Sun sets on Sunland
Recommendation
Sunland Group has been an excellent investment, delivering an annualised return of 27% since Pouncing on downtrodden developers on 22 Jan 10 (Long Term Buy – $0.78) and considerably more if you bought at the lower prices available subsequently, for example in Sunland: Sun rising or falling? on 7 Jul 11 (Speculative Buy – $0.66). Now, with the price nearing the stock's underlying tangible asset value (see Chart 1), it's time to sell.
Key Points
- Excellent outcome, returns of at least 27% per year
- Margin of safety narrowed, switching to Sell
- Queensland property development remains risky
Management deserves some of the credit for the excellent performance. Through luck or good judgement it entered the global financial crisis with limited debt and plenty of cash. This enabled it to buy back shares at a massive discount to their underlying value, boosting net tangible assets (NTA) per share from $1.20 in 2010 to $1.86 today. It was also able to snap up development sites from struggling competitors.
While the company's foray into Dubai took its toll, losses were limited due to the structure of the venture. Sunland managed to extricate itself recently and, in the process, gain sole ownership of the Gold Coast’s Palazzo Versace Hotel, which was subsequently sold, enabling a special two-cent per share dividend in March 2013. Adding up the special dividend, controlled overseas expansion and opportunistic share buybacks possibly shows the advantage of investing alongside owner-managers.
Still, operationally, Sunland’s past few years have been tough, with volatile profits, as shown in Table 1. Its focus on the Queensland market has been a weakness. However, the market has welcomed a simpler structure focused on the Australian market and cheered the aggressive share buyback, helping close the gap between the share price and NTA to just 10% from a peak of over 60%.
Residential development is tough
Sunland’s future now relies on its ability to sell profitable developments. This is a tough game. Industry giants such as Australand and Stockland, for example, have generated lacklustre returns on capital employed (ROCE) of 8.6% and 8.4% respectively over the past five years – well below what we’d consider adequate considering the risks. Sunland’s focus on luxury developments (see Sunland: Sun rising or falling?) has insulated it somewhat, with ROCE hovering around 12% over the same period – a better but still unimpressive result.
Year end 31 Dec | 2008 | 2009 | 2010 | 2011 | 2012 |
---|---|---|---|---|---|
Revenue ($m) | 497 | 506 | 241 | 256 | 211 |
Net profit ($m) | 99 | -145 | 18 | 21 | 15 |
EPS (cents) | 30.8 | -44.9 | 6.4 | 9.3 | 7.2 |
DPS (cents) | 14.0 | 10.0 | n/a | n/a | n/a |
The current macroeconomic environment provides further concerns. It’s true that housing starts are pegged to rise in Sunland’s key Queensland market this year thanks to a new government grant, but price and sales growth remain subdued. According to the Queensland Valuer-General, land values were flat at best across the Gold Coast region in 2012. Even property bull Anton Kardash, chief executive of the Real Estate Institute of Queensland, is only predicting a ‘slow sustained recovery’.
Developers tend to need a booming market to make large profits, and we think a large and sustained rise in house prices is unlikely. In this environment development returns are likely to be around or below long-run averages.
Queensland’s economy is also risky, being exposed to the cyclical mining and tourism sectors. Miners are delaying capital spending (writ large in recent profit warnings from UGL and Coffey International), which will likely raise unemployment, probably offsetting any boost that tourism receives from a potentially lower Australian dollar.
Time to sell
Against this backdrop and with the discount to NTA having narrowed to 10%, it makes sense to take the available profits. We often suffer much consternation selling stocks. As we explained in Sold out early? On the one that got away, buying a stock at a near 50% discount to NTA is relatively straightforward, but deciding when to sell when the gap closes is much harder.
At $1.68, future returns now rely more on profitability, the strength of the Queensland property market and the resumption of dividends rather than a rerating of a mispriced stock. Whilst Sunland’s share price may rise further still, the margin of safety has shrunk and we’re willing to leave some value on the table to lock in a decent return.
Selling is a personal decision, and you may wish to retain part of your stake, especially if you have a more bullish view of property prices, but keep in mind that the risks have changed.
The stock has risen 36% since Sunland: Interim result 2013 (Hold – $1.24). SELL.