8 July 2014 Property China Property Page 2 Deutsche Bank AG/Hong Kong Taking a look at industry consolidations Buy COLI, China Vanke, CR Land, Sunac, R&F, Kaisa While we may not see a major stimulus or policy relaxation from the central government, we expect more partial relaxation by local governments in cities where inventory levels are high, and developers that are willing to adopt a flexible pricing strategy should achieve better sales volume. In past downturns, genuine price cuts (of up to 20%) helped clear inventories; in fact, previous excess inventories were cleared extremely quickly as a result of such price reductions. Our top picks are developers that are willing to adopt a more flexible pricing strategy, including China Vanke, CR Land, Sunac and R&F, and COLI, Kaisa for their end-user focus and/or ability to pursue counter-cyclical expansions. We remain negative on developers with negative cash flows/high gearing, such as Evergrande, Shimao, Country Garden. Key risks: unexpected economic and policy fluctuations, and developers’ incorrect judgments on property pricing. We expect industry consolidations to accelerate Since 2005, we have seen three short cycles, each of about three years, in the China property market. 2006-07 were strong and 2008 weak, followed by a strong 2009-10 and weak 2011. Then 2012-13 were strong and 2014 YTD has so far shown YoY declines. In our view, given the high base built in 2013 for the China property, the YoY declines in 2014 did not come as a surprise at all. We view the adjustments as a standard demand/supply time-lag (the classic cobweb equilibrium dilemma). Also, the three three-year cycles highlight that market forces have been working well in the China property market, in contrast to other monopolistic or oligopolistic industries in the country. Lastly, the adjustments should allow the stronger developers to gain market share at a faster pace. Following the high base built in 2013, the broader China commodity residential market has been undergoing the expected downward adjustment in 2014. YTD (up until 6 July), total sales volume in the 40 major cities (based on Soufun statistics) have decreased 18% YoY, to 128.9 msqm. That said, like the downturns in 2008/11, the key listed developers have been outperforming the broad market, and registered average YoY sales growth of about 10% in 1H14, suggesting that the broad market adjustments are allowing the stronger developers to gain market share at a faster pace. 8 July 2014 Property China Property Deutsche Bank AG/Hong Kong Page 3 Market shares of the listed developers have continued to rise Our market share analysis shows that the key listed developers as a group have been able to gain higher market share in terms of sales, profitability and landbanking. We believe this industry consolidation trend will accelerate in the expected adjustment period in 2014. In 2013, the 28 key listed developers we monitor had an aggregate market share in terms of sales value of 18.5%, up from 17.9% in 2012. Based on the preliminary nationwide sales data for 1H14, the aggregate market share rose further to 26.4%. More importantly, we found that the listed developers with a high focus on end-users and/or more flexible pricing strategy (i.e. cutting prices in 2014) have been able to achieve even faster market share gains in 1H14. For example, China Vanke's market share has gone up to 4.2% in 1H14 from 2.5% in 2013, while COLI's market share has climbed from 1.6% in 2013 to 2.4% in 1H14. Among other key listed developers, R&F's market share rose from 0.6% in 2013 to 1.1% in 1H14, Sunac's rose from 0.8% in 2013 to 1.1% in 1H14, Country Garden's market share also rose from 1.6% in 2013 to 2.4% in 1H14, Evergrande's rose from 1.5% in 2013 to 3.0% in 1H14, Poly Real Estate's rose from 1.9% in 2013 to 2.6% in 1H14, while Shimao's rose from 1.0% in 2013 to 1.3% in 1H14. Figure 1: China Prop – Major Developers' Market Share by Contracted Sales Value Company Ticker 2005 2006 2007 2008 2009 2010 2011 2012 2013 1H14E Agile 3383 HK 0.4% 0.4% 0.4% 0.5% 0.6% 0.7% 0.6% 0.6% 0.6% 0.8% Aoyuan 3883 HK 0.1% 0.1% 0.1% 0.1% 0.1% 0.1% 0.1% 0.1% 0.1% 0.2% BC Land 2868 HK 0.2% 0.5% 0.3% 0.2% 0.3% 0.3% 0.2% 0.2% 0.3% 0.3% C. Garden 2007 HK 0.3% 0.4% 0.7% 0.8% 0.6% 0.7% 0.9% 0.9% 1.6% 2.4% CC Land 1224 HK 0.0% 0.0% 0.1% 0.1% 0.1% 0.1% 0.1% CCRE 832 HK 0.1% 0.2% 0.1% 0.1% 0.2% 0.2% 0.2% 0.2% China Vanke 200002 CH 1.0% 1.2% 2.0% 2.3% 1.7% 2.5% 2.5% 2.6% 2.5% 4.2% COLI 688 HK 0.7% 0.8% 0.9% 1.1% 0.6% 1.3% 1.4% 1.6% 1.6% 2.4% CR Land 1109 HK 0.2% 0.2% 0.2% 0.4% 0.7% 0.5% 0.7% 1.0% 1.0% 1.0% Evergrande 3333 HK 0.1% 0.1% 0.3% 0.8% 1.1% 1.7% 1.7% 1.5% 3.0% Fantasia 1777 HK 0.1% 0.1% 0.1% 0.1% 0.1% 0.2% 0.1% Gemdale 600383 CH 0.3% 0.4% 0.5% 0.5% 0.7% 0.6% 0.6% 0.6% 0.7% Glorious 845 HK 0.2% 0.2% 0.3% 0.3% 0.2% 0.1% 0.1% Greentown 3900 HK 0.3% 0.4% 0.6% 0.7% 1.3% 1.2% 0.7% 1.0% 0.9% 1.1% Kaisa 1638 HK 0.1% 0.2% 0.2% 0.3% 0.3% 0.4% 0.5% KWG 1813 HK 0.1% 0.2% 0.3% 0.2% 0.2% 0.2% 0.4% Longfor 960 HK 0.2% 0.4% 0.5% 0.5% 0.8% 0.8% 0.8% 0.7% 0.8% Poly CN 600048 CH 0.3% 0.5% 0.7% 0.8% 1.1% 1.5% 1.5% 1.9% 1.9% 2.6% Poly Property 119 HK 0.1% 0.2% 0.2% 0.3% 0.3% 0.4% 0.4% 0.5% Powerlong 1238 HK 0.1% 0.1% 0.1% 0.1% 0.1% 0.1% 0.1% R&F 2777 HK 0.6% 0.7% 0.6% 0.8% 0.6% 0.7% 0.6% 0.6% 0.6% 1.1% Shimao 813 HK 0.3% 0.3% 0.4% 0.6% 0.6% 0.7% 0.6% 0.9% 1.0% 1.3% Shui On 272 HK 0.0% 0.2% 0.2% 0.1% 0.2% 0.1% 0.2% 0.1% 0.2% 0.1% Sino-Ocean 3377 HK 0.2% 0.2% 0.2% 0.3% 0.4% 0.5% 0.6% 0.6% 0.5% 0.5% Greenland HK 337 HK 0.0% 0.1% 0.1% 0.1% 0.1% 0.1% 0.0% 0.1% 0.2% Sunac 1918 HK 0.1% 0.2% 0.2% 0.2% 0.4% 0.6% 0.8% 1.1% 8 July 2014 Property China Property Page 4 Deutsche Bank AG/Hong Kong SZ Inv 604 HK 0.2% 0.2% 0.1% 0.1% 0.1% 0.1% 0.1% Yuexiu 123 HK 0.1% 0.1% 0.1% 0.1% 0.2% 0.2% 0.2% 0.2% 0.2% 0.5% Total 4.4% 6.7% 8.6% 11.5% 12.1% 15.6% 16.2% 17.9% 18.5% 26.4% Top 20 Total 0.0% 0.0% 8.6% 10.8% 11.3% 14.6% 14.5% 16.0% 17.5% 25.3% Source: Company, NBS, CRIC, Deutsche Bank Estimates COLI and Vanke are the leaders in overall profitability As we discussed in our report, China Property: Taking a look at landbank vintage and margin downtrend, dated 22 April 2014, the trade-off between sales volume and margins has become more apparent for the industry. Hence, in addition to the market share on contracted, we should also look at market share based on earnings power. Our analysis shows that COLI has consistently been the market share leader by core net profit among the listed developers, followed by China Vanke. In our view, this reflects the strong execution of COLI and Vanke. Given the weak property market sentiment, rising inventory periods, and our forecast of negative cash flows for 2014 for most developers, appetite in the land markets should weaken, and land prices soften, allowing COLI and Vanke to pursue counter-cyclical expansion for the rest of 2014, which should help enhance their landbank vintage and market share growth for the future years. Figure 2: China Prop – Market Share (based on core net profit) Company Ticker 2006 2007 2008 2009 2010 2011 2012 2013E COLI 688 HK 1.82% 2.36% 1.28% 1.61% 1.76% 2.43% 2.82% 3.17% China Vanke 200002 CH 2.05% 2.97% 1.91% 1.37% 1.59% 2.21% 2.79% 3.05% Evergrande 3333 HK 0.10% 0.24% 0.02% 0.08% 1.20% 1.98% 1.38% 2.08% Country Garden 2007 HK 1.33% 2.52% 0.88% 0.52% 0.93% 1.31% 1.51% 1.71% CR Land 1109 HK 0.58% 0.88% 0.58% 0.73% 0.79% 1.05% 1.29% 1.49% Shimao 813 HK 1.03% 1.14% 0.44% 0.80% 0.83% 1.05% 0.98% 1.48% Longfor 960 HK 0.04% 0.09% 0.10% 0.45% 0.56% 1.04% 1.20% 1.25% R&F 2777 HK 1.92% 1.83% 0.79% 0.57% 0.