Megapolitan Developments

A few days ago, the Government of Republic of Indonesia issued at least two regulations that are expected to have a positive impact on the growth of property industry in the country, which began to slowing down along with the slowdown of national economy. First regulation is the reduction in the minimum down payment for purchase of property, from previously 30% to 20% (from the value of the property) only. Second regulation, foreign investors and individuals are now allowed to buy property/real estate assets in Indonesia. The announcement of these regulations are responded positively by investors in the Indonesia Stock Exchange, where the property stocks jumped significantly in the last two to three days.

However, as usual, bear in mind that just because the Government issued certain policies that are expected to have positive impact on a particular stock or sector, then it does not mean that the expectations will surely come true. In the end, people will look at the financial performance to determine if a company's stock is worth buying or not. And for this year, the property sector began to lost its momentum in which some major players like Alam Sutera Realty (ASRI), Pakuwon Jati (PWON), and Summarecon Agung (SMRA), all experienced a decline in net earnings in the first quarter of 2015. Some other large companies such as Lippo Karawaci (LPKR), Bumi Serpong Damai (BSDE), and Ciputra Development (CTRA), they still posted an increase in profit, but their outlooks are less promising in line with the economic slowdown, as the property sector itself is very vulnerable to the risk of changes in the macro economy. Back in 2008, the property industry in Indonesia was ‘dismissed’ because of the global crisis, and even the shares of ASRI had laid down at the bottom price of Rp50 per share.

But, okay, let's try to be more optimistic here, where the government regulations may be able to push the property industry in the country to grow further, or at least maintain the momentum of growth that has been occurred since 2011. The question, which property stocks that are most attractive? Well, if we return to the rule of value investing where a good stock is that: 1. Have a good fundamentals, and 2. The valuation is still low, then it is a ‘lil bit difficult to find all of these criteria on six property stocks which have already been mentioned above. Because as a property company with track record of excellent performance and reputation, you cannot expect to be able to buy ASRI at PBV of 1.0 times, for example.

Thus, our attention may be directed to the shares of the smaller property company. In fact, some small property companies may offer an alternative for long-term investment because they are still in the phase of growing and developing (the six property companies which have been mentioned above, they are all grown up and has enjoyed their ‘heyday’ since 2011), so that the prospect of future growth is still wide open. Thus, not only you can obtain a good stock at a cheaper price, but if you are lucky, you may also be able to make several hundred percent of gain in 2 – 3 years, just like if you bought the shares ASRI, PWON, or Lippo Cikarang (LPCK) in 2011.

One of these small players is Megapolitan Developments (EMDE). As a value investor, I found this EMDE attractive not because of its prospects, but because of discounted price of the shares after the price continued to slide down from its IPO price of Rp250 per share, until touched Rp84 in April, whereas the company's financial performance was fine. Based on experience in Sri Rejeki Isman (SRIL), where the price also continued to fall from Rp300 per share to Rp120, but it eventually rose back because there is nothing wrong with the fundamentals of the company, then I assume that there may be an opportunity in this EMDE. Moreover, at the price of Rp84, the PBV of EMDE was 0.5 times only, or much cheaper than any property shares on the IDX.

Anyway, let’s check the company.

EMDE was founded by two entrepreneurs named Sudjono Barak Rimba and Lora Rowas Melani, who previously worked as real estate agents, in 1976. In 1979, the company developed its first property project in Cinere Region, Depok City, West Java Province, ie a housing on an area of ​​55 hectares. The project was a great success, so that in subsequent years the company continues to build several new housings plus a mall (Cinere Mall) in the same region. By the end of 2014, with a total land area of ​​more than 300 hectares in the region (while the land area of Cinere Region itself is only 1,100 hectares), EMDE can be crowned as the largest property company in Cinere.

To this day the company is still developing Cinere Region. Currently EMDE is focus on the development of its superblock project under the name Centro Cinere. In the superblock, there are shopping mall, shophouses, kiosks, restaurants, apartments, commercial park, and housing. The good news is, most of the property projects have been completed, and will begin to generate revenue for the company in this year.

Going forward, still in Centro Cinere superblock, EMDE will also build condominiums, and two office towers. However, the projects are still in the planning phase, and will only be able to produce revenue within 2 – 3 years or more.

And if all the property in the superblock are focused on middle and upper class consumers, then EMDE also has two residential complexes in Cinere under the names of Cinere Parkview and Graha Cinere, where the house units in the two complexes are sold at a more affordable price. For Cinere Parkview, most of the houses have been completed and ready for sale, while Graha Cinere is not yet developed (it is still a land bank).

Beyond Cinere, in 2002, the company built Bellagio Residence & Mansion, a complex of office buildings, apartments, condominiums, and a mall in Mega Kuningan Area, Jakarta. And the Bellagio project is also a great success. However, due to limited land in Mega Kuningan, the project is ultimately finished and can not be developed further.

The expansion continues. In 2005, EMDE came to Sentul, Bogor Regency, West Java Province, to build Vivo Sentul superblock. So far, the company already built the Galleria Mall & Kiosks, and is constructing the Vivo Walk shopping complex and Bizpark shophouses. If the projects are successful and sold well, in the coming years EMDE will also build shopping mall, hotel, apartment complex, and townhouses. At the site, EMDE already acquired an area of ​​200 hectares, so if all goes well, Sentul could be 'the next Cinere' in the next few years.

That’s all? Not yet, one more: In 2008, EMDE went to Karawaci, Tangerang City, Banten Province, to build The Habitat superblock, which contains student apartment towers, hotel, and apartments. Currently the student apartment towers are already completed and ready for sale, while the construction of hotels and apartments will follow in the next 1 – 2 years.

Ready for ‘Harvest’

Thus, in 2015 the company has three project locations in Cinere, Sentul, and Karawaci. But most importantly, at the three locations, some of the property are 'ready for harvest', aka already completed and ready to be marketed. Frankly, I often met with a property company on IDX which has an ambitious plan to develop the property in here and there, but the development is not yet started. The point here is that, even if construction runs smoothly, then the results (net profit) will be enjoyed in 2 – 3 years later. Because to build a lot of properties in a wide area, it would take a long time.

And for investors in the stock market, the principle is simple: As long as the company is not really posted a large net profit in its financial statements, then do not expect the shares to rise.

However, EMDE is different. Actually, in 2011, the company also only had plans to build this and that, but everything was on the paper only. But today, or three years later, most of these plans have been realized. The revenue and net income of EMDE itself continue to rise since 2011, until reached Rp26 billion (about US$ 2 million) for the first quarter of 2015, which reflects an annualized ROE of 17.2%.

And the management itself is targeting a revenue of Rp700 billion for this year, or more than doubled compared to 2014, because as already said before: In the near future the company will harvest great revenue from units of houses, apartments, kiosks, and mall leases which has been completed, be it in Cinere, Sentul, or Karawaci. If the target is reached, assuming the profit margin is maintained at 25% (EMDE profit margin is fairly large because the company's debt is relatively small), then the company’s net earnings will be Rp175 billion in the full year 2015, which reflects ROE of 30%. Well, sounds good eh?

Low Valuation of Shares

Apart from the possibility of such leap in profits (and because, in the end, a value investor should not buy shares just because of ‘prospects’), the most interesting part of the stock is its low valuation. Above already mentioned that at the price of Rp84 per share, the PBV of EMDE is only 0.5 times. And at the current price of Rp124, it reflects PBV of 0.7 times, and annualized PER of 3.9 times. The low valuation of the stock is because it is continue to fall since it was listing at a price of Rp250, in January 2011.

And first I was confused, why the stock dropped. But then I found the answer: At the end of April 2011, the company relased its first financial statements as a public company, for the period of first quarter of 2011. And at the statements, EMDE posted a net loss of Rp3 billion because of a decline in revenue, which was responded negatively by investors. At the end of 2011, EMDE only posted a profit of Rp3 billion for the whole year, or dropped compared to Rp24 billion in the previous year (2010). The decline was not because the company is in trouble or something, but just because EMDE, for the year, was out of property units for sale. While the next property units are still in the construction phase aka not ready for sale.

But still, the bad performance of the company causing its shares to went down shortly after the IPO. Entering 2012 to 2014, EMDE’ profits actually started to growing up. But because its ROE remains low (in 2014, EMDE’ ROE was only 7.5%, or far below ASRI et al), then the investor kept dumping the shares and consequently the price is sliding down until the valuation becomes unbelievably undervalued. So yeah, in this case we have just found another victim of 'drama queen' here. For those of you who do not understand what is the drama queen, please read the article here.

The good news, in this 2015, the company’s ROE seems to be better (already above 17%). And considering the factor of 'ready for harvest' above, this achievement should be increased further until the end of the year.

So yeah, what can I say more? This is our opportunity!

However, behind the opportunity there is always a risk factor. And the risk for EMDE is related to several legal problems that the management had been encountered. In 2012, the company sued for Rp50 billion by its former trustee, Charles Dulles Marpaung, because he was sacked unilaterally by the company. And currently EMDE is involved in land disputes with some parties related to land for Graha Cinere housing (and that’s why the housing is not yet built). There is no clarity about when this dispute would be completed. Other than that, in fact the property sector is began to show a trend of slowing down.

But beyond the legal issues above, I do not see any other problems (and luckily, Graha Cinere is only a small fraction of the overall development projects of the company). And about the slowing down of property sector, the government has started issuing policies that promote the sector, and the management of EMDE itself does not revise its sales target of Rp700 billion earlier. So let see if the company can meet its sales target or not, wherein if the target is reached, the stock will be flying high (and taking into account the experience of the company as a property developer for the past 35 years with an excellent and clean track record, then assuming that there is no force majeure event, the target is of course realistic).

But what if the company fail to achieve the target? Well, as long as the profits are still rising, the shares will have no reason to go down because the valuation is already very low (the fluctuations of JCI should not affect the stock movement because this EMDE illiquid. It will be liquid later if the price is already rise). So I think, EMDE is a very attractive investment not only because it offers opportunities of ‘leap’ in near future, but on the other hand the risk is also limited. So yeah, who says that a high gain investment must also be high risk?

PT Megapolitan Developments, Tbk (EMDE)

Rating of Performance in First Quarter 2015: A

Rating of Share Price on 124: AA

Disclosure: When this article was published, Avere Investama (Teguh Hidayat & Partners) is in a position of holding EMDE at an average purchase price of Rp97 per share. This position can change at any time without prior notice.

Any inquiries about investment in Indonesia Stock Market? Please send an email to teguh@averepartners.com.