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S P Setia ( OSK Research) maintain buy; target price RM7.23

Of Bangsar Land and Corporate Exercises

THE BUZZ


On 17 Jan 2011, SP Setia announced the following:

More details pertaining to the acquisition of a 40.2-acre land in Bangsar;

A proposed private placement of new SP Setia shares of up to 180,450,982 (15% of paid-up capital) at a price to be determined via book-building and shall be fixed based on the higher of not >10% discount to the 5-day VWAP immediately prior to the price fixing date, or the par value of SP Setia shares; and

A proposed 1-for-2 bonus issue after the private placement.

OUR TAKE

THE BANGSAR LAND DEAL


A quick recap. Last weekend, on the Edge Weekly reported that SP Setia was acquiring a 40-acre land along Jalan Bangsar via a land swap deal. Yesterday, the company clarified that on 24 Sept 2010, a letter was issued by the Public Private Partnership Unit in the Prime Minister’s Department informing SP Setia of the approval-in-principle granted by the Federal Government for Sentosa Jitra SB, a 50% associate company of SP Setia, to enter into negotiations with the Public Private Partnership Unit and the Ministry of Health on terms for the proposed development of a new integrated health and research complex for the Ministry to be located on 55.3 acres in Setia Alam. This would be by way of land swap for the Government land measuring 40.2 acres located along Jalan Bangsar, KL. The design and costing for the new complex has been finalised and SP Setia is now ready to commence negotiations with the Government.

Structure of the proposal. In exchange for the Government land along Jalan Bangsar, the 50%-associate company Sentosa Jitra SB will undertake the following:

Acquire about 55.3 acres of land in Setia Alam from SP Setia;

Develop a fully integrated health and research complex to be known as the 1NIH Complex on 55.3 acres in Setia Alam to relocate the various National Health Institutes and relevant supporting offices/research centres under the Ministry of Health’s purview, which are currently situated in various parts of KL; and

Redevelop the swapped 40.2-acre land into an integrated mixed residential and commercial project and give the Government a 20% share of the net profits from the development.

Location of the land parcels. The 40.2-acre land in Bangsar is located opposite KL Sentral and enjoys a direct frontage of Jalan Bangsar. It is accessible from the Kuala Lumpur City Centre via Jalan Parlimen and Lebuhraya Mahameru. Alternatively, it may also be approached from the Federal Highway via Jalan Tun Sambanthan and thereafter Jalan Travers (see Figure 1). On the other hand, 55.3 acres that will be developed into the 1NIH Complex is located within SP Setia’s Setia Alam township, and is immediately west of the 158-acre Setia City commercial precinct in the township.

A double bonus for SP Setia. We see the impact on SP Setia’s prospects from the proposed land-swap deal as being two-fold:

Firstly, obviously, the prospects arising from securing the large strategic piece of land fronting Jalan Bangsar and just opposite KL Sentral, can be huge. Although the GDV potential has yet to be disclosed, we estimate that the project could be worth between RM6bn-RM7bn, or possibly more. This is calculated based on the estimated cost of between RM600m-RM700m, as reported in the Edge Weekly, for swapping the land and constructing the 1NIH Complex in Setia Alam. Taking this as the implied cost for acquiring the land along Jalan Bangsar and assuming that this represents about 10% of the potential GDV of the project, as a rule of thumb, we derive a potential value of RM6bn-RM7bn. The implied land cost of between RM343-RM400psf, assuming that is correct, appears reasonably fair relative to the price of commercial land in KL Sentral, which is reportedly going for >RM1,000 psf; and

Secondly, integrating all the Ministry of Health’s relevant national health and research institutes and support functions in a single location within Setia Alam will contribute towards bringing in the necessary critical mass in population and serve as an impetus to Setia City’s growth. Indirectly, this will create spillover effects that will enhance the saleability and the allure of the Setia Alam township as a whole.

THE PROPOSED CORPORATE EXERCISES

The private placement. SP Setia has proposed a private placement of up to 180,450,982 new shares (15% of paid-up capital and assuming the full exercise of ESOS and warrants) at a price to be determined via book-building and shall be fixed based on the higher of not >10% discount to the 5-day VWAP immediately prior to the price fixing date, or the par value of SP Setia shares. Based on the last closing price of RM6.70, SP Setia could potentially raise gross proceeds of up to RM1,209m. The proceeds from the private placement are expected to be utilised for, amongst others, the following SP Setia’s development projects:

The RM6bn KL EcoCity. This is to part finance the development and construction and to invest in a corporate tower block and retail podium. This is expected to expedite the commencement of commercial activities and improve the development timeline, which is also anticipated to enable earlier realisation of the project value;

The Setia City project in Setia Alam. Parts of the proceeds will also be used to part finance the construction of a convention centre, corporate headquarters and related infrastructure at Setia City, a 158-acre integrated green commercial development in Setia Alam and Setia Eco Park townships; and

The Fulton Lane project in Melbourne (Australia). To part finance the first phase of a residential condominium project in Australia.

The 1-for-2 bonus issue. SP Setia has also proposed a 1-for-2 bonus issue. In addition to further improving liquidity of the stock, the bonus issue is also intended to reward the shareholders of SP Setia. The bonus issue will only be carried out after the completion of the said private placement.

VALUATION & RECOMMENDATION

Limited impact on near-term earnings. While the prospects arising from the development of the Jalan Bangsar land is immense and potentially comparable to the RM6bn KL EcoCity at the very least, we do not believe that this would have significant impact on SP Setia’s short- to mid-term earnings. The potential 15% dilution impact on its FY11 EPS (based on the maximum number of placement shares of 180,450,982) from the placement is not a cause for concern as the proceeds will be efficiently utilised to fund the development of the above-mentioned lucrative projects, and are therefore expected to be accretive to SP Setia’s future mid- to long-term earnings.

Maintain BUY. As earnings are unlikely to be realised from the Bangsar Land in the short- to mid-term, we are leaving our earnings forecast unchanged for now. Therefore, we maintain our BUY call on SP Setia, with a price target of RM7.23 (cum), which is based on 3.1x CY11 P/NTA, the peak valuation it achieved in 2007. As we argued in our earlier report, this sort of valuation is justifiable because we reckon that the current upcycle, which will last until sometime in 2012/13, would be even bigger than the boom in 2007 and SP Setia stands to be one of the prime beneficiaries of this phenomenal boom. Assuming that the implied cost of between RM343-RM400psf is correct for the Bangsar Land and if we revalue it to RM1,000psf, this may potentially enhance its RNAV by between 77.5 sen and 84.9 sen/share (after tax) to between RM5.46 to RM5.53/share.
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