China Merchants Holdings Pacific

CIMB Research, June 3

WE expect China Merchants Holdings Pacific's (CMH) strategic expansion to be firmly supported by its very cheap financing and the strong nationwide footprint of its parent, China Merchants Group (CMG).

The company pays the highest dividend among its peers while having significant scope to further ramp up its investment returns.

The toll-road operator's recent success in exiting a non-performing property development business has refreshed its outlook.

While we expect strong expansion ahead through acquisitions, our current target price is conservatively based on the organic growth of its toll income. We initiate coverage with an "add" rating and a target price of $1.06 based on CY2014 residual income value.

After successfully exiting a non-performing property business in New Zealand, CMH has become a pure toll road-focused business. The toll road business rides on China's new initiative to develop the Yangze River economic belt. CMH is expected to benefit from the expanding income from its toll assets in the region.

CMG is one of the largest SOEs directly under China's State Council. Being CMG's largest listed vehicle in terms of stake holding (82 per cent), CMH is a primary beneficiary of the former's wide footprint across China.

Through its toll roads arm, Huajian Highway Investment, CMG holds an investment portfolio comprising toll roads, bridges and tunnels with an aggregate length of approximately 6,700 km in 14 provinces and two municipalities. This provides CMH with plenty of options to expand its toll asset base through acquisitions.

Optimally geared, CMH is worth $1.52. CMH has the lowest borrowing cost at about 3 per cent (peers' at 4.5-6.0 per cent). This gives it unparalleled advantage to potentially ramp up its toll asset investment returns.

Its net gearing level of about 21 per cent is very docile compared to the maximum 60 per cent that management is comfortable with.

In our opinion, CMH could further ramp up its ROE from the current decent level of 12 per cent to 16 per cent through leveraged acquisitions of toll assets, as what it has been doing over the past few years. With such an improved ROE, CMH would be worth $1.52. A seven cents dividend per share (7.5 per cent yield) is sustainable in the long term.

ADD