China Real Estate Developers:Poly H,Assessing asset value crystallization from possible M&A;up to Buy

Consolidation intensifying; SOE reformaccelerating; valuation has diverged

As the industry is facing another policy-drivendownturn in 2017, we expect consolidation tointensify with: (1) leading developers’ marketshare gains accelerating via significantconsolidation in the land acquisition market since2015; (2) more M&A opportunities among SOEsamid pick-up in SOE reform. However, thevaluation divergence between primary marketM&A and developers’ stocks has grown in thepast six months. While developers under ourcoverage trade at an average 2017E P/B of 1.0X,the P/B implied by recent M&A deals is 1.8X (1.0Xwhen we set our M&A framework in June). Webelieve the rise in this implied P/B is mainly drivenby surging land prices, especially in higher-tiercities on the back of a rapid ASP rise since 2H2015and intense competition at public land auctions.

Refreshing M&A valuation for three stocks

After factoring in a new M&A multiple of 1.8X andrevisiting M&A potential for our coverage, weraise Poly H/GT’s TPs by 45%/9% to HK$4.2/7.6and keep COGO’s TP at HK$3.7 (see Ex. 18 inside).

Poly H up to Buy with 35% potential upside

We upgrade Poly H to Buy from Neutral as wenow view it as the most likely M&A target in ourcoverage given potential restructuring with PolyA. Though we take no view on the likelihood of adeal taking place, we believe a restructuringwould likely drive a re-rating of the stock givenPoly H’s low valuation (0.5X 2017E P/B vs. 1.8X forM&As). With 70% of its land bank located in tier-1/2 cities and acquired before 2013, we estimateits land bank value would be 50% higher if it weremarked to market; we note that the shares are at adeep 73% discount to the reappraised value.

Prefer leaders with low valuations, smallcapswith re-rating opportunities

We expect leaders (COLI/Poly A; both CL-Buy) tostrengthen their market leadership and see theirvaluations recover from their lows on the back ofaccelerated industry consolidation and SOEreform. We also expect the valuations of smallcaps(COGO, CL-Buy; Poly H, Buy) to re-rate fromtheir deep discounts to M&A-implied multiples oneither rising visibility of operational turnaround or