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Far East Orchard: Greater Upsides Than Downsides In The Long Term?
It has been two years since the corporate restructuring of Far East Orchard (FEO). Apart from its name change, the restructuring has diversified its income stream by expanding its hospitality management business and healthcare real estates through its joint ventures with The Straits Trading Company (STC) and Toga Group.
A Brief Background of Far East Orchard
FEO is an established developer itself as well as a subsidiary of Singapore’s largest property developer Far East Organisation. As a result of its restructuring and through its joint ventures, FEO has strategically transformed itself to include new complementary businesses.
A Long Term Income Generating Play
According to the latest URA results, prices of private homes dropped by 1 percent in 2Q14, the third straight quarter of decline, largely fuelled by the effects of the Additional Buyer’s Stamp Duty (ABSD) and Total Debt Ratio (TDSR) implemented in previous years.
Amidst the market’s cautious sentiment on property counters, we have three reasons to believe that there is upside potential for FEO in the long run.
1. Established Property Developer With a Good Track Record
FEO is a subsidiary of Far East Organisation, the largest property developer in Singapore. Apart from an established track record, FEO has 2 projects (EuHabitat, SBF Centre) that are almost fully sold, furthermore its recently launched Rivertree Residences has already sold 56 percent of its units within the last six months.
However, the profits of these sales have not been fully recognized in its books as a result of it being uncompleted. Therefore, you would expect significant and predictable streams of revenue being recognized in its books as the developments are built.
In addition to its 2 developments FEO recently acquired a land parcel at Woodlands Square that is poised for commercial development, a relatively new concept within the Woodlands area.
We expect a favorable take up rate for its upcoming Woodlands Square development, on basis of the government’s initiative to transform Woodlands Regional Centre into vibrant hubs for business and employment just like the ones in Jurong and Marina Bay.
Furthermore, it would be well connected to the city and Johor via the Thomson MRT Line and Cross-border rail link.
Also, it’s important to note that FEO residential developments are outside the prime residential district that has reported a relatively lower price decline as compared its prime residential counterparts.
2. Expansion & Geographical Diversification Of Its Hospitality Business
The restructuring and expansion of its hospitality business to diversify its revenue streams proved strategic given the uncertainty and cooling measures implemented in the Singapore’s property sector.
As seen in the graph above, FEO is less reliant on the profitability of its property developing business due to a larger contribution from its hospitality business ever since its joint ventures with STC and Toga.
Therefore, the expansion has proved to be profitable to bring about a sustainable stream of revenue. This is particularly important due to the slowing down of the Singapore Property market.
We note that the recent unfortunate events that have occurred to Malaysia Airlines has slowed down tourism in the region.
However, we view this tragic event to have short-term effect on the hospitality industry in the region. In the long run, we believe the overall growth in Asia Pacific excluding Japan is also likely to exceed those of advanced economies, and specific to tourism.
Singapore Tourism Board reported that by 2020, two out of every five travellers are expected to be Asian and will account for nearly half of global tourism expenditure.
Therefore, given the optismistic tourism outlook in the region, FEO hospitality management business will potentially benefit from it.
Furthermore, FEO’s hospitality arm has recently acquired a 50 percent stake in a Toga Accommodation Fund, which owns four hotel properties in Europe.
We see it as a strategic move given the recovery of Europe. As FEO’s first acquisition of European Assets, it would thus, provide a foothold into the European hospitality industry and would prove diversification out of its Asia Pacific centred hospitality business.
3. Defensiveness of the Healthcare Industry To Smoothen Out Volatility
Given the defensive nature of healthcare assets, FEO’s ownership in Novena Medical Centre and Novena Specialist Centre will smoothen out volatility amidst operating in a cyclical property development and hospitality industry.
Furthermore, the government’s unveiled plans to develop Novena Health City as a single largest healthcare complex in the novena area, is good news for FEO’s Medical Assets within that area.
Investment Merits
Backing from Singapore’s largest private developer Far East Organization.
A reasonable number of sold developments, with profits that are yet to be recognised.
Diversification abroad.
A more sustainable and recurring revenue generated from its hospitality business.
Strong fundamentals with low gearing ratios. Furthermore, a large portion (43%) of its liabilities are made up of deferred income.
Decent Dividend yield of 3 percent.
Reasonable valuation of 20 percent discount to its net tangible assets.
Investment Risk
If the MERS and Ebola spreads to become a global epidemic, it would have a major impact on FEO’s hospitality revenue.
Residential properties are expected to fall 10-15 percent within the next two years.
A global financial crisis would hurt regional tourism.
SI Research Takeaway
As FEO begins to reap profits from its joint ventures in its hospitality business as well as recognizing profits from its EuHabitat, SBF Centre and Rivertree Residences developments, we are able to foresee stability in profits from its coming years.
Strong fundamentals, coupled with a low gearing ratio and reasonable valuations priced at a 20 percent discount to its net tangible assets, will give me the confidence to foresee a greater upside then downside for FEO.
However, its CEO Lucas Chow who has transformed FEO to a regional Hospitality and property player will be stepping down on 1 September 2014.
Therefore, it remains if former investment banker, CEO of CapitaLand Residential and CFO of Raffles Medical Mr Lui Chong Chee would further propel FEO to greater heights.
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