City Development - Perfect Timing, What’s Next?

We maintain our Underweight on CDL, given the 37% downside risk to our base case price target of S$6.20 (end-09 NAV of S$5.61, fully diluted). Taking into consideration the upside risk of an asset bubble due to the excess liquidity, we recently stretched our bull case further to a super bull case scenario. The latter not only assumes a V-shaped residential price recovery back to the 2008 peak levels, but also assumes higher sales take-up rates as residential launches are brought forward. Despite the difficulty in seeing an improvement in the non-residential segments, in this scenario, we have optimistically assumed that their valuations will fall no further from current levels. From this analysis, our super bull case suggests amongst the big cap developers that we prefer the 22% upside offered by CapitaLand vs. CDL’s and KepLand’s 16% and 30% upside, respectively, given the less favored office exposure.

CDL reported 1H09 results that were 10% below our operating and net profit estimates, the difference being due to the timing of its residential recognition. We applaud management’s perfect timing on its residential launches. Having sold 142 units in 1Q09, CDL sold 370 units in 2Q09 alone, and since July has sold a further 506 units. CDL is looking to launch three more residential projects (total units: 786) for the remainder of 2009. While this is all positive, we believe it has been well reflected in its share price performance since the end of March, outperforming the STI Index by 41%. We struggle to find further upside catalysts for CDL, as even our super bull case NAV of S$11.38 only presents 16% upside at best. We continue to believe that risk on its non-residential exposure, particularly office, presents further downside risk.

Our base case thesis is that previous premiums to NAV and BV valuations experienced in 2006-07 are difficult to justify in this cycle, as, at present, the only bright spot appears to be the residential segment.

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