Okay. Thank you all for coming to Hysan Development's 2017 interim results announcement session. Now, let me introduce our panel for this afternoon. We have our Chief Operating Officer, Mr. Ricky Lui, and our Chief Financial Officer, Mr. Roger Hao. Apologies from our Chairman, Ms. Irene Lee, who has a prior commitment. We will start today's session with a presentation from Ricky and Roger, and we will follow that with time to take some questions from the floor. As we have a live webcast today, we will also be taking questions online. Now, before all that, though, I will invite Ricky and Roger to start.
Hi. Good afternoon, old friends and new friends of Hysan. I will start by doing a very quick introduction on Hysan, and then I will ask Ricky to share some of the operations details review. First of all, again, for the new friends of Hysan, we are one of the largest commercial landlords in Causeway Bay, with a footage about 4.11 million sq ft excluding the upcoming Lee Garden Three. Our retail hubs are Hysan Place, focusing on trendy places for younger crowds. The Lee Garden hubs with elegant and luxury premium offerings. While our Lee Theatre hub offering urban fashions and sporty lifestyles. In terms of our current asset value, our retail comprise around 46% of our total property values. For office, again, we are in one of the core locations with premium facilities, with a good work-life balance.
In terms of values, office portfolio accounts for around 36% of our total property values. Just a quick summary on the interim results. Turnover up 1.8% year-on-year, while our recurring underlying profit up 4.2%. Retail portfolio occupancy stood at 99% at interim, while office portfolio occupancy at 94%. We continue to see demand for quality Grade A office space in core commercial districts remains strong, and that supports the demand in the forthcoming Lee Garden Three. Now, maybe I invite Ricky to share with you some of the operations highlights.
Good afternoon. I think I will start with the overview. The overall improvement in the global economy is during the first half of 2017. Hong Kong economy echo this positive sentiment. Local retail sales was also reasonably stable. Seems to be hitting the bottom, but we got to wait and see. For office leasing market is continue to see strong demand in the core area like Causeway Bay. I think we are getting some possibility there from the central high rental as well. For us, in order to make the retail really a good place to, for Hong Kong and for our customer, we try to make it a very memorable shopping experience. We had structural adjustment generated by e-commerce and also the corresponding changes in customer behavior have seen us adapt to new ways of operating our retail space.
Shopping experience must combine now with quality service, content and also the somewhat lot of accents and personalized experience has become very crucial. We aim to give our shopper and visitors much more than simple convenience that cannot be replicate online. For example, the physical stores still play an important role now. You're seeing this online, offline cooperation, more online stores trying to come offline. We see this is also a kind of good opportunity for us. For us, we also take an integrated approach, taking advantage of all our building are very concentrated in the very close vicinities, which help to magnify our popularity. For an integrated approach, we collaborate with tenants, stakeholder and for event and activities. We have just do the Valentino, the LV, those kind of events, which receive very good response from our customers.
We expand our loyalty program, both the more high-end Club Avenue and also the more general, mainly for the mid-market or the office and residential tenants, we call it Lee Garden Plus. We have two programs. We make use of technology, means we trying to make all the Gamifying all our communication with our customers and also when they come to our place, they really see there's a lot of fun by using our apps and so become more of stick and close to us. We also enhance our tenant mix as a normal course of our business, but now we do it very actively by looking into the behavior change, the structural change and also all the new things coming to the market. Okay.
Event, I think you all know that we have some big event like CX, HSBC above the Seven Fan Walks, which is a very good collaboration with two big sponsor, CX and HSBC, and also bring a lot of advantage to, and business to our customers and also our tenants. We continuously do our leisure program, which is a more incentive-driven program, which actually stimulate a lot of sales for our tenants, particularly on the jewelry side. Yes, this summer lifestyle festival is telling people about how we can generate a very unique experience, different from other developers or places. Lee Garden, as I said, is a very unique community because of the concentration of our building. So we continuously curate it with new elements into it from the office tenant side, like a WeWork type of tenants. We also have a lot of new lifestyle offerings.
With the collaboration with the tenants, they bring in all these kind of new elements and refreshment to the customers. We also have some marketing effort put into the clubs that I just mentioned, the Club Avenue and also the Lee Garden Plus. We also try to do some more effort to trying to get more new blood. For example, for the mainland visitors, we have done a lot of program with the State Farm, China Merchants Bank collaborations, and also work with the KOL. Just for the recent collaboration with the China Merchants Bank, we see very good growth in sales for those visitors. Technology, as we just mentioned, technology is mainly from full Wi-Fi environment, which is in the process of establishing.
The enhancement of the programs of the apps for both loyalty program, gamifying it, and also using technology when the customer comes to our places, they will see very convenient and improve the stickiness with us. We also bring in the interesting business and concept ideas as late. Also you can see the I.T on the sixth floor of the Hysan Place, which is very popular now and people need to queue up for the pancake. Benefiting from the company movement for office, I think we just mentioned about benefiting from the company moving from Central because of super high rent and also because the natural attractiveness of the Causeway Bay. We do see a lot of good company coming into our development. Just like the Lee Garden Three, up to now, we already have more than 50% of the office space being committed and occupied.
For the office, we also work on the co-works concept. We have two co-work tenants, one in Lee Garden Three and another one in Leighton and also in One Hysan Avenue. They will all probably come to the market within a few months' time. Lee Garden Three just mentioned, 80% of the tower is office and 50% already committed. Retail portion, we take this opportunity to expand our lifestyle offering to the customers as we see, because the change of behavior of the customer, we cannot just do all this kind of retail sales. We have to provide for a very rich mix of offering. That's why we are lucky to have that extension so that we can put in very nice restaurant and some maybe very unique style gym, and also some kind even arts things into it.
So we are very excited to see the final mix for the retail portion of the Lee Garden Three as well. Construction is on track. We're expecting the handover by the last quarter of this year. Tai Po, everything on track. We are finalizing the design. We are doing all the submission to the government. Market-wise, as you know that because of the land price shooting up, it's already giving the Tai Po process a very good buffer of potential profit. Of course, subject to the change of the market over the next few years. For us, we still seek for similar opportunities to provide more project in this new growth engine. So that basically cover our major areas of operations.
Yes. Next, maybe let me just run through some financial highlights before we move on to Q&A. As you can see from our announcement, top line, we have a 1.8% year-on-year growth, arriving at about HKD 1.79 billion top line this first half of 2017.
On bottom line, on a recurring underlying profit basis is HKD 1.2227 billion, a 4.2% year-on-year increase. If we include the fair value change of our investment properties, as you can see, the reported profit is at HKD 746 million, a 17% down from same period last year. The shareholders' fund, which largely reflect the property valuations, is a slight drop of 0.5% from the end of 2016. In terms of going to the detail by portfolio, again, all of this HKD 1.791 billion, as you can see, two slide down. The major component or contributor is still retail with HKD 985 million coming from retail, and 672 from office.
The other slide, please. Yes. This bar. The rightmost bar is the current first half. Retail accounted for around, say, half of our revenue, whereas office is about 40%, with the remaining part around 7% now coming from residential. Going into individual retail portfolio. Top line slightly decreased by 0.1%, with a turnover rent of HKD 25 million in this period, comparing with HKD 28 million first half of last year. Occupancy stood at 99%. As the portfolio is going through a process of tenant mix adjustment, there was an overall negative rental reversions in renewals, reviews, and new letting across our retail portfolio in the first half of the year. Moving on to office. Office portfolio turnover increased by 5.8% to HKD 672 million. Occupancy stood at 94% at interim date, and with an overall positive rental reversions across the office portfolio.
Residential, it recorded a decrease of 3.6% to HKD 134 million, while having an overall positive rental reversions, occupancy at 84%. The vacancy largely is due to a number of renovation projects that are still ongoing, and some of the changes are due to the demand from expatriate being reduced over the years. Cap rate, basically, they remain the same as last year end, as shown in the slide. There is some selection of key properties and the cap rate adopted by Knight Frank valuers. Finally, strong financial positions. Gearing, we maintained at a low amount at 4.5% at interim date, with around 70% debt on a fixed-rate basis, and continue to have an investment-grade credit rating from both Moody's and Standard & Poor's. Okay, so that is it on our quick presentations.
Thank you, Roger. Now time for questions from the floor. We appreciate it if you can let us know who you are and which company you represent. Please use the microphone when asking questions, as they are going out live online. I will now hand it back over to Ricky and Roger.
Hi.
Hi, thanks.
Thanks.
Hi. Thanks for the update. This is Fen Chou from Merrill Lynch. I have three questions. First, in terms of shares buyback, Hysan is one of the first Hong Kong property names that started this exercise, but you guys have stopped it for a while. Can I ask, what's on management's mind regarding a potential resumption on shares buyback, given the financial position is still very strong? That's the first question. Second is more on the general investment appetite for Hysan. Are you guys looking at any projects overseas or in Hong Kong? We noticed that Hysan also submitted a residential land bid in the recent land tender. Ricky also mentioned that that could be a new area of growth engine. Can you elaborate more on your take on further investing in the resi market?
In terms of timing, why now, and what's the return threshold for a new investment? The last question is on Lee Garden Three. You guys share a lot about the good office traction, preleasing traction. Any more colors on the retail size? What's the commitment level or the general tenant interest for the retail portion? Thank you.
Good. Well, on the share buyback, again, we look at our cash use, basically. Obviously, we look at our share price as well. We do have a mandate from the shareholders, and from a board perspective, the program is still there. Again, we look at the cash flow use, obviously, in the upcoming period of time, so as to balance out the amount or quantum of share buyback, if any. Right now, I think we are still juggling around a few possible use of cash. Obviously, some of the things that, Fen, you pointed out about investment appetite, land bid, and all that, will continue to be in play when we assess the use of cash.
I think what I can say now is that's still an ongoing program, but we do not have a specific set target that we must use a certain amount of cash to do a buyback. Again, at the end of the day, we want to balance between the short-term return versus the long-term growth opportunity and potential of the company. For the investment, Ricky, you want to talk about—
For the—
—land bidding.
New land acquisitions, I think we will keep participating in the land bidding. I think we will be very selective. First of all, from the scale of investment. We also will only participate mainly on the kind of location that we can build some premium product.
For return, I think Roger would like. I think we are at least we are talking about the high single digit or low double digit kind of IRR. That will be the basic guideline, but that got to be addressed according to the time. For overseas, for example, if there is a very good building in Shanghai, then maybe that is a long-term asset.
That may be something that we will be interested. Again, that will be selective and really fit our portfolio and positionings before we will consider it. Then for the retail portion of Lee Garden Three, as I just mentioned, it is really a lifestyle extension. Nowadays, we are lucky that we have a big portfolio all concentrated here. So that instead of people really need to cut the cost space in a mall for a restaurant or for a gym, we can spread over into different spaces. Okay?
That's why we position our LG3 as a place that will add more lifestyle extension to our portfolio. Right now we have restaurant, gym, co-work space, and also some of this kind of from kitchenwares to even some kind of high-end household things talking to us. I think for commitment rate, probably we will tell you the next time, next meeting, when we have more solid arrangement.
Hi. It's Dan from Morgan Stanley, and I'm a new friend. I'm just wondering, can you elaborate a little bit more on the expenses part? Because we see that for gross profit actually grew more than the revenue this time around. And also for admin expenses actually went down. We're wondering whether is it a one-off or should we expect normalized in the longer term. Thanks.
Thanks. Welcome our new friend. Basically, I think starting from a few years back when we anticipate there will be a structural challenge, in particular to the retail sector, we've been very cautious about the cost base. So we've been looking at our cost base from two angle. One is from the productivity angle, obviously, while maintaining a good service level. So we've been looking at, for example, our property management operations. At the same time, you will see that we do have a lot of marketing activities and there's a relatively big spend on marketing. These are the two areas that we've been focusing on. I think on a high level basis, we are shifting our cost or investment more on to help getting customer, getting visitor to our portfolio.
While from an operation point of view, we want to be as efficient as possible by, for example, reorganizing some of our service team. Secondly, we are trying to adopt more technology, automation, to the extent possible. And I think one of the other bigger component for the OpEx per se is agency fees. That's less controllable in a sense because it really depends on the occupancy. For example, a few years back when we do not have Lee Garden Three coming in, obviously we have less space to lease out. And with Lee Garden Three coming in, and we will use some of the agencies. So anticipate that in next year, 2018, when those leases start to come in, and we will start recording or accrue the agency expenses.
But other than that, if you take out the sort of like one-off due to the commencement of Lee Garden Three, I would say that our cost base been quite steadily more controllable and try to be more efficient. Another thing is obviously the utility charge in Hong Kong on the Hong Kong Island side. While we spend, we use less electricity, but from a tariff point of view, it's also cheaper. So that all contribute to the reduction in expenses.
Okay.
Hi, Roger.
Hi.
The first half result for the retail turnover or retail rental income, has it actually include the rental income from Ralph Lauren or has it actually include the separation compensation in the first half earnings already?
Right. Thanks. For the Ralph Lauren space, as you will see that it has already stopped the operation. What they are doing now is to reinstate the space. The lease with them will officially end towards the end of quarter three. Well, depending on when exactly they can finish all the works, but should be about the last month or end of quarter three. Before then, we are still accruing the rent. What we had on that deal is when they do the early terminations, they gave us some compensation. Part of it actually is being amortized throughout the remaining effective period of the lease. That is up to, I would say, August or September this year. Then the remaining part will be recorded as a one-off early termination gain in this year.
If you look at our notes to the accounts, last year end or this interim notes 11 will tell you the early surrender compensation amount is around HKD 260 million. Yes. That amount I would expect will be reversed and recorded as a part of our income in this year, in the second half of the year. I would like to reiterate that this is obviously, we are going through a tenant mix refinement, and while we have this sort of one-off payment for all the rent under the original agreement, we focus a lot of our effort in refining our tenant mix. When we talk about the rental reversions, when we have the AGM in May, we talk about the negative 25%. That is for about 2% of our space.
With the first half of the year gone, we are seeing an overall negative rental reversion for the entire retail portfolio around mid-teens. We look at our overall annual forecast. We believe that by the end of 2017, for the whole year, we probably will end up with similar figures, laying around mid-teens to maybe high teens of negative rental reversions. The interesting thing about this is if we look at all the space that we need to deal with this year, we look at it in two groups. One of the groups is basically a continual renewal. So that accounts for about 70% of the total space we need to deal with this year. For this 70% of space, we expect we are going to achieve a flat rental reversion situation.
The negative rental reversion mainly coming from the other 30%, and it is this 30% that relates to what Ricky mentioned earlier. We are trying to refine the tenant mix to make the portfolio more attractive. Obviously, like the Ralph Lauren space, actually we will be opening some interesting restaurant on some of the space that Ralph Lauren used to occupy. So for that, because of the different trade, there will be some differences in terms of the unit rent. But that will be short-term, and we obviously want to make our portfolio, on a longer-term basis, more attractive. So that's also part of our strategy on investment, if you like to invest in lifestyle offering. So looking for the numbers, I know you guys want to know.
In terms of our forecast for 2017 versus 2016 on the retail side, I would say we'll probably see a flattish type of situation. While some of this negative rental reversion for the 30% will obviously impact us in 2018 as well. Yeah.
Roger, I looked at your retail rent. First half 2017 is actually slightly lower than second half 2016. Your turnover rents in 2017 was HKD 25 million, and in second half 2016 was HKD 18 million. That's two different trends there. Could you explain a bit why the turnover rent has gone up, but the base rent part has gone down?
Right. Again, that's some of the mathematics. Basically, I think throughout the last few years, we shared with you before, we've been trying to structure the lease to rely to the extent possible on turnover rent. Because of the performance of some of these tenants, some of them now is not actually paying turnover rent. We do not have particular issues or concern on certain source of turnover rent. I would say that right now, if you look at our portfolio, we continue to acquire a healthy one. First of all, in terms of the contractual relations with them, I would say that most of them are still with the base rent, turnover rent type of structure. It really depends on their performance level. One of the other relevant KPI obviously is the occupancy cost ratio, which actually dictates the rent and the turnover rent level.
With the improvement in our tenant sales, which we believe that is an early sign of the working of our strategy of moving some of these high-end to a more lifestyle working. For the fourth quarter last year, I mentioned earlier, from a tenant sales perspective, Q1 last year, 2016, is a - 15%, and then -9%, and then - 3%, - 3% for the fourth quarter of last year. This year, for the first two quarters, we managed to get a positive tenant sales growth. I think it's around 3% positive in Q1, around 2%-3% positive in Q2. Again, that excludes the electronic store. We see that that may be an early sign of getting a more stronger basis in terms of the tenant sales performance.
I would say that internally, we do not put too much emphasis of trying to get a larger number of turnover rent per se, but rather the occupancy cost ratio as well as the tenant sales growth.
Also, would you mind explaining your cash flow in the first half? Your net debt has come down quite a bit there.
Sorry, what has come down?
Net debt.
Net debt. Oh, okay. I think the key of first half of year is really the financing for our Tai Po project. Other than that, because we won the bid November last year, and we paid the land premium quickly within one month. We had already loaned some of the amount by using our external resource. We loaned some of the land premium with our own resources. But I think first half of this year, around end of Q1 and early Q2, we managed to do the financing just before the new rules comes in.
With the financing at the project level, we managed to get some of this sort of debt at our level reduced. Because when we pay the premium, we use some of this available facility. So that increased the debt a bit, and t hen when the project managed to get their own financing, it replaced some of our loan from both shareholders. That changed the debt a bit. That is the technical reasons about the reduction of debt.
My last question is, I am not sure if I missed it, but what is your occupancy cost right now?
The overall occupancy cost ratio is 21% for the entire portfolio, excluding the electronic store.
Hey, Sarah.
Ricky, can you just talk a little bit more about the tenants that are committed, or I know you cannot give us names, but the type of tenants that are committed or looking at the office for Lee Garden Three?
For LG3, basically we have from financial institutions, we have WeWork type of tenants. We also have service like lawyer firm kind, and also have financial institutions. We also have some service like shipping company. Basically Skews follow our pattern is quite a wide scope of trades.
Terry.
Thank you. Just on the retail sales, you mentioned in 2Q for the whole portfolio is roughly 2%-3%. Any extra color between Lee Gardens, Hysan Place and I guess the Lee Theatre, the three segments?
Sure. Hysan Place, excluding the electronic store, is close to 6% year-on-year increase. Lee Garden Hub, 2% year-on-year increase. These two hubs actually account for, say around 70%-75% of the total retail sales of our portfolio. The remaining part is Lee Theatre Hub, is recorded a negative 2% year-on-year drop.
That is for first half or it is just Q2?
First half.
First half.
Yeah.
On the traffic, you did mention that some renovations caused traffic to drop a little bit. Maybe can you extrapolate a little bit further to maybe talk about the impact from your competitors, say the SOGO reopening the basement supermarket and Times Square putting new tenants at the top floors. Do you see any direct impact and if there's any countermeasures you're going to do to remedy that?
I think that's interesting that although SOGO, Times Square and ourselves are all in Causeway Bay, it seems that everyone have a very different positionings. Even for example, for mainland travelers, people go to SOGO and people come to, let's say, Lee Garden are quite different. Particularly for us, we are stable in the sense that we capture the South Side residents very well. So we are the preferred one because the environment when you come to Lee Garden is very different from even for the same shop, if you go to Times Square or SOGO. So I think because of that, the opening of SOGO doesn't really have a major impact on us. I just say for the I.T group block on the sixth floor, when it closed, they miss one floor, b ut once you open it, you see the traffic there.
They come back very quickly. When we talk about traffic mainly it is about HP, Hysan Place and the Lee, Lee Theatre side because you know, LG, Lee Gardens Hub basically is not play with traffic. It more play with sales.
Is Times Square impact on Lee Theatre areas?
I think Lee Theatre, if you look at our Lee Theatre, we have your anchor kind of fast-moving kind of clothings. Then we have the MUJI, we have the UNIQLO. They basically still very popular. For upper floor restaurants still hot. I think we are quite stable, 1% or 2% drop maybe. The restaurant popularity may sometimes goes up, goes down a little bit. Interestingly, for example, we got a golf company, sales for golf kits in the upper floor. They get super good sales.
Yeah. Thanks. Justin Kwok with Goldman. Perhaps a question, well, a follow-up on the rental reversion guidance Roger mentioned earlier. Because you mentioned that you actually see some signs of improvement in retail sales, which you have witnessed in the first half of this year. But then you are still guiding a negative kind of mid-teens rental reversion into second half and possibly some fuel for, well, kind of a spill into 20 18.
Is this something that you believe that you have maintained the guidance throughout the year? Or actually, you think it was even worse at the beginning of the year, you actually think things have improved? Or how long do you think that your or the signs of improvement in retail sales would translate into tenants' ability to pay your rents? Thanks.
Thanks, Justin. I guess that, again, the timing thing comes into play a little bit. Because if you look at the whole year for 2017, based on what we see and what we forecast, 70% of the expiry review that we need to deal with, we expect there will be a flat rental reversions to maintaining the rents. So it's really the other 30% and how, and when they will be concluded. There are some of these discussion. Obviously, with our existing link gone, a new tenant coming in, that's easier. Some of the other is about the discussions, whether they really want to remain or they will need to move out. So the timing of it is a bit difficult to predict precisely. But if you look at the whole year as a whole, these timing thing will not matter in that sense.
These are measure, for example, when the new rental reversions comes in. If it comes in in later half of this year, then the impact, when it will be next year. But if it comes in early part of this year, the impact, I would say that will be this year. And hopefully with the better or right mix, then the sales will comes in. So I would, instead look at the entire portfolio and see how the sales performance will be. Some of these will come in here and there or either on first half this year, second half of this year, or first half of next year, b ut again, don't forget that what we are dealing with this year is around one third or actually 29%, of the space of our retail space.
We have around 70% of the space that is not under review and all that. And okay, so far, we haven't seen a major exercise of early terminations. We do have some discussion, especially on the Lee Theatre portfolio, about restructuring and all that. That's part of the 30%. Hey, go on.
When you talk about retail sales growth, is it on a selected control group of same tenants year-over-year or you are talking about total retail sales for the shopping mall? Total.
Total. I think the only exclusion is the electronics store.
Thank you. Hildy from Morgan Stanley. I would like to understand more about the fair value revaluation losses appearing on the P&L. I want to understand, is it mostly dragged by retail? Is it high street shops related? Is it fair to assume that the office valuation or portfolio valuation has gone up and retail is going down? I am actually wondering, it seems like retail rent has been quite flattish, cap rate quite stable, but then valuation has gone down. I want to give us some color on that. Thank you.
Sure. Directionally, you are absolutely correct and we had a negative valuation drop on retail. I think two factors are driving this. While we had a strong office rent performance with the cap rate remaining the same, basically it contributed a valuation gain. For retail, some of the example on Lee Garden Two, with the Ralph Lauren space now committed. What I understand from the valuer is when the lease gets terminated, they do not have a new rent. They make certain assumptions on what will be the new rent. But when we have finally decided, okay, restaurant or F&B, they have a rent level. They look at the whole rent and the new rent. They factor in this second half, I mean, in the first half of the valuation drop. That actually is one of the very key factors.
The high street shop type of valuation, I think the peak of it or the pressure is really on in first half of last year. This year is really driven by this and some of the rental assumption refinement on Lee Garden Three. Because a few years back, obviously when I talked to you guys before, we were making assumption that there may be an extension of the luxury ambiance like Lee Garden One, Lee Garden Two, Lee Garden Five, and then Lee Garden Three. But now we are changing our focus more to a lifestyle offering experience type of things. So that command a different rent level. So the assumption by the valuer on the valuation for Lee Garden Three has also been adjusted. On Lee Garden Three valuation, as we are aiming to achieve the occupancy permit status end of this year.
From a valuation point of view, understanding when we got that, when we have tenant coming in, they will switch it from the residual method to the income capitalization method. So I would expect there will be an uplift of the valuation currently in the book.
Are we all there yet? No? If we don't have anything, we can Oh, there's one coming in. Sorry. Yeah. Now, question is, you probably answered parts of it already. Can you elaborate a bit on your coming investment strategy? Whether you would continue to participate in land bidding? And if so, focusing on luxury premises?
I think we just gave the answer, but basically his summary is correct. We're continuous, but selective and focusing the premium type of development that we can enrich our brand and also most important is that's the market.
For sure. Well, if nothing else from the floor, thank you very much and hope to see you again very soon.
Yeah. Thank you.
Thank you.