPK:HKHGF) Q2 2022 Earnings Conference Call July 28, 2022 6:00 AM ET
Company Participants
Robert Wong – Chief Executive & Executive Director
Craig Beattie – CFO & Executive Director
Conference Call Participants
Robert Wong
Good morning. Thank you for joining us to review Hongkong Land’s results for the first half of 2022. I’m Robert Wong, the Chief Executive of Hongkong Land. And with me is Craig Beattie, our Chief Financial Officer. Following our presentation, there will be an opportunity for questions to be submitted electronically. Please send us your questions through the website, and we will include them in the Q&A sessions.
Today, I will take you through some key market updates and half year result highlights for investment properties and development properties before turning over to Craig to cover financial highlights. I will then conclude with an update on a number of corporate initiatives, including digital transformation, sustainability and CSR as well as our outlook followed by Q&A.
Before I move into the half year results in detail, let me first provide a brief update on our key business segments, along with observations in each of our key markets. In Hong Kong, Central continued to outperform the wider market with rents showing signs of stabilization. The broader office market, however, continues to be challenging with high availability from both current vacancies and upcoming supply in the centralized locations, as well as uncertain demand prospects as a result of anti-pandemic measures.
For the group’s Central portfolio, the fifth wave of the pandemic brought new office leasing inquiries to a hold for several months. Although leasing sentiments have since recovered, driven primarily by continued flight to quality demand.
Moving on to luxury retail. Consumer sentiment was impacted by anti-pandemic measures early in the year. Having said that, as restrictions were relaxed, we have seen a significant improvement in footfall and tenant sales in our portfolio.
Moving on to the Chinese mainland. Sentiment for the residential market was subdued in a majority of the group’s key markets due to a combination of anti-pandemic measures and an uncertain economic outlook. To date, the relaxations of cooling measures to boost housing demand has had mixed results.
In Shanghai, construction activities have been subject to frequent disruptions as a result of anti-pandemic measures, which had an impact on construction progress, getting the expected sales completion date of some projects. On the retail front, while footfall and tenant sales were negatively impacted by pandemic-related disruptions in Beijing and Shanghai, a number of luxury brands opened new stores as planted at WF CENTRAL in Beijing demonstrating their commitment to the market.
In Singapore, net absorption of Grade A offices in the CBD was positive in the first half of 2022, resulting in lower market vacancies. Office rents increased in the first half of 2022, mainly due to the tightening of supply. Leasing momentum at the group’s flagship assets were in line with the wider market and continued to improve in the first half.
Moving on to the residential side. Market sentiment was healthy, especially for well-located projects despite the introduction of cooling measures in late 2021.
Turning to an overview of 2022 half year results. Despite the challenges cost by further waves of the pandemic, I’m pleased to say that our results continued to show resilience in the first half of 2022. The group’s underlying profits in the first half of 2022 was USD 425 million, up 8% compared with the same period last year. Profits from the group’s investment properties business were marginally lower, while a greater number of residential sales completions in China resulted in a greater contribution from the development properties business.
Profit attributable to shareholders was USD 292 million, which include a net loss of USD 133 million, mainly from revaluations of the group’s investment properties retail portfolio due to lower open market rents.
In terms of underlying earnings per share, the group generated USD 0.1867. The net asset value per share at 30th of June 2022 was USD 14.99. The Board has declared an interim dividend of USD 0.06 per share, unchanged from the prior year. The group’s balance sheet remains strong with ample liquidity.
Now let’s turn to some of the highlights of our business in the first half of 2022. During the first half, contributions from investment properties were only marginally lower than the same period last year despite challenging market conditions. On the development properties front in China, the group’s sales launches have mixed results, reflecting varied market conditions across the country with those in Chongqing market outperforming launches in Nanjing and Wuhan.
In terms of land banking, the group successfully secured 2 primarily residential sites one next to West Bund, Shanghai and the other in Singapore. I will provide further details on these new investments later on the presentation.
In May, the group commenced sales of Piccadilly Grand, a residential development in Singapore, the project was well received in the market. And to date, the development is 75% sold. In June, the group received formal confirmation that its 2030 science-based targets across Scope 1, 2 and 3 have been validated by SBTI. I will provide further details on this later in the presentation.
In July, the group announced an intention to invest a further USD 500 million in the share buyback program that was announced in the second half of 2021 returning up to a total of USD 1 billion to its shareholders. The share buyback program has been extended to the end of 2023.
Next, I will like to spend some time to talk about the group’s swift response to the latest wave of COVID-19 across our key markets. For tenants, the group has provided target rent relief, focusing on retail and F&B tenants as well as adopt flexible operating hours during previous when the impact of strict social distancing measures was the most significant.
During those difficult periods, the group also proactively implemented promotional measures to support takeaway and delivery businesses for our F&B tenants. As the social distancing measures began to ease, we worked with our tenants on large-scale promotional programs to support a business recovery. These assets were complemented by the operating excellence of our property management teams who have earned industry-leading awards on behalf of our properties, including, for example, the CIBSE Hong Kong Facility Management and COVID-19 Achievements Award and Anti-Epidemic Hygiene Measures Certifications from the HKQAA.
In terms of taking care of our people, we continue to deploy the latest hardware in our offices to safeguard the health and safety of our staff. On top of the usual preventive measures, we have taken since early 2020. These include, for example, deploying the most advanced antiviral coatings to finishes and surfaces as well as filters and UV lights on air conditioning banks.
In Shanghai, the team delivered care packages, which include daily necessities to our colleagues who are undergoing home quarantine. For the broader community, the group continued HKD 15 million to the HOME FUND in support of initiatives ranging from delivering hot meals and necessities to over 72,000 people; two, providing over 5,000 sets of protective equipments to frontline workers in Hong Kong.
We also built on the strength of our tenant community through a gift matching program to support Po Leung Kuk and Foodlink. In Shanghai, the group also distributed daily necessities and protective equipment to help the local community get through the worst of the latest wave of COVID-19. We were also pleased to have sponsored the rapid construction of a temporary quarantine facility in the city.
I shall now turn to investment properties. Turning first to our Hong Kong office portfolio that forms the heart of our core Central Hong Kong. Performance from the group office portfolio remained stable. Rental reversions were negative in the first half of 2022 with average office rent decreasing to HKD 112 per square foot from HKD 115 in the second half of 2021.
Physical vacancy at the end of June 2022 increased slightly to 5.4% from 5.2% at the end of 2021. On a committed basis, taking into account existing lease commitments, vacancy was 5.1% at the end of June 2022 compared with 4.9% at the end of 2021. By comparison, vacancy based on existing lease commitments across the Hong Kong Central Grade A office market was 7.9%, a slight decline from 8% at end of 2021.
The weighted average lease expiry at the end of June 2022 was 4 years compared with 4.2 years at the end of 2021. The portfolio’s top 30 tenants who occupied close to half of our total office net leasable areas in Hong Kong had abated average lease expiry of 5.6 years. At the end of June 2022, only 8% of our Hong Kong office portfolio is subject to expiration or rent revisions during the second half of the year.
Turning to the landmark, which continues to remain the preeminent luxury shopping and fine dining destination in Hong Kong, as demonstrated by the number of prestigious, luxury houses and Michelin star restaurants we have as tenants. Average net rents were negatively impacted by temporary rent relief for a select number of retail tenants as mentioned a few slides earlier as well as negative base rental reversions on lease renewals.
Our average net rent decreased by 12% to HKD 168 per square foot per month in the first half of 2022 compared to HKD 190 per square foot per month in the second half of 2021 where minimal rent relief was provided. Excluding the impact of rent relief, average net rent in the first half of 2021, the second half of 2021 and the first half of 2022 were HKD 203, HKD 201 and HKD 191 per square foot per month, respectively.
Occupancy remains robust with vacancy on a committed basis remained low at 0.3%. Despite challenging circumstances, tenant sales were down by just 3% compared to the first half of 2021, although they remain well below pre-COVID levels, rent relief provided in the first half of 2021 amounted to HKD 64 million compared to HKD 61 million in the first half of 2021.
Turning now to our Singapore office portfolio. Average gross rents across our Singapore portfolio in the first half of 2022 was SGD 10.5 per square foot per month, a 2% increase from SGD 10.3 in the second half of 2021. Positive rental reversions were achieved during the first half of the year.
Physical vacancy across the portfolio decreased to 4.7% compared with 6.5% at the end of 2021. On a committed basis, vacancy remained low at 3% compared with 2.9% at the end of 2021. As at the end of June 2022, only 7% of our portfolio is subject to expiration or rental revisions in the second half of 2022.
Turning to other parts of Asia. In Beijing, footfall and tenant sales were negatively impacted by pandemic-related restrictions with tenant sales at WF CENTRAL down 16% and 12% compared with the first half of 2021 and the second half of 2021, respectively. Despite the market challenges, a number of luxury brands have opened new stores as planned. At the end of June in 2022, the property was 85% let.
In Macau, tighter border controls with the Chinese mainland has resulted in the decline in visitors and footfall at One Central Macau. Tenant sales in the first half of 2022 decreased by 21% compared with the same period in 2021.
In Indonesia, Jakarta Land performed within expectation in an oversupplied market. Office occupancy at the end of June 2022 was 71%. On a committed basis, taking account existing lease commitments, occupancy was 72%.
In Phnom Penh, the office space of our prime mixed-use complex, EXCHANGE SQUARE was 99% occupied at the end of June 2022 compared to 95% as at the end of 2021.
On the Chinese mainland, Chongqing remains our largest market and accounts for 66% of our Chinese mainland business by attributable developable area. We currently have 14 projects in Chongqing, with an attributable developable area of 4.9 million square meters. By exposure in U.S. dollars, which comprises committed development costs, less presale proceeds, contractually secured Chongqing is also our largest market on the Chinese mainland and accounts for 33% followed by Shanghai, Wuhan, Nanjing, which account for 20%, 17% and 16%, respectively.
Market sentiment was weak in the first half of the year, resulting from pandemic-related restrictions as well as broad concerns on the stability of the residential developers amidst an uncertain economic outlook. During the first half of the year, the group’s share of development properties revenue recognized on the Chinese mainland, including its subsidiary and share of joint ventures, was USD 735 million. This represented a 23% increase from the same period last year due to timing of completions.
In terms of sales performance, the group’s share of contracted sales decreased by 69% year-on-year to USD 419 million, a result of mixed sales performances during the first half. Sales launches in Chongqing, including units at the Landmark Rivers, Century Land and Re City were generally well received in the market by comparison sales launches were slower than expected in Nanjing and Wuhan due to more challenging local market conditions.
In July, the group commenced sales launch as Natural Jewel a primarily residential project in Chengdu, Sales performance was satisfactory, benefiting from the relaxation of cooling measures in the local market and the project’s good location. At the end of June 2022, the group’s shares of sold but unrecognized contract sales in its development on the Chinese mainland was USD 2.4 billion with 39% expected to be recognized in the next 6 months. The group recorded a gross margin of 27% in the first half of 2022, down slightly from the record 28% recorded in 2021.
Turning now to Singapore, where the groups have 5 development projects. Despite cooling measures introduced late last year, residential demand remained healthy in the first half of 2022. Revenue recognized in Singapore was USD 174 million compared with USD 306 million in the first half of 2021.
In terms of sales performance, contracted sales in the first half of 2022 was USD 270 million compared to USD 172 million in the first half of 2021, driven primarily by launch of Piccadilly Grand in June — in May 2022, which was well received by the market, having sold 75% of the units. As at the end of June 2022, sold but unrecognized contract sales in Singapore was USD 449 million, which with 33% scheduled to be recognized in the second half of 2022 under the percentage of completion method.
In the first half of 2022, the group secured 2 new development properties projects, one in Shanghai and the other in Singapore. The group secured a 34% interest in a primarily residential site in the Xuhui District in Shanghai adjacent to our 1.1 million square meters mixed-use projects in West Bund with a gross flow area of 54,000 square meter-ish. The development will comprise 6 high-rise apartment blocks with a total of over 470 premium residential units. Completion is expected by 2024.
In Singapore, earlier in the year, the group acquired a 49% interest in a residential site in Jalan Tembusu area with a developable area of 56,000 square meter and expected to yield a total of 638 units. Completion is expected by 2025.
Before concluding this section, I would like to take a moment to highlight the group’s developing luxury and premium lifestyle retail portfolio pipeline on the Chinese mainland. The group currently has 4 retail malls in operation with a total attributable net leasable area of 171,000 square meter, a further 9 projects with an estimated attributable net leasable area of 268,000 square meters are expected to be launched from 2023 to 2026. By 2026, attributable NLA of the retail portfolio on the Chinese mainland is expected to reach 440,000 square meter, an increase of 157% compared with 2022.
WF CENTRAL, our flagship luxury retail property in Beijing, is also celebrating its fourth anniversary this year. A number of new international world-class luxury brands have leased space in the mall, further cementing its position as a prominent luxury shopping and fine dining destination in Beijing.
This concludes the review of our investment and development properties portfolios. I will now pass over to Craig to take you through the financial results.
Craig Beattie
Thank you, Robert. I will now take you through those financial performance, as Robert says, for the first half of 2022. All the numbers that I will refer to in the presentation are in U.S. dollars unless otherwise indicated.
The group produced a satisfactory profit performance in the first half of 2022, despite the market headwinds. Underlying profit in the first half was $425 million, an increase of 8% compared with the same period in 2021. Operating profits from investment properties decreased by a net $21 million year-over-year. This decrease was all in Hong Kong, primarily due to negative rental reversions in the office portfolio.
Results include rental relief for our retail tenants, most impacted by the government measures to control the spread of COVID-19, although the cost of this was modest and largely offset by savings and building expenses. Operating profits from development properties increased by a net $81 million year-over-year, primarily due to more sales completions on the Chinese mainland.
There was a slight increase in total contributions from projects in South Asia year-on-year, helped by the completion of a residential project in Vietnam. There was a net increase in tax charges in the period due to a greater share of profits coming from China, where tax rates are higher than those in Hong Kong. Interest costs increased as the group had higher net debt levels following investment in a number of new projects.
The impact of rising interest rates in the first half was modest as the group has a significant portion of fixed cost debt. Overall, the operating profit split between investment properties and development properties was roughly 70-30 in the first half of this year compared with 80-20 in the first half of 2021.
Turning to rental income by region. The combined rental income from our office and retail portfolio in Hong Kong declined by 4% compared with the same period in 2021 and declined by 6% compared to the second half of 2021. Most of these decreases were due to negative rental reversions in the office portfolio.
Rental income from our Singapore portfolio was stable, which benefited from a slight increase in average office rent, partly offset by lower average vacancy. On the Chinese mainland, rental income was broadly in line with the prior 6-month period despite the impacts of COVID-19. There was a 20% increase compared to the same period last year reflecting a full 6 months of rental income from The Ring, retail mall in Chongqing, which opened in the second quarter of last year. In Macau, rental income from our retail operations was negatively impacted by the tight order restrictions, which reduced tourism levels.
Turning to the operating profit of the group’s development properties by region. Please note, this slide includes the group share of joint ventures and associates. Operating profits on the Chinese Mainland are recognized on projects complete, which means that profitability can fluctuate between periods depending on construction progress and the number of projects underway.
Profits in the period increased by 94% year-over-year to $157 million, reflecting a higher number of completions. The average profit margin was stable compared to the same period in 2021. Operating profit in Singapore development properties are recognized on a percent of completion basis. Profits declined by 58% compared with the same period in 2021 and due to a lower volume of construction works in progress in the first half of this year.
A large project underway, Parc Esta, is approaching completion, and the majority of its revenue was recognized last year. In others, operating profit increased following the handover of units by completed development in Vietnam, as I mentioned earlier.
Now let’s turn to an update on capital management. In line with previous guidance, we endeavor to maintain a steady and increasing dividend as earnings grow. The group expects the dividend to be maintained in a down year if we consider this to be caused by temporary factors with the resulting increase in payout ratio. Dividends per share have been held constant in recent years despite reduced profitability due to COVID impacts.
In terms of new investment, the group invested some $600 million in the acquisition of new development sites in the first half of this year. Over the past 18 months, the group’s committed to investments of $3.6 billion in the acquisition of new sites, which will benefit earnings and cash flow in 2023 and 2024.
In September last year, the group announced a $500 million share buyback program, which, as of today, is predominantly fully invested. The group announced last night its intention to invest a further $500 million in the buyback of its shares, taking the total amount planned to return to shareholders to $1 billion. The period for the share buyback program will remain in effect until the end of 2023. The share buyback does not change our previously stated approach in dividends nor our desire to continue to invest in new site acquisitions.
I will now turn to the group’s net debt and cash flow position. The group’s financial position and liquidity remains strong. As previously mentioned, net debt was $6.1 billion and net gearing was 18%, up to $5.1 billion and 15% at the end of 2021 primarily due to the combined impact of lower sale proceeds from the development properties business, increased development expenditure on the Chinese mainland on the land banking that we’ve done in recent times as well as share repurchases during the period.
Net debt is expected to reduce in the second half of the year, benefiting from the collection of residential presales proceeds following significant investments in new projects. The group continued to generate strong cash flow from its investment properties business, highlighted by $385 million inflow from net rental income and fee receipts. Proceeds from development property sales were generally subdued and were also impacted by a short delay in TOP at the Parc Esta project in Singapore, which is now expected to occur in August this year.
In terms of net investment CapEx, the group had net outflows of $352 million, reflecting increased development expenditure on the Chinese mainland in respect of the various projects acquired. Share repurchases during the first half were $279 million.
The maturity profile of the group’s debt is shown on the left-hand side of the slide. The debt sureties are staggered over a number of years and are well diversified between both banks and debt capital markets. The scheduled maturities in the next 2 years are relatively modest and can be financed using existing committed debt facilities. The average tenure of our draw debt is 6.4 years with the average interest cost being 3.2%. The group is well hedged with 55% of total debt at fixed rates.
At 30th of June 2022, the group had available liquidity of $2.6 billion. And our credit ratings by S&P and Moody’s remain unchanged at A and A3, respectively.
I will now hand back to Robert, who will close with comments on a number of ongoing corporate initiatives and an outlook for the second half of this year.
Robert Wong
Thank you, Craig. I would like to take a few moments to provide a brief update on the group’s digital transformation initiatives. On the customer side, the group continues to enhance the competitiveness of its retail portfolios by enhancing services and amenities to shoppers. A new LANDMARK app was launched in March to provide shoppers and loyalty members with a more personalized and intuitive user experience.
On the SSI, where the group has had a long track record of reinvesting in this portfolio, we continue to source test and deploy, PropTech and other solutions to the benefits of both the tenants and the customers’ experience as well as progress towards the group’s sustainability objectives.
Over the past couple of years, the group have improved energy performance at the Central portfolio by embracing the integration of artificial intelligence into our energy management platform. This has resulted in a reduction of energy consumption by chiller plants ranging from 8% to 12%.
The estimated annual energy savings of approximately 700,000 kilowatt hour post-deployment is equivalent to the average annual consumptions of over 200 homes in Hong Kong. Separately, the group continues to invest in upgrading the Integrated Smart Management Systems to enhance remote monitoring capabilities with IoT sensors, security cameras and AI technologies. This system improves response time to tenants requests.
Finally, digitization efforts on the group’s operational and financial systems continues at pace. Recent achievement include: firstly, continued enhancements to our internal mobile apps whereby our people with fingertip access to both critical operational processes and employee wellness and volunteering programs; secondly, the launch of a cloud-based talent acquisition systems; thirdly, improvements to financial reporting system; and last but not the least, the launch of a contract life-cycle management system.
Moving on to sustainability. I would like to highlight a few of the group’s key achievements over the first half of 2022. First, as part of the group’s commitment to accelerate its contribution to climate actions, the group announced in February 2022 is pledged to setting near-term science-based targets that are aligned with the 1.5-degree centigrade pathway. These targets, which commits the group to a 46.2% reductions of absolute Scope 1 and 2 emissions by 2030 from 2019 levels, and a 22% reduction of carbon intensity for Scope 3 emissions over the same period, were validated by the science-based targets initiatives in June this year.
We look forward to working with our stakeholders, including those in the property development value chain to deliver on the group’s decarbonization commitments in the year ahead. In May, the group launched a new sustainability framework, which more clearly sets out our priorities, which are further linked to measurable targets for 2030.
The framework consists of 4 spotlights. The first is climate and economic resilience, which recognize that Hongkong Land’s long-term financial performance will increasingly depend on its ability to decarbonize its operation as well as to mitigate the risk brought on by climate change. An example of how this translates into measurable targets is our robust green building certification program, which sets the goals, having all wholly-owned leasing assets achieved the highest green building ratings and at least 90% of all other leasing assets achieve the second highest or above ratings, respectively.
Inspirational connections highlights the importance to work proactively with our tenants, customers, business partners, suppliers and other stakeholders to create and maintain sustainable urban ecosystems where we work and live. An example of this is our goal to work with the main contractors and Tier 1 vendors to ensure they are certified to recognize environmental, health and safety standards.
Operational excellence reflects the group’s ongoing commitment to provide their environment, tools and training to those who serve our tenants and customers. That means our people. Examples of our targets include maintaining minimum training our standards and aiming to achieve 30% female Board representation by 2025.
Finally, vibrant communities and cities reaffirms the charitable commitments we have made under the HOME FUND encourage our people to give back to our communities through voluntary and commits the groups to prioritize sustainable urban planning to meet the needs of the present and the future.
As a key step to delivering on our commitment to work more closely with our tenants, the group has launched a pilot green fit-out and operation recognition scheme at its Central portfolio. The scheme will recognize tenants who adopt practices that reduce environmental impact during the design and construction of Tengah projects as well as in the operation of their premises, including encouraging them to obtain green building certifications for their fit out.
Another key area of focus is the deployment of PropTech. An example of this is the ComfyApp, which the group has tried at the Central portfolio since 2020. The app grants personalized control to tenants as users can send instant temperature requests to the air conditioning systems. Since the ComfyApp adopts AI to continuously learn user preferences, it serves to both enhance thermal comfort and drive energy efficiency. For tenants who actively engages with the app, we have seen a reduction in temperature-related service score for over 60% and the electricity consumption by 2.5%.
Moving on to CSR, the HOME FUND, which the group launched in late 2020 continues to target its asset on social inclusion and alleviating housing-related social issues. Some of the key highlights in the first half of 2022 include the number of NGO partnerships increased from around 60 at the end of 2021 to more than 80 today spread across the region. Ongoing work with 4 grants to tackle housing-related social issues, ongoing collaborations with 7 grantees to enhance support for you through multiyear education programs with a target to assist over 1,500 young people in Hong Kong.
The HERE2HELP volunteer program continue to serve those in need through the pandemic as — and has accumulated over 1,400 hours since its inception in late 2021 and therefore mentioned support provided to the community during the fifth wave of the pandemic.
I now conclude with our outlook for the second half of 2022. Overall, market conditions are expected to remain uncertain for the rest of the year. The group’s full year underlying profits for 2022 is expected to be significantly lower than the prior year due to fewer sales completions primarily as a result of lower levels of land banking in 2019 and 2020 in favor of the West Bund project. And some completions likely to be deferred as a result of COVID-related disruptions to construction and sales activities.
The magnitude of the year-on-year decline in underlying profits in percentage terms is expected to be in the order of the high teens. While a recovery in underlying profits for 2023 will depend on the COVID situation in our key markets. It is likely to benefit from deferred completion from this year and higher sales completions due to more land banking activities post acquisition of the West Bund project.
The group’s office portfolio, which contributes the bulk of our revenue in Hong Kong is expected to remain resilient despite more competitive market conditions. Rental reversions are expected to be negative in the second half of the year as a result of our active lease management. Areas subject to expiration in the second half of 2022 amounted to just 9% of the Central office portfolio total net leasable area.
In Singapore, the office portfolio is expected to continue to benefit from healthy leasing momentum. Reversions are expected to be positive in the second half of the year.
On the luxury retail front, sentiment on both the Chinese Mainland and Hong Kong has been highly depending on the pandemic-related restrictions. For The Landmark in particular, average net rents are expected to improve in the second half of 2022, provided the pandemic situations in Hong Kong continues to remain under control.
In development properties, a broader recovery in residential market sentiment on the Chinese mainland will depend on the COVID situation and regulatory easing. Based on past experience, announced measures to stimulate demand typically takes at least several months before impact on underlying market activities is observed. Despite the current macro uncertainties, the group remains in a strong position as a result of its track record of strong site selections, disciplined approach towards the land at auctions and joint venture partners selection.
As the Chinese property market continues to evolve, market participants such as local authorities, financial institutions and home buyers are becoming more selective and are prioritizing working with developers with strong balance sheets. Consequently, well-capitalized players, including Hongkong Land, are well placed to benefit from an eventual market recovery.
In Singapore, residential market sentiment is expected to remain healthy. Overall, we expect uncertain market conditions to persist through the second half of 2022. However, the business continues to be anchored by the market-leading office and retail for lease portfolios, providing a solid base of recurring income and cash flow. The development pipeline primarily comprises quality projects in Tier 1 and 2 cities on the Chinese Mainland and in Singapore, which will provide a source of incremental earnings.
That concludes my presentation, and then I would like to proceed to the Q&A sessions.
Question-and-Answer Session
A – Robert Wong
Okay. Let’s see. All right. Okay. Craig, as per related to your area of responsibility. Craig, maybe can you take these first questions?
Craig Beattie
Thanks, Wai Cheng from CIMB. The question is your investments in JVs and associates amounted to about USD 9.5 billion at the end of June. How much of that figure was due to your exposure to property projects in China?
About 50% of our investments in JV and associates are related to China projects. That includes a bit of development properties, but also investment properties, including our West Bund project in Shanghai. The other 50% of JV and associates, the bulk of that relates to our investments in Singapore as the majority of our office portfolio there is held in joint venture. So that’s the breakdown in terms of allocation between markets.
Are you aware of any liquidity problems in your JV partners in China? And what kind of actions have you taken to mitigate your risk exposure to relevant projects?
Maybe if I touch on the actions that we take. I think as a developer in China, we look at each project on a case-by-case basis based on sales rate, construction time line, the ability to use debt where applicable. And we tend to manage our cash positions, such that most of our residential projects are in pretty strong position. From a net debt point of view, many of them are in a net cash position.
So we tend to be flexible. We tend to look at general market conditions. We try and be prudent without being overly cautious in terms of managing the sort of cash position within our joint venture projects. So that’s what Hongkong Land does with its JV partners in terms of managing our exposures there.
I think in terms of liquidity issues with our joint venture partners, we have a range of partners. Most of them are actually some of the stronger names on the mainland. And I think that really talks to the selection criteria that Hongkong Land has adopted by choosing quite carefully at partners that it works with. Of course, the current conditions are difficult and cash flow is an issue for all developers. But I think we are fortunate enough to be working with in main pretty strong partners, which should put us a fairly strong position.
Robert, is there anything you want to add to that question?
Robert Wong
No. I think the — you have covered the gist of it. It’s fine.
Craig Beattie
If I take the next question from Chloris Yeung at HSBC. How much rent relief has been offered to retail and F&B tenants in the first half of this year?
We provided about USD 8 million in rental support, which is in line with the same period first half of 2021. It was an increase compared to the second half of last year, where the rental support provided was very modest, really reflecting the fact that the COVID measures in Hong Kong last year had been relaxed. So USD 8 million. There is some support provided outside of Hong Kong, in China and Macau, but it was quite small and immaterial in the overall scheme of things.
Robert Wong
So okay, the third question is also about the drop in cash balance.
Craig Beattie
Yes. I think maybe if I start here, Robert. This is a question from Standard Chartered. We saw a big drop in cash balance first half against first half of last year due to investment in joint ventures and associates. Can you tell us on where and what nature these projects are?
You — what you’re seeing with our cash balance is really a reflection of our investment activities, which we’ve summarized in the presentation today. We’ve invested about 90% of our land acquisitions on the mainland and about 10% of the capital went to Singapore. We’ve also invested in our share buyback program of about $500 million in the last 11 months. So the bulk of it is land acquisitions, but there’s also the investment in our — in the purchase of our shares.
Does Hongkong Land provide any off-balance sheet debt guarantees on its project debt?
The answer to that generally is no. We do not guarantee the debt of our joint venture partners. It’s not really a part of our treasury strategy.
And finally, what is Hongkong Land share of total debt of these projects?
We mentioned in the first half of this year that we’ve committed to 2 new projects in Shanghai and Singapore. The total amount invested is about $600 million. There’s about 1/3 of that represent debt, 2/3 is equity. And I think on balance, if you look at our investments in land over the last 18 months, debt represents about 25% of the total and equity, 75%. We generally, particularly in China, follow a well-capitalized approach with respect to the mix between equity and debt. So the debt levels on these investments are manageable.
Robert Wong
Okay. I think the next question is from Bank of America, Karl Choi, asking us to comment on the retail tenant sales performance in June compared with last year.
I must say the after relaxation of the social distancing measures in towards late April, visible rebound in retail sales activities in our Central portfolio was observed. I’d say, in the period of June, May and June, actually, the performance, the sales performance of our retail tenants are quite satisfactory, generally on par and in fact, have registered positive in the performance relative to the last year. So that is encouraging.
The — recently, we noticed that quite a number of traveling happens in Hong Kong, resulting in more acquired activities in the recent weeks. As probably you also feel that quite a lot of people are now, after so many months of staying in Hong Kong, they all like to try to travel around, and that has an impact on the retail sales.
So I think generally, May, June, no problem, early part of July is all right, but gradually, we feel that the people are wishing to take the travelings, and hence, I would expect activities in August probably is a bit a slowdown. Later part of July will be the slowdown because of the travel pattern. But having said that, compared with last year, we are talking about, okay, the positive, the sales performance, the — of course, we are comparing still in a low base situation. Relative to pre-COVID level, we are still talking about 20%, 30% down compared with the pre-COVID level. Of course, it’s really appreciate that it really relates to the closed border situation with the lack of tourists coming to Hong Kong. It certainly impacted retail sales of all properties in Hong Kong.
It’s — question is about the China property downturn. Has Hongkong Land changes investment return thresholds and city focus when bidding for new land?
Naturally, the — in a more risky market. The opportunities have actually give — can give you a high return. And actually, we would demand for high return in the circumstances. And then we found that the available opportunities, actually can be very successful, we can be very selective. We are not rushing into the market. We saw all that as an opportunities to invest in new opportunities, as you have seen that we have invested in Shanghai and an excellent prime residential site in Shanghai that we have acquired that at a reasonable price.
So our strategy going forward in terms of new investments is, of course, to be very selective. Expect a high return from the new investments and the — we have to be carefully selecting the cities with better city dynamics in terms of supply and demand. And even in today’s situation, we can see the relative performance of each cities. Not all cities are performing to the same extent.
Generally, of course, the market sentiment is weak. But there are cities that are really performing, still performing well. And a good example is Shanghai. Shanghai is really still performing healthily. And hence, our investment in the Shanghai project was recently made as a result of the reasonable performance of the market despite the challenging conditions overall for China.
Okay. I think the — I’ll just add one point about the joint venture partner risk that — do we face a problem of it?
You should — one should appreciate that the — when we invest into a typical residential projects, the bulk of the funding is in the land cost. And you all know that land cost needs to be paid upfront. Once the land cost has been paid upfront and all our joint ventures or the land cost has been fully paid by the partners anyway. So it represents 80%, 90% of the total funding needs already.
So that’s why the sort of exposure to the project is actually quite manageable when the bulk of the funding has been in place, I must say. And other aspects of the — even if partners do have risk, but generally because of our careful selection of partners, we don’t have a major problems faced with our partners. But even things turns unexpectedly bad that we can always schedule our construction program to really meet the pace of the market demand. And hence, that will — we could also adjust the cash flow of the project.
So there are multiple ways to really — to respond to the changing market conditions. And overall, as I’ve just said, the cost the funding needs are largely in place already, so the risk is quite manageable.
The next question is from Citi. Ken Yeung is asking, how do I see the risk of investing in China after a series of events like uncompleted properties, mortgage, nonpayments, lockdown stance? Are you going to invest in — or invest the required returns for the increase? I think he’s referring to, are you going to increase the required returns for now?
Yes, I think it’s the — I would say, I would distinguish the problem phase in China into 2 main categories. Most of the problems faced in China at the moment are relating to those that are weaker developers, have questionable ability to complete the projects and hence leads to the mortgage nonrepayment, et cetera. And generally for strong developers like Hongkong Land and the for — also for stronger cities, generally, there isn’t any major problem with regard to the completion of the assets, et cetera. But invariably, this affects the overall sentiment. I’m not trying to say that nothing — we have no issue whatsoever with that.
Certainly, Hongkong Lands project have no risk whatsoever on the completion side. We have been also affected by the overall market sentiments. Overall market sentiment, of course, it takes time to recover. And then you also know that the central government has been actively monitoring the situations with a view to really try to step in, to restore any healthy market dynamics like the introductions of the support fund for those uncompleted projects that has been announced by the authorities.
Again, these are the ways that in order to stabilize the confidence of the market, which is very important, the flag job confidence can affect the whole market. So I think the — but I’m sure that the authorities would step in, in time to restore confidence in the market.
Of course, the big question is, are they able to restore the confidence of the market. My view is there are a lot of policy levers that the Chinese government can pull in order to restore the confidence. And I don’t think that they have exhausted these policy levers. And then they have just — so far, what they have done is the company in a number of measures that they have introduced, typical measures that have been introduced for the overall market is a reduction of mortgage rates and also electricities, depending on the market conditions. They have also relaxed the purchase restrictions and also the — reducing the time between the — and encourage people to buy property by shortening the time between the holding period before you can resell the assets.
Again, if you are reducing the period of resell, you create — we try to reflect the secondhand market and hence, try to create a healthy churn of the market activities to restore. And all these takes time. I think the — none of the measures will be able to or we should not expect measures to be able to restore market to normal conditions within weeks, I would say.
In the past experience, as I mentioned in the presentation, it generally takes months in order for the market confidence to be restored. And I’m generally confident that the China will not go into the complete meltdown situations. As I’ve just mentioned, they do have plenty of policy levers that they will be able to pull in order to restore the confidence of the market or at least avoid the meltdown of the market.
The next…
Craig Beattie
I think the next question, Robert, I’ll take. It’s from Enoch at PGIM. What’s your offer? Or how do you have to maintain a buffer to support your credit ratings.
As I mentioned earlier, we’ve got credit ratings with Moody’s and S&P. We have a very strong rating from both of these agencies. And of course, the way that they look at this is really twofold. The interest cover ratios that we provide or maintain and also our cash flow is relative to the amount of our debt.
Obviously, our debt levels have increased in the last 18 months, reflecting the investment programs that we’ve had underway. But I think the current metrics continue to look strong. I think the key point here, though, is what is coming or expected to come in terms of future cash flows, which is where the rating agencies will be particularly focused.
I think here, as we noted in the presentation following the significant investments we’ve made in development projects in the last 18 months to 2 years, we are expecting good cash flows coming in, in the next 1 to 2 years. So I think the rating agencies will quite rightly have been looking at that.
I think the other point to note is on the cost of debt and the interest cost as we find ourselves in amongst a rapidly rising interest rate environment. And I think here, our current position with respect to our hedging of interest rates provides us good coverage despite the sort of interest rate rising environment. We note at the end of June, we’re about 55% hedged overall, but actually in Hong Kong dollar debt, which makes up the bulk of our debt, we’re actually 70% hedged.
Hongkong Land is in a good position to ensure that its cost of debt overall will probably increase at a much lower pace than the absolute rates themselves. So I think the combination of being well hedged on the interest rate exposure and then good outlook on our cash flow generation should continue to provide good support to our credit ratings.
Robert Wong
Okay. The next question is about — is from [indiscernible] of [indiscernible]. What is my view on the mainland property market? Will we slow down our investment on the mainland?
Overview of the mainland property market I’ve just mentioned about, generally, of course, it will be facing challenging times in the foreseeable future. But I don’t see the chance of a complete meltdown — and I do see a given time with all the measures in place and also potential new measures in place that I think there should be a recovery of market in time may not be weeks, but I think in months that it should be at least back to a more healthy state. It’s — when we look at property market, especially such a large property market like China, it’s very hard to generalize. So we tend to look at the individual cities and then look at the dynamics, and we will continue to do that.
Where are the cities that we will be more favorable in terms of the new investments?
Of course, cities that have strong basic dynamics, like Shanghai, the strong day basic dynamics, the normal parameters is, of course, the supply. If you look at the supply figures of Shanghai, it remains relatively low like last year, the average supply per person in Shanghai last year is just talking about 0.3 square meter per person last year versus the normal of most other cities, it’s between 1 to 2 square meter per person. The cities like the Wuhan, Chongqing, et cetera, they got the high supply level of 1.18 to 2-meter per square meter per person supply last year.
So I think the overall supply and demand dynamics will probably need to look at stronger dynamics like the — like Shanghai will be favored. But of course, we should not just look at just one single parameter when we assess opportunities. In cities where we have very strong competitive advantage and strong brand like Chongqing, I mentioned about Chongqing is if you look at purely from a supply perspective, it’s 2 square meters per person supply. Last year, it’s probably one of the higher supply in the strong second-tier cities, the order, including the first tier strong second-tier cities.
But why are we still positive about Chongqing?
Because of our strong branding and the — we have — Chongqing is probably one of the cities that we have the longest history of operations, we start off the — our investment there since 2005. And with our strong brand in Chongqing, you’ll find that despite such a supply and demand dynamics. Our sales in Chongqing in the first half of this year is still very satisfactory. And the top 5 selling project in Chongqing, 3 of each, 3 of which are actually from Hongkong Land. So you can see that we have a quite a dominant position in terms of sales in Chongqing.
And hence, the — is not that bad, not just the sales level that we’re taking 3 top spots out of the top 5. And in fact, the highest we also create record selling price in Chongqing despite a very weak market. So you can see that the — for markets that we clearly have a strong competitive advantage, then we will not hesitate to consider investing in that markets that probably a little bit more cautious, will be probably Wuhan. Wuhan has also 1.8 square meter per person supply and the dynamics is a little bit weak there. But again, long term wise, we don’t have any problem. I’m not saying that we will be creating Wuhan as a specific market, but probably it is not our priority area to think about sinking in more new investment.
Hangzhou is a very strong city despite supply figure will give you a very scary level, also 1.8 square meter per person supply, but it is not telling the whole story because the restricted selling price in Hangzhou is quite well below this — the market price and hence, the new sales are pretty much assured in Hangzhou.
So again, all in all, I just want to give you a highlight about when looking at market in China, yes, overall, it’s challenging, but there are jewels The lying around that we should have the ability to pick up these jewels. We have picked up one in Shanghai, and which we are very confident about. And then going forward, I’m sure we will be able to pick up more.
Overall, investment level in a more risky environment, of course, we naturally should also be more cautious. So I would not expect our acquisition to be at the same level as before like last year or in the last 5 years, we have quite invested to USD 2 billion to USD 3 billion. I would not expect us to be matching that level of new investment this year, but neither would I expect that we will be completely stopping our new investment in China. And then I think the return that we would expect, I think demand will be higher than before.
Okay. The next question is about share buyback. Craig, would you like to take that?
Craig Beattie
Alvin at CLSA, it’s building a bit on your last response, Robert. The question is, is the additional $500 million share buyback a result of the trade-off between investment and shareholders’ return that you’ll be more cautious in investment this year? Or is it more that you feel you have enough balance sheet room for both potential investments and shareholder returns at the same time?
I think our position on share buybacks has been quite consistent in terms of our preference, which, generally speaking, is to continue to grow the earnings of the group by investing in new projects. I think as Robert noted, we have deployed a lot of capital in recent times. And amidst the current market conditions, you should probably expect us to be a bit more cautious in terms of what we’re going to do next year. And having said that, as I’ve said already, whilst net debt increased to 6.1% at the end of June, we are expecting that to trend down.
And therefore, we feel confident that we have sufficient capacities to both invest in the buyback of shares as well as selectively seek new land acquisition opportunities. I think the reason why we’ve extended the program is really that we feel amidst all the volatility and headwinds in the market, both in Hong Kong but also in China, we remain very confident in the strength of our underlying assets. And we feel that the share price at this point in time and the general dynamics of the market means that buying back our shares in moderation provides good returns for shareholders overall.
So I note that the buyback program will remain in place until the end of 2023, so about 18 months. So I think you should expect to see us investing this gradually over time, not looking to deploy it immediately.
I think in terms of — there’s a follow-on question from Alvin around how should we think about the principles of share buyback going forward.
There’s no change to our principles, which really, as I said, is truly prioritize investing in new projects, given that we’ve just extended the buyback and it’s in place until the end of next year, I think there’s ample time for that to be deployed and much more to say beyond that, other than noting that by the end of next year, we may have invested up to USD 1 billion in the buyback of shares. So it’s quite a significant amount in the overall size of the company.
Robert Wong
Okay. Since we received no more questions from anyone. So thank you for joining us today. Since COVID is still around us, I wish you all staying strong and healthy going forward. Thank you very much.
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