Wednesday, June 13, 2007

Playing the Devil's Advocate

In our last post a week ago, MOS pointed out Soundwill Holdings (878.HK) as trading at at least 60% to readily ascertained NAV. Despite pointing out the fundamental merits of the investment case, the write-up ended with a question on whether "such great bargains exist in the booming market today". MOS then went on to provide a short spiel about why the sharp discount to NAV may exist. As a result of playing the devil's advocate, we received several comments and emails questioning our apparently confusing position. Hence, we see this post as an opportune note to set the record straight.

An astute value investor may have noted that the factors listed were, by and large, macro-economic ones. As fundamental, bottom-up value investors, we pay scant attention to such economic factors. It's true that HIBOR has been and may trend further up. But to a fundamentalist, one can easily incorporate the sensitivity to interest rate changes when modeling the RNAV.

Regarding the factor on a possible market correction, it is unfortunate that our crystal ball isn't a nuclear powered one which will allow us to discern the future more clearly. Hence, our mantra generally is "as long as a clear bargain exists, anytime is a good time to buy". If time permits, we will expound on the foregoing with some data in future. But our general finding is that it is better to remain invested in the market to avoid missing out on the bull-runs. This statement is of course premised on one finding attractively priced securities to invest into.

So, the answer to last week's question is a resounding "Yes!" - such bargains can exist in the booming market today. In fact, we feel that a key to unlocking the value in Soundwill would be the rejuvenation of Tang Lung Street. But before you hit your broker's number on the speed dial, please note that this does not constitute any investment recommendation and investors should also do their own homework and know the risk factors. As Mr Munger always stresses - "Invert"; i.e., no security is perfect and know what can possibly go wrong.


Wednesday, June 06, 2007

Do you have a Sound Will?

MOS last featured a HK stock in March 07. It was Wheelock (0020.HK) when it traded at HK$17. This property counter has since rallied 20% in the last two months. Today's post also features another property counter. It is Soundwill Holdings (878.HK). The company is a property developer and holding company specializing in HK real estate. The jewel in the company’s crown is Soundwill Plaza. Soundwill Plaza is located in Causeway Bay, opposite Time Square and within walking distance from Sogo. This Grade A commercial building is largely leased up, with well known beauty related products and services targeting the hip and trendy. A shopper can fulfill all her (and his, as there are many modern age men) body and beauty needs as the building’s tenants include Sasa, Marie France and City Spa.

A fair amount of the leases will be up for renewal this year. This turns out to be a great opportunity for the landlord to increase rents because a lot of these leases were stuck 2-3 years ago, when the HK property market were in doldrums. Recall the panic over HK when SARS gripped the territory in 2003?

Besides property leasing, the firm is also into urban redevelopment. In this line of business, Soundwill acquires old sites for redevelopment and future sale. They view the foregoing to be a great opportunity because several urban areas in HK are in need of rejuvenation. Closely related to this business is the Group’s activity in property development. It has two residential property development projects. The one in Sai Kung is due for sale in 2H07. In addition, they dabble in urban infrastructure development on the Mainland.

With the property leasing and residential market in HK faring well, the above sounds like a very decent story. So one may ask what valuations are looking like. The PER on historical earnings is only 2x. However, these earnings include two substantial contributions from the disposal of investment properties. To find the real PER, one would have to strip out these extraordinary items to arrive at the core earnings. We leave this exercise to the interested investor; but we can share that the resulting PER figure is a large one.

If the commercial rents for Soundwill Plaza rises as anticipated, the valuation of the building will increase further. As a result, the NAV could be as high as HK$11 per share by our back of envelope estimates, without even attributing any value to its other businesses. Based on today's closing price of HK$4.40, we are looking at about a discount of 60%.

Do such great bargains exist in the booming market today? Well, Mr Market may have thought that he apply a hefty discount because the Plaza is situated just in front of Tang Lung Street, a lane with old buildings and smallish eating outlets. After all, property is about - location, location and location. Or maybe he thinks the HIBOR will continue to rise further due to inflationary pressures and hence will adversely affect Soundwill because all their debt are floating rate issues (note that the firm has fairly high gearing). Perhaps Mr Market feels that the Chinese market will crash and drag stocks in HK down too. The truth is, we ain't sure what he is thinking about either. If you are a smart investor with a line to Mr Market, do let us know?

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