Wharf Real Estate Investment Company Limited (1997) Earnings Call Transcript & Summary

Good afternoon, everyone. A very warm welcome to the webinar of Wharf REIC interim results briefing. I am Angela Ng, Investor Relations Manager. Our management team in the webinar include Mr. Stephen Ng, Chairman and Managing Director; and Mr. Kevin Hui, Director. Before the presentation and Q&A section, we will start with an opening remarks by the Chairman, Mr. Ng.

Thank you, Angela. Good afternoon to all of you. I hope everybody is well and safe from COVID-19. You may remember about 3 months ago, we issued a profit warning announcement about the first half of 2020. So what we announced today -- the results that we announced today for the first half of 2020 is probably no surprise to most of you. And Angela will take us through a brief presentation, after which I'll be very happy to address questions to the best of my ability, if you have any. You will appreciate that there are some questions which I may not be able to address, but whatever I can do, I will. Let me hand back to Angela.

Thank you, Mr. Ng. Now I believe that you will see our PowerPoint presentation on your computer screen or mobile device. The theme of the presentation is COVID-19 Devastated Economies the World Over. As we all know, the outbreak of COVID-19 has posed unprecedented challenges to the world's economies, and our group is no exception to being a victim. In the first half, over HKD 1 billion of rent relief has already been extended to our tenants. In the Hong Kong market, lease renewals are facing harsh market reality and hard reduction. Meanwhile, the Mainland situation is better than the rest of the world, with noticeable economic activity restarted. However, we see no reliable forecast as to when the pandemic would end until a vaccine is found. In spite of the weak market, the interim dividend payout ratio was maintained in the meantime. The IP and hotel sectors bear the brunt as cross-border travel virtually halted and local consumption crushed by social distancing. Under the extreme market condition, significant noncash IP revaluation loss was inevitable. In the first half of the year, retail sales in Hong Kong dropped by over 13%, facing the retail demand. Reduction in turnover rents provides an immediate and automatic rent relief. We believe our properties will see a lagging impact on base rents, with the additional relief for existing leases and hard reduction on new leases. Looking at the performance of our Hong Kong IP portfolio. Retail revenue during the period has been hurt by the material tenant support measures and decimated turnover rents. Meanwhile, office has mitigated the decline in retail rental. A series of proactive responses have been made in this harsh market environment. Despite a decrease in retail revenue, the group has made significant investment in marketing program to stimulate shoppers' footfall and consumption. Taking advantage of the easing of social distancing measures in May, a first of its kind citywide spending reward scheme, Rewarding Everyone campaign, was launched to reach all shoppers in Hong Kong. In parallel, a series of spending reward schemes were launched at the mall to encourage repeat purchases and dining out. These marketing initiatives drove favorable responses and footfall in May and June. Moving on to our financial highlights. Group revenue and UNP decreased by 20% and 26%, respectively. A noncash IP revaluation deficit of HKD 7.4 billion was reported, contributing to a net loss. An interim dividend of HKD 0.78 per share was declared, representing 65% of our core UNP. The group's strong balance sheet remained vital to weather the present economic storm. In the following slides, we will walk through the performance of our IP and hotel portfolio as well as financial management and outlook. Let's start with Harbour City. Harbour City spares no effort in launching a wide array of proactive initiatives to counter the pandemic hit. However, some retailers have paused expansion and start to consolidate stores under the sluggish retail demand. Meanwhile office pickup has been slow amid the wait-and-see sentiment. As at end of June, retail occupancy was 90% and office was 86%. As a result, total revenue at Harbour City recorded HKD 4.5 billion. As a long-term partner of best-in-class retailers, Harbour City has the largest retail offerings in town with unrivaled power centers appealing to every shoppers. We believe this can help to alleviate market pressure on our tenants. The rental income distribution by different types of tenants is shown in the chart. Trade mix is being constantly reviewed to enhance the most attractiveness. During the period, there were over 20 committed brands and restaurants, including the largest flagship store of Lululemon in Hong Kong and a number of Hong Kong and Kowloon Debut brands. In addition, some brands seized the opportunity to expand; namely, Hermès and Christian Louboutin. Moving on to the 3 Marco Polo Hotels in Harbour City. Occupancy and room rates were suppressed under the paralyzed tourism industry. Prince Hotels was closed in February for major renovation for the sake of long-term business future for the cluster of the Canton Road Hotels. In the present operating environment, the hotels still face serious operating deficits, despite stringent cost control, including no pay leave. Then we will walk through the performance of Times Square. The competitive landscape of Causeway Bay has intensified the challenging operating environment. Similar to Harbour City, immediate measures have been taken to weather the downturn. As at end of June, retail occupancy was 92% and office was 91%. Total revenue at Times Square recorded HKD 1.2 billion. Then switching to Plaza Hollywood. Supported by local consumption, Plaza Hollywood had a relatively stable demand and footfall. It is also set to embrace Kowloon East CBD2's potentials and broaden the geographical reach with expanded MTR network. The next one is our Central Portfolio, comprising Wheelock House, Crawford House and The Murray. Occupancies at Wheelock House and Crawford House remained high on the back of prime locations and cost effectiveness for tenants. As for The Murray Hong Kong, in view of the depressed occupancy and room rates, the hotel has been focusing on local market to encourage business. Similar to the Canton Road Hotels, serious operating deficits were reported despite stringent cost control. And then moving to our Singapore Portfolio. Acquired in late 2019, our Singapore Portfolio comprises Wheelock Place and Scotts Square, both located in the prime Orchard Road vicinity. However, business has been disrupted by the circuit-breaker restriction. Moving on to the financial management. The group maintained prudency in financial management. Net debt was HKD 52.6 billion, with a comfortable gearing ratio of 24.8%. The group continued to maintain the Moody's A2 rating with stable outlook. Looking ahead, a combination of uncertainties contribute to this lasting economic storm. It is not clear how soon this unprecedented pandemic may end and what the shape or speed the subsequent recovery may take. As always, we continue to proactively respond to the market and optimize the competitive advantage of our prime portfolio. A strong balance sheet and prudent financial management remain vital for the group to weather the present economic storm or capitalize on the opportunities that may arise. In the very last part of the presentation, I will walk through our efforts in sustainability. Wharf REIC is a member in Hang Seng Corporate Sustainability Index. The group has been awarded caringcompany logo, CSR Index Plus and Social Capital Builder logo awards. Also, business units are partnering with 16 WeCan schools to provide support. During the first half, through Wharf Emergency Relief Fund, the company provided instant support of HKD 6 billion through charity funds to the needy affected by COVID-19. So that concludes my presentation. And now we will come to the Q&A section. Just a little housekeeping before we get started. We welcome only verbal questions at this time. If you have any questions, you can use the icon on your Zoom control panel to raise your hands. We will then unmute your line, and please be reminded to unmute yourself as well.

Now we will receive the first question from Ken Yeung from Citi.

Hello, hello?

Hello, hear you.

Can you hear me? Yes. I have a first question regarding on the dividend. I view a little bit of that you're writing something like interim dividend payout maintained in the meantime. Can you elaborate a little bit what's the meaning of the in the meantime? Is this mean that in some conditions, this 65% payout may need to change? This is the first question. And secondly, the second question is regarding the retail sales. It seems this year or this interim, probably, you may not want to disclose because it's somewhat misleading. Can you give us a sense what kind of retail sales versus normal level? Let's say, if we're seeing something better normal -- a little bit better than normal in May and June, I see a lot of promotional activities, can we -- can you give a rough estimate what, let's say, Harbour City, Times Square achieve, what kind of level versus the normal level, if you can say about that? And lastly, just on the accounting questions. What kind of rent concession? You said that it's around HKD 1 billion been granted, the cash relief. How does that being accounted for in this financial statement?

Okay. 3 questions, right? Let me answer the first question first. It's all a matter of chronology. The interim dividend, I believe, will be paid in 4 or 5 weeks' time, whereas the pandemic and, in particular, the vaccine, I don't believe it will be found and be ready within the 4 to 5 weeks. So that's what the "in the meantime" means, meaning the interim dividend will be paid, in our view, before the vaccine arrives. I would be extremely pleased to be proven wrong. The second question concerns retail sales. I think the only indication I can give you is that, as you know, the profile of our retail -- of our tenants' retail sales has always tended to skew more towards the tourist spending than the Hong Kong average. And so as a result of that, during the first half of this year, the retail sales performance of our malls in Tsim Sha Tsui and in Causeway Bay, i.e., Harbour City and Times Square, the percentage decline has been a little more than the Hong Kong average. That is because we have a higher content of tourist spending. And then on the third point, accounting treatment, I would ask Kevin to deal with it. My understanding, as a layman, is that it is in accordance with Hong Kong accounting standards.

Yes, sir, Chairman, you're right. And I think it's a -- there's a usual accounting standard that all the rentals have to amortize on a straight line basis, which means that whatever you receive and the pattern you receive, you have to spread over the period of the lease equally. So a few months before, the [ IASB ] have alerted the companies that rental concessions should be follow this accounting standard. Whatever concession relief, you still have to amortize over the respective leases -- over the remaining period of the leases. So when we're talking about HKD 1 billion cash relief, and then we actually have amortized this HKD 1 billion over the lease period of each respective business. So effectively it means that a certain amount of this HKD 1 billion will be deferred to the second half of the year or even beyond the second half of this year, that means in 2021. But the effect will be diminished over the longer period, that means 2021 or even '22.

The next question from Karl Choi from Bank of America.

Can you hear me now?

Yes.

Yes. I also have 3 questions. First, you mentioned, obviously, a difficult environment. And so you have to give some hard sort of concessions or in terms of rental or asking rents. Can you just give us a little bit more sort of color on the rental reversions that you saw in the first half? And second is occupancy at both Harbour City and Times Square had dropped a fair bit. Can you talk us -- let us know sort of on a committed basis, do you expect a lot more to go down -- a lot more downside from here on? And also, what are the sort of strategies you're implementing to raise the occupancy? And then lastly is, there is the Central office, the General Post Office site coming up for tender. Just curious if the company intends to look at it? Or given the challenges you're facing, you would prefer to maybe focus on existing operations for now?

Okay. Thank you. I don't think -- let me answer the first -- the third question, the last question first. I don't think we're alone in coming up against an extreme market. All our peers are subject to the same market conditions as us to a greater or lesser extent. We will, of course, also take a look at the opportunity. And -- but whether or not we eventually participate in the bidding is a question that I cannot answer at this stage. To your second question about occupancy, yes, occupancy has fallen in the past actually 12 months, because the problems started actually last year with the unrest in Hong Kong and continued into the first half of this year when the COVID-19 arrived. And on the office side, it coincided unfortunately, I guess, with the completion of conversion -- of a conversion project. We added -- I forgot, 600,000...

360...

360,000, 360,000 square feet of office space. And so suddenly, we -- that created an additional supply. So it was a matter of timing, and in this market, demand is weak on both the office side and the retail side. However, we are working very hard to maintain our occupancy rates at a reasonable level. We'd like to see them stabilize and, if anything, improve from here, but so is everybody else in the market. So this is not necessarily easily achievable, but we will try our very best. In terms of reversion, there is no clear trend yet other than to say that, obviously, rents today for new commitments are lower noticeably than what they were 12 months ago. But because retail is such a unique business, every location and every size and every trade actually is different. Some trades are suffering worse than others. And so it's not easy to find a coefficient or an index other than to say that it's noticeably down from 12 months ago. However, we're hoping that would stabilize from here on and -- if COVID doesn't get much worse.

So we will receive the next question from Cusson Leung from JPMorgan.

Can you hear me?

Yes, loud and clear.

Just have one question about the gearing. I noticed that the net debt has increased by about HKD 10 billion. Just wonder where -- I mean, where are the areas that the company is spending most of the money? I also saw the equity investment on the balance sheet has also expanded by HKD 6 billion. Can you give us a little bit more color on what kind of equity investment the company has made?

Okay. Well, 3 main factors. First of all, the asset value has declined, mainly because of the revaluation of the IP portfolio. You have noticed, we booked a deficit of HKD 7.3 billion -- or HKD 7.4 billion. So that's one factor. The denominator has shrunk by about 3% or more -- by 3% or 4%, whatever that number is. Another factor is a disruption from last year. You may remember, last year, the Legislative Council in the second half of last year was not exactly very efficient. It took the LegCo a long time to approve the budget. And as a result of that, some tax payments, which would normally be made -- or due and therefore be made at the end of last year slipped into the early part of this year. So that distortion of timing changed the year-end position, and in a way, overloaded the first half of this year. Actually, 4 factors. The third factor is, of course, a weaker cash flow from the operation. You can see operating profit declining because of lower revenue and so on. So that's another contributing factor. And the fourth factor is investment in some equities, which are primarily property stocks. So those are the 4 factors. And we bought them for -- both for value and for yield.

So we will receive the next question from Justin Kwok from Golden Sachs.

Can you hear me?

Yes.

Yes. I got 2 questions. One is actually a follow-up on the occupancy trend and your strategy. So in view of the situation and I also noticed some news quoting the potential strategy to do some lease restructuring. So what are you at this point looking at the trade-off between low rents versus extending the -- protecting your portfolio occupancy in a way? Perhaps the second question is about the cap rate where, if you have some negative evaluation now, which is primarily -- I suppose, primarily driven by the rents rather than the cap rate. So what's your view on that side, whether the weaker economy would, at the end, send the cap rates higher, which would be an even bigger swing to your portfolio valuation? What's your view on that?

Okay. On cap rate, let me confirm that cap rates are basically unchanged from the recent several years, 2 or 3 or even 4 years. And I would make 2 comments about that. First of all, when I said the cap rates remained relatively -- remained unchanged over the past several years, it means the cap rates didn't tighten when the market was going up. The recoveries did not tighten when the market was going up. And in other words, when the market comes down, there is no need to give back the tightening, so to speak, because it never tightened in the first place. So in that regard, there is a cushion. Secondly, if you look at our cap rates, we understand they are generally higher than adopted for the valuation by our peers. So our cap rates are generous in the first place. So I think the combination of that suggests that our properties, our IPs are conservatively valued rather than aggressively valued. The first question was...

Occupancy trends.

Okay. Occupancy trends now. There is a market reality. And that is, when a tenant signs a new lease, whether it's renewal of an old lease or a completely new lease, it's market rate that the tenant is prepared to pay, and the landlord has to accept whatever the market rate is. Now it would not be realistic for us to stay, to live on memory and say, well, you used to pay us 100 and now the market is 80, we still want you to pay us 100. The easy answer to that is the tenant will go, or the tenant will not come. So whatever the market is, we take the market rate. And that has always been our leasing strategy and will continue to be our leasing strategy. And when we sometimes restructure leases, that will be taken into account as well.

So now we will receive the next question from Andy So from Haitong.

Management, can you hear me?

Yes, we can.

The only thing I want to ask is on the property sales. We have seen the property sales revenue of around HKD 0.3 billion in the first half, which is quite big numbers. Can the management talk more about what is that for? And more importantly, are we going to see more property sales revenue coming from Mainland China in the coming 12 months?

Property sales refers to Mainland?

Yes. Okay. Sorry, go ahead.

And I think what you referred to is, as you said, is revenue, it's not sales, not contracted sales. It's not new sales. It represents completion of a project in Suzhou by our listed subsidiary, Harbour Center Development Limited. That project is being completed in phases, mainly in the current year. So we expect recognition to continue in the second half of this year from the same project. Harbour Center Development Limited is basically left with 2 projects, this one in Suzhou and a joint venture in Shanghai. Those are its remaining projects. So it's not core -- these projects are not core to Wharf REIC. They are held by the listed subsidiary Harbour Center. And Harbour Center has not added new projects in the past so many years, 5 or maybe longer. They're just running off their existing portfolio.

So we will receive the next question from Hildy Ling from Morgan Stanley.

Hello, can you hear me?

Yes, we can.

I just want to ask 2 questions. One of them is about the rental decline in retail. So can we have some color that amount the rental decline, how much is that less, apart from the turnover rent decline? Is that the rental relief is the only factor that affect the rental decline and that the base rent cut or the base rent reduction is -- impact is minimal? So that's the first question. The second one is, we understand the environment is very tough. So is there any ways that management is considering in terms of reducing the operating cost? Or if we cannot view it like this and the company needs to boost and help the tenant to boost the retail sales and we cannot cut costs and have to do more promotion?

Thank you. Retail rent reduction, as you pointed out, there are 2 portions. There is the turnover rent and there is the base rent. As Angela presented, the turnover rent represents the immediate and automatic rent relief. In addition to that, we have given tenants relief on base rent. And the combined impact of the turnover rent and the base rent is a decrease of roughly HKD 1.5 billion in retail rent in the first half of this year revenue, all right? A part of that is base rent. And as Angela presented, the base rent part is in excess of HKD 1 billion. And as Kevin confirmed, part of that is to be amortized in subsequent halfs. So if you put those numbers together, everything fits again, right? Second question -- does she have any question?

Second question is, any way to reduce cost reductions?

Oh, cost reduction. There are 2 kinds of costs. If it comes to product or marketing related, in other words costs which are more directly relating to the production of revenue, then this is not necessarily the time to spare them. On the other hand, there are costs which are not directly related to production of revenue, e.g., administration. If it is administration, then we will do everything we can to defer it because it's not directly related to generating sales for our customers, for our tenants. But whatever else we can do to help our tenants' trade, this is not the time to spare them. Having said that, of course, we would invest wisely rather than frivolously.

[Operator Instructions] If there is no more question, I think this is the end of the presentation. The PowerPoints will be uploaded to our corporate website shortly. Thank you for joining us today, and we hope you all stay safe and healthy. Thank you.

Thank you. I hope the next time -- when next time we see you, we will actually be seeing you. Have a nice evening.