20160704-高盛-UK_Brexit_impact_scenario_analysis_and_stress_tests；CL-Buy_CKH_28页_766kb

Asia Pacific: Conglomerates Summary

Core Content

This document provides an analysis of the potential impact of Brexit on Hong Kong-based conglomerates, particularly CKH Holdings and CKI, as well as other companies in the sector. It outlines the macroeconomic outlook for the UK and EU, the exposure of various conglomerates to the UK and Europe, and the valuation implications of Brexit-related risks and opportunities.

Main Points

• Brexit Impact Assessment:
  The Brexit shock is considered a local event rather than a global one. The UK is expected to experience a mild recession in 2017, but the impact on the rest of Europe is expected to be limited. The EU could face greater risks, such as referenda in other member countries, which may have broader implications for the global economy.

• Exposure of Conglomerates:
  Among the Hong Kong conglomerates covered, CKH and CKI have the highest exposure to the UK and Europe, representing 61% / 71% of FY17E group profit (including 39% / 69% in the UK). Other companies, like Jardine Matheson, have limited exposure (6% in the UK and Europe), with operations mainly in Hong Kong and China.

• Brexit Scenarios and Stress Testing:
  The firm has incorporated Brexit effects into its estimates using:

  1. Forex translation adjustments.
  2. Slower growth for more cyclical businesses.
  3. Higher risk premia by adjusting the value of underlying assets using comparables.

  They have also conducted stress tests to evaluate the risk-reward tradeoffs of different scenarios.

• Valuation and Risk-Reward Analysis:

  • CKH (CL-Buy):

    • 2017E group EBIT is 61% from Europe, with 39% in the UK.
    • A 10% GBP depreciation and 4% Euro depreciation since the Brexit vote would cut earnings by 4% and NAV by 3%.
    • The current target price (TP) is HK$103, suggesting a 25% upside from the base case.
    • The FCF yield is expected to remain at 5.4% in the bear case, still attractive.
    • The implied discount to NAV is currently -30%, with potential for -33% in the bear case and -32% in the bull case.

  • CKI (Neutral):

    • Every 10% GBP movement reduces EPS and net assets by 6% and 2% respectively.
    • The proposed Ausgrid acquisition has strategic merit, but the stock is considered fully valued.
    • The target price is HK$103, with 25% upside in the bull case and 8% downside in the bear case.
    • The FCF yield is 7.6% in the base case and 5.4% in the bear case.

• Other Conglomerates:

  • Wharf Holdings and Wheelock & Co. have limited exposure to the UK and Europe, with the majority of their operations in Hong Kong and China.
  • Swire Pacific and MTR Corporation have minimal exposure to the UK and Europe.

Key Information

• GDP Projections:

  • UK GDP growth for FY17 is projected at +0.2%, compared to -4.2% during the GFC.
  • EU GDP growth for FY17 is expected at +1.2%, with limited spillover effects from Brexit.

• Currency Movements:

  • GBP and EUR have depreciated by 10% and 4%, respectively, post-Brexit vote.
  • The GBP/EUR is expected to weaken by 11% / 4% against USD over the next 12 months.

• Earnings and NAV Sensitivity:

  • CKH's earnings and NAV are sensitive to GBP/HKD and EUR/HKD movements.
  • A 5% GBP depreciation would lead to a 2.0% / 1.6% impact on CKH's 2017E net profit and NAV.
  • A 4% EUR depreciation would lead to a 1.1% / 0.7% impact on CKH's 2017E net profit and NAV.

• Investment Recommendations:

  • CKH is recommended as CL-Buy due to its attractive risk-reward profile.
  • CKI is rated Neutral as it is considered fully valued.
  • Wharf (4.HK) is also recommended as Buy due to its stable Rmb and HK retail outlook.

Summary of Earnings Breakdown

Summary of Valuation

Conclusion

The analysis concludes that while Brexit poses significant risks for companies with substantial UK and European exposure, the impact is local and not global. CKH is highlighted as a buy due to its attractive risk-reward and defensive segments (utility, telco, retail), while CKI is considered neutral due to its full valuation despite exposure. The firm also notes that fiscal policies and monetary normalization may help mitigate some of the negative impacts.