Hysan Development Company Limited (0014.HK) Earnings Call Transcript & Summary

Thank you all for coming to Hysan Development 2023 Annual Results Announcement Analyst briefing session. Let me introduce our panel for this afternoon. our Chairman, Ms. Irene Lee; our Executive Director and COO, Mr. Ricky Lui; and our CFO, Mr. Roger Hao. I will start today's session with a presentation from Irene, Ricky and Roger, and we will follow that with time to take questions. And now let's invite Irene to start. Irene please.

Hello, everyone. Welcome. And [Foreign Language]. I hope this is a very, very good year of the dragon. And in fact, it was very, very good that did you hear the Dragon bounce outside to welcoming you all. We're actually bringing the new year in for some of our tenants here. So let me start. This is a year of global upheaval and the world gradually did recover from the pandemic, but many continuing and new challenges were impediments to recovery. Hong Kong was not immune to the impact of external factors. While there were improvements, especially in tourist numbers, consumption was still cautious and the export sector remained weak. Cities in the Greater Bay Area offered attractive day and weekend trips for Hong Kong, which resulted in an imbalance in tourist flows. Our portfolio. The demand for expansion by our key retail anchor tenants gave us confidence and impetus to execute our big strategic rejuvenation. Retail turnover slightly increased despite approximately 10% of our retail area being closed for our renovations. The rental reversion rate on renewals, rent review and new lettings was predominantly positive during '23. Despite the structural changes in the office sector, our office portfolio has demonstrated resilience and settled at a relatively stable occupancy rate of 89%. Lee Gardens is a highly desirable and competitive choice with our premium office space and facilities. We continue to diversify our tenant mix. And we have taken up new tenants in the high-end retailer sector as well as the service trades. Our investments in flexible work space or co-work complements and hedges our office portfolio in the new office ecosystem. I would like to pass on to Ricky now to talk about our results and our operating business.

Thank you, Chairman. Good afternoon. For the 2023 annual results, this year our revenue is HKD 3.2 billion, which is about 7% down from last year. About occupancy, the retail is 97%, office at 89%, residential at 60%. As Irene has mentioned, about 10% of our retail space we're taking up for major enhancement, which affect the retail income. The office and residential sectors were still under pressure. Our dual engine office and retail portfolio provide resilience and strength in the face of uncertainty. When we come to office, the 89% occupancy, it's come with a slow than expected economic recovery of Hong Kong office market and this also remained weak for the current moment. And landlord defense occupancy with more flexible lease terms and enhance the rental incentive has increased the supply came to market. The Lee Gardens unit environment, convenience and strong retail connections appeal to sectors like high-end retail and medical and health care services. On the right-hand side, if you look at the pie chart, you can see the retailer and the medical and health sectors now take over 12% of our whole portfolio. About retail. The recovery was impeded by us challenging external environment and a strong Hong Kong dollars. Retail sector is undergoing transformation. The focus of tourism has shift from shopping to experience-based tourism. It has present a challenge to the retail industry, but also opportunity to our Lee Gardens, where we have been focusing on place-making and [ curation ] of unique content and experience. This year, we also see a good growth on our turnover rent, which is up 45%, while the sales is slightly better than last year. We talked about our community. We offer the -- Lee Garden is a place that offer choices. It's connect people and curate communities for diverse offerings. From this graph, you can see we have -- this is quite a one-stop place where we can have the house of luxuries, the urban vibrance as [ well ] lifestyle part when the Lee Garden Eight is completed. We just finished the Lee Garden One and also Lee Garden Five renovation. And our tenants is now undergoing the fill out. We're expecting them to open starting from the second quarter of 2024. On the other end of the portfolio, the Hysan Place, we promoted a concept of urban food, which means we are trying to present the urban [indiscernible] to our curation of content and experience. For example, B1, B2 Hysan place, which just opened, have over 40 lifestyle, entertainment, F&B brands from various Asian cities, including some making the first time in Hong Kong's appearance. On marketing, the performance of our loyalty clubs, the Club Avenue and the Lee Garden Club are still strong. And the festive promotions and leases are having good response. But at the same time, we're adding more power to the marketing through putting up the UrbanPark, the Urban Sky Playdot, all this unique space which is stable part within the commercial building and cultures placed like a foreign place to hold different kind of talks and presentation about intelligent, and the Playdot is 2,000 big indoor playroom for family to mingle with their kids. And we never forget about online, off-line channels. Nowadays, we made good use of this online, off-line channels, for example our Power Up campaign as well as their collaboration with say given kind of bank and other brands that making use those channel make it much more effective. About the pillars, the Caroline Hill expansion, also the core expansion, Caroline Hill has a very good progress on the construction work and everything is on track. For Lee Gardens Shanghai, after completion of our upgrade in the second quarter of this year, the office had taken up 30% occupancy by the end of the year. Villa Lucca, we are -- for now, we have [ sold ] or less for more than 25% of the house and apartments. When we come to the asset-light pillars, both IWG and New Frontier has presented very solid performance. IWG as we believe, has become a very critical part and integrated into the modern office solution ecosystem. New Frontier is running on rising demand for premium health care services in China, which aligned with the economic growth of the country. About sustainability, this year, we maintain or getting better grade from all the rating agencies. And with the efforts of the team, we also receive different kind of awards and advocates, which is representing the effort of the team. Some figures about the environmental performance. The carbon intensity is 38% down from the baseline. The electricity intensity purchased is also down 21%. Out of the whole portfolio, 2.7 million square feet of building are green certified. We also committed to science based targets in this year. One of the initiatives we have put up is about green mobility at Lee Gardens. Now Lee Garden is the largest EV charging hub on Hong Kong Island. We have over 160 EV charges available in Lee Gardens. There will be a lot more when Lee Garden Eight is completed. And about connectivity and accessibility, we will be have -- we will have a weatherproof pedestrian link system by the time Lee Garden Eight is completed together with our upgrade and renovation of Lee Gardens. Okay. May I pass it to Roger about some financials.

Yes. Thank you, Ricky and Irene, and good afternoon, everyone. I will be brief so that we can dedicate more time to the Q&A. Just a few key numbers that I want to highlight here. As you can see from this page, Shareholders Fund, HKD 67.2 billion, NAV per share HKD 65.4 and dividend per share, as you all know now, is a whole year is HKD 1.08. A little bit on our liability side. Next page. Overall -- well, net gearing is 27.2% with an effective interest rate of 4.2%. Fixed rate debt continue to be our major portion of the overall debt portfolio currently standing at 62% with average debt maturity of 4.5 years. Undrawn committed facilities at the end of 2003 is [ HKD 11.4 billion ]. That is one of the spare contingency cash pool for us in case we need it. And sustainable finance, it account for about half of our total indebtedness. And I think one last thing on this page worth noting is, as you can see from the graph on the left-hand side, in the 2024 that is this coming 12 months. We only have a very minimal level of debt coming due which is about 0.6% of our total indebtedness. So we don't have any particular high pressure in terms of refinancing this year. And then finally, just for the record and for your easy reference, our cap rate. As you can see from this page, the cap rate basically are the same, same as stead of interim and same as that of the end of last year. So for retail, it's between 5.25% to 5.5%, office 4.25% to 5%, and residential staying at 3.75%. So that concludes my presentation. I think then we can now go to Q&A.

Thank you, management, so now it's time for Q&A. Maybe we -- let's start with the floor. Is anyone would like to ask any question?

This is Sin Leung from Jefferies. I have 2 questions, if I may. First, I just want to get a sense, what is the retail sales recovery rate in the second half for this year versus pre-COVID year. With the luxury revamp finishing this year, how do you comment on the rental reversion outlook for on the retail side this year. So that's the first one. And the second one is that recently we are seeing some news headlines on one of your FY tenants moving out on the office side. So any fill up plan there yet?

Okay. I think maybe, Ricky, why don't you talk to the retail last half, '23 half and then the coming period, right?

I think when you look at the second half of this year, you see the growth of our retail sales and particularly there's 10% of our retail area being under renovations. It's not really 100% back to 2018, okay? But we see the positive sign of it. As an outlook, from the response from the tenants as we mentioned, even the renovation is driven by tenants looking for expansions. So both the Lee Gardens and the Hysan Place, they see the demand or interest from tenants who want to open new shop or expense. So as we -- I would say, we are still positive about the outlook of the retail, and we also see the tourists coming back. And as I mentioned, Lee Garden communities uniqueness of our curation of content and experience do make us -- do provide us an opportunity to [ assort ] more tenant, assort more customers to our place.

Maybe I just want to add a little bit of insight. We are seeing an increased amount of inquiry from high-end brand tenants looking for office space. So that is, for us, a very interesting good sign for expansion. The market is somewhat bifurcated as the luxury end is strong and continues to be strong. And I think for Lee Gardens because we have shown extreme resilience in the last 4 years, COVID and during the riots. And that is why the luxury brands have chosen us to expand their flagships. I think it is very good and very important that brands consolidate. I really feel they should consolidate and they should pick their places of strength, and we are seeing that. Now as for the middle sector and the affordable sector, again, that's quite patchy, and you need to curate very intensely with a lot of new elements. And that is I think with the introduction of, let's say, our -- we would call it Urbanhood, which is our new 2 floors basement floors in Hysan Place. That is introducing something very, very new. It's a train station, airport style, the sensor [indiscernible] in this sense of walking through so many people announcing they will only go through the Hysan exit rather than the other exit, I won't mention other people right, because they come through and they see this whole new world. So I think it is really important to look from 2 lenses. The luxury lens is quite different and very, very strong. And then the other lens, it's not lacking strength, but you need to be very, very good at curating and giving newness.

And maybe also -- I mean, supplement by some of the comment on the rental reversions. As you all can see from the announcement, the retail rental reversion, we mentioned that it's predominantly positive. The reason why we highlight that all of our 250-plus tenants, there are a few number of tenants that is part of the rejuvenation area. Some of them are numerically is negative. But I think what's more important, especially from a leading indicator perspective, is the underlying health of the rest of the tenant growth. And as you can see from the results, year-on-year, our retail revenue dropped by 7%. But based on the rental reversion trend we see, first of all in 2023, that is current year other than a few particular tenants, which resulting us into the negative drop. We see they are in a positive arena. And going forward, we also expect with the renovation completed, the overall rental reversion will continue to be positive. And so that's one thing important. And the other is in terms of the valuation in particular, the one that is almost completed and Lee Garden, which will gradually open in phases. We expect [indiscernible] post the valuations, the rental or the preferred [indiscernible] basis on average, we increased by around positive mid-teens. So that is another very strong support in terms of the earnings path going forward.

This is Mark Leung from UBS. I have 2 questions. I think the first one is regarding dividend cuts. I think we are just the final dividends. And I just wanted to check what's the rationale behind? And going forward, how should we see our dividend policy. Is it based on payout or based on free cash flow? And then the second question is regarding the perpetual securities we are having. I think one of the perpetual bond, we are having a adjustment going forward. So our treatment on that one, will we refinance that with the existing bank loans so that we can enjoy cheaper funding costs?

Maybe I'll talk about the philosophy first, and I'll let Roger talk about the certainly more technical issues. As you know, Hysan has had the same -- we've not reduced our dividend for 21 years. Come [ GFC ], come pandemic, we have always held firm. I think the real estate world there has been a structural change. You can see the office -- structural changes there. Retail different reshuffling of high end and the mid low end. So we see there is a lot of uncertainties plus all the other geopolitical stuff that we talk about. I won't go into that. So the world out there is uncertain. In the last 3, 4 years since the riots, since the pandemic, as that we know the business has been tough, and we have held firm to our dividend, giving out the same level for the last 3 years. What we see apart from wanting to have [Foreign Language]. We want to be conservative. We want to be -- we are a 100-year-old company. We intend to stay around forever. We want to be more conservative. We want to conserve cash because the other reason the other bright side is we actually see a lot of very exciting opportunities. So we would like to build for the future. As you know, in the last several years, 5, 6, 7 years, we have been pivoting our business for growth. Now you can't do it forever on debt. So you need to have enough firepower to build -- now we we've been building our core. Caroline Hill is a very big investment for us. And as you can see, the entire Lee Gardens is undergoing what I call reimagination. You need to do that to stay ahead of the game. And at the same time, we're building our pillars. So we're building our asset-light business in the medical and health sector, in the co-working sector, which we really deeply believe a very important go-forward positions. We have also built some develop and sell. So some of you have been with us for a long time. No, I talk about pops, earnings pops, and we want to have regular vintages for earnings pop. So all this requires capital. So for me, we need to reset and make sure that we have enough firepower for future growth. Now Roger, maybe you want to discuss a little bit the technical side.

Sure. well, 2 questions. One is on the dividend side policy and the among the cut or reset. And as we mentioned before, obviously, every year, we look at our operating results and the cash needs for the next few years as well as an economic outlook. And then back to the business, as Irene and Ricky mentioned earlier, retail, we probably see the trough already. But the recovery, obviously, it is slower than we expected. We wanted to be. But you can see that, like, for example, turnover rent, we did see a good turnover rent. And rental reversion wise, expect it will be trending better next year, plus we are putting the renovated space back into production, basically, especially for Lee Garden, we already have all those newly renovated space committed by all these brands already. So we have a slightly better visibility in terms of the revenue stream from the retail part. But office, I think based on no matter as the overall demand supply, the overall economy forecast and all that, I think we will still see some challenges in the upcoming years, especially the rent that's going to -- the expiring rent, the rent related to leases that is going to expire will be pretty much the same as this year. So I mean if the spot rate remains the same, then we will see another year of negative reversions to be honest. So we have seen positive factors in the portfolio as well as some continuing challenges. So with that, we don't have a -- we haven't seen a full recovery yet, plus the cash required for the next few years. But having said all this, we want to adjust the dividend to a level that if things getting better and better, we would have a better chance to maintain our stable and progressive dividend path. So that's all been the things that we are trying to do.

We want to shape it more towards the shape of our business going forward rather than if the business goes up or down, we just get stuck at a level. So we to reset expectations. And we set our own discipline. If the business is going through volatility, we want to be able to shape it. But I think -- I do think that we have reached the bottom. Retail is looking better. But the fact that we have a dual engine, in the past, we've always had the dual engine philosophy where if retail is volatile -- and retail tradition is more volatile, office will always pick up the slack. The issue is office has -- the structural change has caused a very big gap in office and retail is still quite fatigue, still lacking confidence. So the catch up, the timing, we hope is not quite there. So we would like to have ample ability to cater to our business needs and not fall short.

Thank you. And to Mark's second question is about the perpetual securities. Well, this one the USD 850 million up subordinated perps with a first call date, I think, September 2025. So it is approximately 18 months before that due date. We monitor obviously the loan market and the bond market as to what is the most proper solutions for us. And I would say that we still have some time. And in terms of the interest rate, obviously, this morning, when I woke up, you got the news about the latest Fed minutes and all of a sudden, it's changed a little bit [ hawkish ] now. So we don't have a crystal ball. But we will look at available options. I think I can also report to you that based on our most recent discussion with the banks, we still see a lot of interest and appetite in providing financing solutions to us. So we'll see. .

Karl Choi from Bank of America. Three questions. First one is just to follow up on the dividend question. I totally understood the rationale. Just to confirm, it's still a stable and progressive dividend at a lower rate and not necessarily a change to a payout approach, right? Just want to confirm that. And second is, could you remind us where the occupancy cost stood at the end of last year? And a bit technical in terms of the rental pickup for Lee Gardens One and Five the -- now that you have handed back the space, presumably, there is rent-free period. Should we start to see a pickup in rent because you amortize the rent-free period we have to wait until they actually -- they start paying rent, which will probably be in the second half. And third question is an update on Shanghai, we saw that 30% occupancy. Where do we see sort of things going forward in 2024.

I think, Roger, why don't you answer the first two and Ricky can quickly cover Shanghai. Thanks, Karl. .

Right. Well, stable and progressive it's all has been our objective all along given the quality of the asset and the quality of the income stream. Obviously, the last few years, we have experienced quite a lot of challenges, and that's why we want to do a reset instead of like [indiscernible] the dividend amount. But we see, in particular, in the second half of this year, whether in particular, the interest rate environment and the overall economic environment, we'll see the ability to do that. But obviously, that is one of the key objectives we're trying to achieve. Your second question is about the occupancy cost. Overall for the portfolio as a whole is around mid-teens, which is from a historical point of view, quite a relatively healthy level. And in terms of the rental recovery for Lee Garden One and Five after the valuation is completed. And again, as Ricky mentioned, there is about 10% in total of the area. You got an account for approximately maybe 6% of the 10%. And progress is good, and we just need to wait until the interim ramp-up. So in 2023 that is the year where we are most affected. You can see that the income was affected by approximately like 6%, 7%. So we expect when these areas get back into production in terms of revenue, we will have a ramp-up of the rental. But given the timing, I expect Q4, we will probably see a mid-single-digit increase in revenue from those areas. But on a full year recurring annual basis, we should be able to see a high single-digit or maybe early teens recovery. I think if I remember correctly, all of the shops, the luxury shops should be ready by end of this year and it should be open this year. Just maybe one last shop maybe towards the end of the year or beginning of 2025.

Let's put it this way, Karl. We are working very right now already to work with our tenants to make sure when they come out of the renovations, the rebirth is going to be on a productive -- production per square foot basis has to be is not linear. It has to be better flagship stores, the ability to have stock their targeted clients. We have high expectations of both my staff and our tenants. So we really hope that this whole rebirth is going to be quite a significant event for us. And I hope I'm going to check on all of you whether you spend money.

Shanghai, I think similar to Hong Kong, no one will say the office market is easy, it's tough. Good things about that we have upgraded our building after we take -- we bought the building. The result of the upgrade is fairly well received by the market. And that's about first thing. The second thing is about the underwriting. Quite opposite our building is the one [indiscernible] which is one of the most expensive best building in Shanghai. We are charging the rental 60% of what they are charging. So that means we are quite very competitive in this -- from this angle. And then the tenants that we already committed are very good company, good names. And in the pipeline, we also have about 30% to 40% of the space being in serious discussions. So we hope that we can close some of the deal push up the occupancy in this year.

So we've 30% done yes, with another, hopefully, 30% to 40% in the pipeline, but in serious negotiations. So fingers crossed. .

Thank you, management. Is there any more question from the floor?

Two quick questions. Could you give us more color on the 20% lease expiry for the office portfolio? And how do you see the vacancy risk in the near-term? And secondly, could you give us more color on the upcoming CapEx plan for the coming 2 years?

Okay. Maybe let me try to answer the questions. As I mentioned earlier, the expiring this year in Q4. They are having a similar expiring rent. So that should give you a feel about the hurdles. And it's still a bit early. I mean, although it's in February. So normally, the -- in terms of the run rate of expiry, we will be doing a lot of catch up towards the middle of the year. But as I mentioned, there are certain challenges depending on the spot rate movement. So we are not underestimating those challenges. But if the market is getting to stabilize and the office -- the spot rate remain the same. So probably we'll see another of negative reversion. But as Chairman mentioned, we are working 200% efforts to defend our occupancy. So that's the color that I can give about office so far. And in terms of CapEx, as you all know we have 2 major sources of CapEx. One is the Caroline Hill project and the other is the rejuvenation project that we are talking about both under good progress. For the Caroline Hill project, as you all know that we have secured project financing from a bank consortium as well. And the 2 together, plus our other normal type of property management, maintenance CapEx should be about HKD 2 billion a year for the next few years. So that is the level of CapEx that we are dealing with at the moment.

May I track, is there any more questions from the floor? Okay. So I think thank you all for coming today, and we all look forward to seeing you all again in our more vibrant and more excited Lee Gardens in the future.

Thank you. Thank you very much.