Understanding the Industry

Real estate development business is a popular business venture for a number of companies, from the traditional developers: Far East, UOL, Capitaland and Fraser Centrepoint to the “converts” which are usually from companies that operate in related businesses such as construction: Chip Eng Seng and Low Keng Huat. It is also not hard to find companies which operate in industry that has little relevance to the real estate business such as previously listed Popular to dabbled into the property development business. Why the popularity?

Quick sales cycle and potentially high return on equity

Personally, I would attribute the attractiveness to a property development business to the quick sales cycle and the potentially high return on equity. I highlight below one of the development project which Oxley Limited undertook, Suites@Bradell extracted from the 2011 annual report.

Launched Acquired GFA (sqm) No. of units % sold at 15 August 2011 Expected TOP
June-11 Oct-10 1,552 33 residential apartments 97% 2015

Take note on the time between the site acquisition date and and launch date of 8 months and by 15 August 2011, the development is almost fully sold.  The ability to execute a quick sales cycle on 97% of the development of less than one year after site acquisition as illustrated above translates to an attractive return on equity as Oxley will be entitled to receive the down payment of 20% on the sales price from the the buyer upon execution of the sales and purchase agreement.

Hence, the the likelihood is that Oxley has already recoup its equity invested (on the presumption land loan and construction loan was drawn down) on the development project by August 2011 as costs incurred till then would likely be incurred mainly for the downpayment of the land, the construction of the showflat as well as marketing expenses.

The remaining 80% outstanding (i.e. from date of August 2011 to date of TOP) will be paid to Oxley as the construction of the development progresses till completion. The proceeds received will then be use to fund the remaining construction of the development as well as paying off the interest on the loan drawn down. Do note the recovery on the  outstanding payment is almost assured given the stable environment in Singapore and more importantly because the initial 20% downpayment would have been forfeited if the buyer is unable to service the progress payment.

Hence, the key takeaway on the above is that not all debts are bad debts and traditional debt to equity metrics might throw off a lot of investors from investing in real estate companies as they would view the high leverage ratio as risky. In this case, a better measure would be the percentage of sales of the development project which the Company undertook and expected margin on the project which would provide assurance to the investors that the Company has the ability to repay loan drawn down as the progress payment is received from customers.

For the record, Suites@Bradell was completed on 5 June 2015 and the 33 residential apartments has a floor area of between 387 to 893 sqft and yes CK is not vested in Oxley.