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Penang govt's nod lifts E&O

KUALA LUMPUR: While Penang's property market has been sizzling, the stock price performance of the island's largest developer — Eastern & Oriental Bhd (E&O) — has been lukewarm, although that could very well soon change.

After facing a couple of challenging quarters compared with its peers in terms of investor interest, it appears that E&O may finally get a break after it received approval for the second phase of its proposed mixed development in Tanjung Tokong.

The counter has lagged behind the Kuala Lumpur Property Index, which has risen 8.5% year-to-date (YTD). E&O's YTD gains are meagre even when measured against those of its larger peers with an investor following. YTD, Mah Sing Group Bhd has risen 41.3%, UEM Land Holdings Bhd is up 13.9% and S P Setia Bhd's shares have gained 9.1%.

But on Wednesday, Apr 13, E&O gained nine sen to RM1.26, representing a YTD gain of 6.8%, on news of the approval, which was hailed as a "breakthrough" by some analysts covering the stock.

After Wednesday's rally, E&O's stock is finally trading above its latest book value of RM1.20 (as at Dec 31, 2010), but only barely.   

UEM Land, meanwhile, is trading at 3.8 times book, S P Setia at 2.9 times and Mah Sing at 2.4.  

In a note on Wednesday, Kenanga Research pointed out the green light for the reclamation of Seri Tanjung Pinang 2 (STP2) from the state government indicated that the mid-sized property player, which as at on Wednesday had a market capitalisation of RM1.06 billion, had overcome the biggest hurdle.

On Tuesday, E&O announced that it had received a letter dated April 11 from Jabatan Perancang Bandar dan Desa, Pulau Pinang, which communicated the state's approval in principle for Phase 2 of the master plan submitted by E&O unit Tanjung Pinang Development Sdn Bhd (TPD).

In 1992, TPD was granted the exclusive right to reclaim and develop approximately 980 acres of land in Tanjong Tokong. To date, the group has reclaimed about 240 acres under Phase 1 of the project which it is still developing.

"Although the in-principle approval came in a few months later, from previous guidance at end-2010, we are positively surprised since Penang is known for long approval processes," Kenanga said. "Clearly, the current state government is striving to improve and shorten development approval processes."

Despite this positive development, Kenanga said the estimated land reclamation and infrastructure cost of RM2.3 billion was still a hefty sum. It noted that E&O had yet to make a decision on the financing method for the reclamation, although it was believed to have "many suitors lined up".

"Our preferred financing method [is] allowing reclamation costs to be borne by another party with portions of STP2 land as payment. Although E&O's share of land and gross development value (GDV) would be reduced, this option means no balance sheet risks, allowing the group to embark on new developments in the Klang Valley," it said, adding that the GDV for STP2 could be as much as RM10 billion according to its estimates.

HwangDBS Vickers Research also noted that the coast was still not entirely clear for E&O, which would still see close scrutiny from the state government to ensure it complied with the requirements associated with planning approvals.

The change in state government following the March 2008 general election saw Penang-based developers such as E&O and Equine Capital Bhd facing stumbling blocks in approvals for various projects.

"As the largest landowner (1,123 acres including STP2) and operator of two hotels on Penang island, E&O stands to benefit from the federal government's Economic Transformation Programme for Penang (currently under four to six weeks' study), which could see large infrastructure projects such as the Penang Outer Ring Road and the LRT/monorail project being revived, as well as the rejuvenation of George Town's commercial centre less than 5km from STP," noted HwangDBS Vickers Research.

OSK Research, following a visit to E&O's sales gallery for STP, was also fairly upbeat on the company's aggressive marketing to both foreign and local buyers and its strong take-up rates.

Commenting on the high-end pricing of its Quayside Seafront Resort Condominiums of up to RM1,200 per sq ft, OSK Research said the continued attraction of foreigners under the Malaysia My Second Home (MM2H) programme would mean that there could be further growth in Penang's expatriate community.

However, Kenanga Research noted that still weighing down E&O's share price performance was the ongoing conversion of its irredeemable convertible secured loan stocks (ICSLS) with the impending likelihood of full mandatory conversion in October 2011.

Some 363 million ICSLS were issued in October 2009 from a rights issue to raise over RM200 million to address the company's then high gearing.

The 10-year ICSLS were issued at 65 sen, with an 8% coupon rate and can be converted to E&O shares anytime up to October 2019.  E&O also has the option to call for conversion of the ICSLS into new E&O shares after two years of issuance and if its share price exceeds RM1.

An analyst said that as the ICSLS were issued at 65 sen, the progressive conversion of the instruments had created a share overhang in the last few years.   

To date, E&O's STP development has seen 240 acres already reclaimed under the first phase of the project with an estimated GDV of RM3 billion, according to OSK Research, which also estimates that STP2 could have a GDV of up to RM12 billion.

The cost of reclaiming land for STP1 was about RM90 per sq ft, according to a March 2010 report from Kenanga Research.

An analyst noted that selling prices for E&O's homes had surged strongly, far outpacing the rise in reclamation costs. "Effectively, the reclamation rights for STP are like a landbank warrant", he said, adding that it gave E&O access to a large landbank which it could reclaim according to its needs and cash flow position.  

STP, which is the island's largest seafront development, comprises 980 acres of reclaimed land largely featuring high-end landed and non-landed residential properties with commercial and retail precincts.

E&O is under coverage by five research houses, of which three have a "buy" recommendation on the stock while the other two call for a "hold".

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