Property developers, an energy company and a drug manufacturer rank among the new additions to Morningstar's list of undervalued Asia large- to mid-cap stocks.

Collectively, the 30 companies on the Asia Large-Mid Cap Pick List are trading at a 39 per cent discount to Morningstar fair value estimates as of 31 May 2020.

The following companies — five of the 19 new additions — are highlighted because they each have an economic moat. Morningstar analysts are also comfortable with the stability of their fair value estimates, reflected in Uncertainty Ratings of either Low or Medium.

Beijing Enterprise Holdings (XHKG: 0392)

Economic Moat: Narrow | Morningstar Rating: 5-star | Price-to-Fair Value: 0.57

The best value stock meeting the above criteria, Beijing Enterprise Holdings is the listed flagship of the Beijing municipal government, with a focus on public utilities. It holds a monopoly on the distribution of natural gas within China’s sprawling capital and owns a controlling stake in the Shaanxi-Beijing pipelines that supply Beijing and northern China.

The company recently won approval for a new liquefied natural gas facility near the port city of Tianjin Nagang, which Morningstar equity analyst Jennifer Song says will further strengthen its monopoly on Beijing’s natural gas.

“We think the shares are undervalued presently…and imply a significant discount relative to the sum of the company’s underlying assets,” Song says.

“We think much of the downside risks in BEH’s oil and brewery businesses are already priced in, and the company’s stable public utility business should continue to deliver robust and sustainable cash flow to the firm.”

CK Asset Holdings (XHKG: 01113)

Economic Moat: Narrow | Morningstar Rating: 5-star | Price-to-Fair Value: 0.65

Multi-national conglomerate CK Asset Holdings is a developer of residential and commercial real estate, and has also more recently ventured into aircraft leasing, energy and infrastructure businesses.

A profit warning in mid-May on the back of losses from developments in Hong Kong, hotel operations in its recently acquired UK pub business, and from REIT securities was largely expected by Morningstar equity analyst Phillip Zhong.

“We believe the shares are trading at an attractive valuation given the diversification of recurrent income, strong balance sheet with room for large acquisitions, and scope for other capital management initiatives,” he says.

The company has been undergoing a strategic transition over the past several years, selling off assets in its home market of Hong Kong to buy yield-oriented businesses across the globe.

More recently, CK Asset has also been shifting some focus back on Hong Kong where it has engaged in limited land banking — aggregating land parcels for future sale or development — and redevelopment projects.

With a closing share price of HK$47.85 on 10 June 2020, the company is currently trading at a 35 per cent discount to Morningstar’s HK$74 fair value estimate.

Sinopharm Group (XHKG: 01099)

Economic Moat: Narrow | Morningstar Rating: 5-star | Price-to-Fair Value: 0.67

The largest drug distributor in China, Hong Kong-listed Sinopharm is tipped to benefit from government efforts to rationalise the industry.

The Chinese government plans to allow the top three players to boost market share to between 50 per cent and 60 per cent over the next five to 10 years, from current levels of around 36 per cent.

Sinopharm currently holds around 20 per cent market share, versus 8 per cent for each of its two closest rivals.

Coronavirus hit the company’s first-quarter revenues hard, says Morningstar equity analyst Jay Lee. Higher logistical and distribution costs during the pandemic led to a worse-than-expected drop of 34 basis points and 78 basis points in gross profit margin and core operating profit margins, respectively.

“We maintain our full-year revenue forecast of 6.6 per cent year-on-year growth as we think the one-off impact from COVID-19 has mostly passed,” says Lee. He recently maintained his fair value estimate of HK$29.50 a share — a 33 per cent discount to the 10 June closing price of HK$19.84.

“Although the entire Chinese drug distribution subsector suffers from bearish sentiment due to uncertainty of near-term cash flow and general investor disinterest, we think Sinopharm, as the only pure play, is the most attractive distributor for investors with a long-term, patient outlook,” Lee says.

Swire Properties (XHKG: 01972)

Economic Moat: Narrow | Morningstar Rating: 5-star | Price-to-Fair Value: 0.69

Holding more than 9 million square feet of grade-A office space in Hong Kong, Swire is the country’s leading office landlord. Pacific Place, a mixed used development of office towers, hotels and a mall with more than 160 shops —and One Island East, a 68-storey office building ¬— are its flagship properties.

“We believe the decentralisation trend is structural, and the company’s flagship assets will fare well in the coming years. Their performance will dictate the company’s overall return,” says Morningstar’s Zhong.

Swire is also expanding its presence in China, where it has five large projects. And in the US, a build-out of Brickell City Centre project in Miami, Florida should establish the company’s reputation as an international developer.

The company earns a Low Uncertainty rating because more than 85 per cent of operating income is generated by rental properties. Coming primarily from mature flagship properties, this cushions its more volatile property trading business.

Swire’s first-quarter 2020 results reflected the negative effect of COVID-19 on its office and retail portfolio —particularly the latter, which Zhong expects will remain under pressure for 2020. But he retained his Narrow Moat rating and HK$29 Fair Value Estimate.

With a share price of HK$19.94 as of 10 June’s close, Swire is currently trading at a discount of more than 30 per cent.

Wharf Real Estate Investment (XHKG: 01997)

Economic Moat: Narrow | Morningstar Rating: 5-star | Price-to-Fair Value: 0.70

Spun off from a mostly China-focused developer Wharf Holdings in late 2017, Wharf Real Estate Investment Company is now a leading property investor in Hong Kong, with a focus on prime retail assets.

Rental income, mostly from two flagship malls Harbor City and Time Square, accounts for 95 per cent of the company’s operating profit, while the hotel operation contributes the remaining 5 per cent.

Morningstar’s Zhong recently cut his fair value estimate for WREIC to HK$49 from HK$52 in response to management’s profit warning in late March. But he retained the company’s narrow moat rating, and its shares continue to trade around 30 per cent below what he believes they’re worth.

“This largely reflects the excessive pessimism over retail assets due to the virus outbreak, though we acknowledge recovery may be a year away,” Zhong says.

Retail rental revenue has taken a few sharp knocks in recent years, including an anti-corruption drive between 2014 and 2016 which cut tourist arrivals and the protests of 2019 which depressed the sector.

“We expect the ongoing virus crisis will be a drag to the sector for one or two quarters in 2020,” Zhong says. He expects the dual impact of the protests and the pandemic will likely lead to rental concessions.

Zhong views the underlying economic growth prospects for WREIC’s flagship assets as solid, “as Hong Kong remains the preferred destination for a majority of Chinese tourists.”

But he also concedes the retail landscape in China has matured, and the number and wealth of Chinese tourists won’t see sales at WREIC’s assets hit previous highs.

“We think these assets will likely see their retail sales growing at a rate slightly above the aggregate rate for the city as a whole, rather than enjoying the blockbuster performance seen in the past,” Zhong says.

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