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Edited Transcript of 1997.HK earnings conference call or presentation 7-Aug-18 10:59am GMT

Half Year 2018 Wharf Real Estate Investment Company Ltd Earnings Presentation

Jan 30, 2019 (Thomson StreetEvents) -- Edited Transcript of Wharf Real Estate Investment Company Ltd earnings conference call or presentation Tuesday, August 7, 2018 at 10:59:00am GMT

TEXT version of Transcript

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Corporate Participants

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* Angela Ng

Wharf Real Estate Investment Company Limited - IR Manager of Wharf Limited

* Tin Hoi Ng

Wharf Real Estate Investment Company Limited - Chairman & MD

* Yuk Fong Lee

Wharf Real Estate Investment Company Limited - Vice Chairman of the Board

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Conference Call Participants

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* Jeff Yau

DBS Vickers Research - Analyst

* Justin Kwok

Goldman Sachs Group Inc., Research Division - Executive Director

* Karl Choi

BofA Merrill Lynch, Research Division - Director

* Ken Yeung

Citigroup Inc, Research Division - Director

* Praveen Kumar Choudhary

Morgan Stanley, Research Division - MD

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Presentation

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Angela Ng, Wharf Real Estate Investment Company Limited - IR Manager of Wharf Limited [1]

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Good afternoon, everyone. A very warm welcome to Wharf REIC Interim Results Briefing. Now let me introduce the panel members to you. First, the gentlemen in the middle is Mr. Stephen Ng, Chairman and Managing Director; and the lady is Ms. Doreen Lee, Vice Chairman; and I'm Angela Ng, the Investor Relations Manager. So as usual, we will first start with our Chairman, who will deliver the opening remarks. I will then deliver the presentation of the interim results followed by Q&A session. And Doreen will be more than happy to answer your questions in relation to the investment properties.

So now let me pass the time to Chairman to deliver the opening remarks.

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Tin Hoi Ng, Wharf Real Estate Investment Company Limited - Chairman & MD [2]

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Thank you. Wharf REIC is a very simple company. We have 6 assets, primarily and the largest of which is Harbour City, which accounts for 2/3 or more than 2/3 of the company's balance sheet. So we actually don't have a very long presentation because it's such a simple company with simple assets, simple balance sheet, simple P&L. Everything is simple. The tag line of today's announcement is record retail sales drove robust performance. That's exactly what happened in the first half of this year. What happened was, if we focus on Harbour City as an example, we registered a very encouraging year-on-year sales growth in the first half of this year to set a new record for Harbour City, the mall. In the first quarter, total retail sales in the mall approached HKD 10 billion, and that was more or less repeated in the second quarter. For the first half as a whole, Harbour City delivered HKD 18.6 billion of retail sales, and that was more than -- 30% more than over a year ago.

For our entire portfolio, our total retail sales in the first half of this year was almost HKD 25 billion, which accounted for 9.9% of Hong Kong market of just under HKD 250 billion. So that sets the backdrop for the company's performance in the first half of this year. A lot of it was because of the favorable currency, the Hong Kong dollar, the impact to the U.S. dollar and the U.S. dollar was for most parts of the first half of this year, weak. Of course, that has changed since a couple of months ago. And U.S. dollar is now a lot stronger. And therefore, the Hong Kong dollar is a lot stronger. We don't know what that would mean precisely for the second half of this year. We only have early results from our tenants for the month of July. And Doreen will be pleased to talk a little bit more about that later on.

And with that, I'd pass the ball back to Angela to take you through the presentation and then we can do Q&A after that. Thank you.

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Angela Ng, Wharf Real Estate Investment Company Limited - IR Manager of Wharf Limited [3]

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Thank you, Chairman. So the theme this time as said is record retail sales drove robust performance. The recovery of the retail market and the group's retail expertise and active asset management have been driving the performance to a new record as witnessed by the key figures in the following slide. So Wharf REIC is pure IP play in Hong Kong. The 6 core assets are all located at prime locations comprising the 3 iconic malls, namely, Harbour City, Times Square, Plaza Hollywood and the Central Portfolio, namely, Crawford House, Wheelock House and The Murray, Hong Kong. Most of the properties enjoy 999-year land lease, which is rare in Hong Kong.

So during the first half the year, total revenue of the Hong Kong IP and Hotel increased by 9.8% to a new record of $7.9 billion. The 3 iconic malls took up 73% of the Hong Kong IP revenue of the group. The robust retail sales grow at a rate of 31.4% to set a new record of $24.6 billion. That represent 9.9% of total Hong Kong retail sales during the period.

Harbour City alone already represents 7.5% of the total market share and revenue at Harbour City grow by 11% contributing to 63% of the group's revenue and 72% of operating profit on the back of an operating profit margin of 89%. Occupancy cost at Harbour City and Times Square improved to 80.2% and 24.5%, respectively. And on the pie chart here shows the revenue splits of our Hong Kong IP revenue. Retail took up 73% of the revenue, while office took up 25%. Valuation of the 5 core Hong Kong IP was $255 billion, of which retail properties account for $151 billion.

And then moving on to the next slide. The chart here shows that the retail market is back to the peak level in 2013 and '14. In the first half of the year, Hong Kong retail sales grow by 30.4% to $247.8 billion. Also, the total tourist arrival grow by 10%. Tourist from Mainlander grow by 13.4%. Harbour City has definitely achieved a robust performance during the first half of the year. And in fact, Harbour City has also been demonstrating strong resilience during market downturns.

Total retail revenue of Harbour City witnessed positive growth all the way, despite the volatility of the Hong Kong retail market over the past decade. The 10-year CAGR for Harbour City total retail revenue growth was 14% versus Hong Kong retail sales growth of 6.1%.

Looking to the second half of the year. There are potential challenges to the market, including the trade tension between U.S. and China, Renminbi depreciation, global currency movements, reduction of import tariff in China and high comparison base in the second half. We will closely monitor the market conditions.

And moving on to our financial highlights, inclusive of a net IP revaluation surplus, group profit increased by 108% to $10.2 billion. Revenue declined by 15% and operating profit by 10%, mainly due to the orderly exit from Development Properties by the group's listed subsidiary HCDL.

Having said that, core profit increased by 8% to $5 billion. IP valuation surplus was $5.2 billion. Valuation of Hong Kong IP and Hotel amount to $271 billion. The first interim dividend of $1.05 per share will be paid.

And in the following slides, I will give a close up to the group's key properties, namely, Harbour City, Times Square, Central Portfolio and Plaza Hollywood and I will also walk through the financial management.

Now let's focus on the performance of Harbour City. Harbour City is one of the most productive malls in the world in terms of retail sales. It achieved a retail sales growth of 36.1% to a new record of $18.6 billion or $2,700 per square foot per month. Harbour City in the international destination retail landmark and prime showcase to the Mainland market for the world's best brands. Retail revenue at Harbour City increased by 15% to $3.7 billion. It is worth noting that the retail growth rate of Harbour City has significantly outperformed the market by over 22.7 percentage points, surpassing the previous peak in all time and driven by the solid rental reversions at both retail and office segment, revenue grow by 11% to $5.2 billion. In continuation of active asset management, one block of the Gateway service apartment is closed for conversions to office for completion by mid-next year.

And moving on to the Ocean Terminal extension, it has quickly become the new icon with Foster-designed Terminal Tip. This value-creation investment is successfully drawing shopper traffic and enhancing Ocean Terminal's destination. It also houses 11 exciting dining outlets, of which 7 are opened and all debuts in Hong Kong.

In addition, the 3 Canton Road hotels in Harbour City enjoyed 4 consecutive outstanding quarters. In the first half of the year, revenue grow by 16.8%, gross operating profit by 32.1% and the overall occupancy rate was over 94%. Moving on to our second iconic mall, Times Square. Times Square is a shopping and lifestyle landmark in Causeway Bay. Housing at cluster of luxury brands, the tenant mix optimization done in the first half is providing upside and enhancing the most competitiveness. Retail sales increased by 21.6% to $4.6 billion. In the midst of a major re-tenanting exercise, retail revenue of Times Square still maintained at $1 billion.

Total revenue in both retail and office was maintained at $1.4 billion. And then, let's focus on the Central Portfolio comprising of Wheelock House, Crawford House and The Murray, Hong Kong. Wheelock House is a valuable commercial property in Ground Zero area. Office rental reversion increased by 28% during the first half. Crawford House is a premium commercial property with diverse tenant base and also home to Zara's flagship in Hong Kong. Office rental reversion was 14%. And then switching to The Murray, Hong Kong under our Niccolo brand. This is an award-winning iconic hotel in Central, which successfully launched in January this year. This is the group's long-term strategic investment being part of the government's conserving central initiative. The Murray, Hong Kong is a rare asset in strategic location.

Full operation began this month. It has been awarded by the prestigious Condé Nast Traveller and National Geographic Traveller. Then moving on to Plaza Hollywood. It is atop Diamond Hill MTR Station, which is also a future interchange station for the Shatin to Central Link. First phase of the link is expected to complete next year, which would further enhance Plaza Hollywood's geographical advantage. During the first half, total retail sales increased by 9.5% to $1.3 billion and rental revenue was $290 million. Moving on to our financial management. The group maintained a high level of financial discipline and flexibility. Own net debt was $40 billion, declined by $2.8 billion. Gearing ratio was 18.7%. Average interest cost was 1.5%. It is worth noting that The Moody's has assigned a first time A2 Issuer rating to the company with stable outlook.

And moving on to the corporate social responsibility. Wharf REIC is a constituent stock of Hang Seng Corporate Sustainability Index. Our in-house program Wharf Architectural Design Internship continued to nurture young local talents and a total of 24 architectural postgraduates have benefited from the program. Meanwhile, Wharf Art Scholarship has also provided scholarship for 12 students. In addition, the signature project, Project WeCan is currently linking 53 schools and benefit over 50,000 students. The network is expanding to cover 76 schools by September this year.

So that concludes my presentation. Now let me pass the time to our Chairman, who will deliver the closing remarks before the Q&A section.

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Tin Hoi Ng, Wharf Real Estate Investment Company Limited - Chairman & MD [4]

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Thank you, Angela. All in all also, we had a rewarding first half. The second half is only just started. So I can't predict what the second half may bring. What the Board decided to do is to follow the distribution guideline, which was announced at the time of the IPO of Wharf REIC and that is we would be paying 65% of our realized recurrent IP core earnings, which worked out to $1.05 for the first half of this year. And assuming the core profit from a Hong Kong IP, portfolio continues to be maintained and hopefully grow. We hope to be able to continue to pay at a similar rate in the coming halfs, but everything depends on how we eventually perform from quarter-to-quarter. At this point in time, I don't see any reason why there would be major concerns. There are uncertainties. But as I was trying to say at the beginning of this presentation, so far we feel reasonably comfortable about July. And in terms of body count, August -- first week of August continues to be strong whether or not the body count converts into retail sales is something that we need to be watching.

So with that, I'd like to open the floor to questions.

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Questions and Answers

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Angela Ng, Wharf Real Estate Investment Company Limited - IR Manager of Wharf Limited [1]

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(Operator Instructions)

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Karl Choi, BofA Merrill Lynch, Research Division - Director [2]

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Karl Choi from Merrill Lynch. Just a couple of questions. First, I want to drill down a little bit into what Stephen mentioned or may be Doreen can give a little bit more color about the July retail tenant sales performance? And I did a quick math, it looks like maybe turnover rent was around 13% to 14% of total retail rental income. Can you give us a breakdown of what the percentage was over at the Harbour City versus Times Square in terms of turnover rent? And lastly is on the debt. Can you give us a little bit more about what your expectation for fixing some of your debt because the average interest rate was obviously very low in the first half?

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Tin Hoi Ng, Wharf Real Estate Investment Company Limited - Chairman & MD [3]

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Doreen?

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Yuk Fong Lee, Wharf Real Estate Investment Company Limited - Vice Chairman of the Board [4]

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July sales up to to-date, we get only a portion of the sales report from our retail tenants, probably too early to say. But from what we've seen, our tenants -- our retail tenants are still enjoying growth. So ranging from high single-digit to double-digit growth, despite the FIFA World Cup and the looming trade war and the weaker Hong Kong dollars -- stronger Hong Kong dollars, sorry. Stronger Hong Kong dollars. So still it's a bit too early to say, but early signs saying that, it shouldn't be too bad in July.

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Tin Hoi Ng, Wharf Real Estate Investment Company Limited - Chairman & MD [5]

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Debt. I guess, the question is floating versus fixed. Is that what it is? Okay. Right now very little of our debt is in fixed. We contracted some fixed rates. For instance, we issued a bond and so on and so forth. But typically what we have been doing is to swap fixed rate into floating and that strategy has so far worked for us. We are not in a hurry to get back into fixed rate. We think floating in the next few quarters would still work out to the advantage of the borrower. So we are likely to stay in floating for at least a few more quarters.

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Angela Ng, Wharf Real Estate Investment Company Limited - IR Manager of Wharf Limited [6]

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Next question. (Operator Instructions)

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Ken Yeung, Citigroup Inc, Research Division - Director [7]

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Citi, Ken Yeung. So just a follow up on your July retail sales. Since that you're telling is a high single-digit to a double-digit, how is the deceleration rate versus, let's say, in terms of the versus the last quarter, which we used, is still more than 30% for Harbour City?

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Yuk Fong Lee, Wharf Real Estate Investment Company Limited - Vice Chairman of the Board [8]

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That will be difficult to repeat. Because first of all, if you look back into our sales records, since last -- the second half of 2017, actually Harbour City sales started to rise and perform better than market over Hong Kong market. So which means it's from a higher base for comparison. Whereas, first half, we all beaten as -- in a simpler way as the rest of the Hong Kong market. But second half, we've seen Harbour City's performance is slightly better than the overall Hong Kong market, which means we have a more higher sort of a benchmark than the rest of the -- than the first half. So we will have to work harder to reach that -- we'll have to work extremely hard to reach the 30%. That's probably difficult to repeat.

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Tin Hoi Ng, Wharf Real Estate Investment Company Limited - Chairman & MD [9]

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To clarify. What Doreen said -- what she said about single-digit growth to double-digit, that was referring to some tenants reporting single-digit and other tenants reporting double digit...

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Yuk Fong Lee, Wharf Real Estate Investment Company Limited - Vice Chairman of the Board [10]

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Very high double digits...

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Tin Hoi Ng, Wharf Real Estate Investment Company Limited - Chairman & MD [11]

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Right. That is not to say -- she is not predicting a range between 9% and for instance 12%, that is not what she is saying. Let me make that very clear. In fact, based on what that the -- the proportion of tenants who have reported so far, I think we're expecting a good double-digit growth.

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Ken Yeung, Citigroup Inc, Research Division - Director [12]

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Another follow-up questions on your turnover base rent. You got 18% for Harbour City. Do you see that, that kind of ratio are likely to drop when you're averaging the full year basically because the base is already higher? And secondly, we are likely to have a better first half versus the second half?

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Yuk Fong Lee, Wharf Real Estate Investment Company Limited - Vice Chairman of the Board [13]

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I think the percentage rent performance will continue to do well, as long as business is good. It's an indication of how much business you're doing. So we're doing whatever we can to draw a bigger crowd from other sectors rather than just Mainland tourists -- Mainland Chinese tourists. We go to India. We go to Philippines, Indonesia, South Korea, anywhere to increase our client base. I'm quite confident that it should be okay. I mean, whether it would remain 18.3% or slightly more, let's see by end of the year hopefully we'll give you a pleasant surprise.

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Justin Kwok, Goldman Sachs Group Inc., Research Division - Executive Director [14]

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Justin Kwok with Goldman. Looking at the Times Square, you have these revenue from retail pretty much flat for a while. I know you're doing some AEIs or the tenant reshuffling exercise. So what exactly you want to achieve there? What are you aiming for? And when do you see that would be some uptick in this number, because I guess you -- the -- from the turnover rental proportion or from the retail sales proportion, it seems to be lagging for a while. So should we expect some uptick or meaningful uptick when you have finished this exercise?

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Tin Hoi Ng, Wharf Real Estate Investment Company Limited - Chairman & MD [15]

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We hope so. And...

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Yuk Fong Lee, Wharf Real Estate Investment Company Limited - Vice Chairman of the Board [16]

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We hope so.

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Tin Hoi Ng, Wharf Real Estate Investment Company Limited - Chairman & MD [17]

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I mean, the first sign is actually retail sales. If retail sales is good then that would give us more margin for rental adjustment. And retail sales in the first half at Times Square grew by 22%, 23% over a year ago. So that's -- as one of Angela's slide -- slides indicate. The occupancy cost has rapidly improved at Times Square. And if it continues to improve, that would give the landlord more bargaining power in terms of getting high rents. It is now down to about 20% occupancy cost, 20.5%. It was 25%. When it was 25%, there would have been limited scope for rental adjustment. But as it gets down to 20-ish percent and we're beginning to get into different zone. So there's no question retail sales is what we need or growth in retail sales and we seem to be getting some interesting numbers.

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Yuk Fong Lee, Wharf Real Estate Investment Company Limited - Vice Chairman of the Board [18]

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Yes, we're continuously bringing in some new tenants, which we hope that can sort of enhance our sales volume.

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Tin Hoi Ng, Wharf Real Estate Investment Company Limited - Chairman & MD [19]

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Yes. And there is a time lag between retail sales and rental enhancement.

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Praveen Kumar Choudhary, Morgan Stanley, Research Division - MD [20]

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Praveen from Morgan Stanley. Two questions for me. First one for Doreen. Would you remember on what percentage of GFA was either down year-over-year in case of Times Square because of asset enhancement as well as Harbour City, what percentage of GFA was added because of the Ocean Terminal? Trying to understand what percentage growth coming from GFA and not because of the just rate increase?

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Yuk Fong Lee, Wharf Real Estate Investment Company Limited - Vice Chairman of the Board [21]

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Times what, GFA down?

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Praveen Kumar Choudhary, Morgan Stanley, Research Division - MD [22]

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I'm just asking if there was...

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Tin Hoi Ng, Wharf Real Estate Investment Company Limited - Chairman & MD [23]

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You're referring to sales per square foot?

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Praveen Kumar Choudhary, Morgan Stanley, Research Division - MD [24]

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Right.

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Tin Hoi Ng, Wharf Real Estate Investment Company Limited - Chairman & MD [25]

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Okay. All right.

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Praveen Kumar Choudhary, Morgan Stanley, Research Division - MD [26]

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I'm just -- yes, exactly.

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Yuk Fong Lee, Wharf Real Estate Investment Company Limited - Vice Chairman of the Board [27]

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For Harbour City, we...

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Praveen Kumar Choudhary, Morgan Stanley, Research Division - MD [28]

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Or their rental per square, if I may say.

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Yuk Fong Lee, Wharf Real Estate Investment Company Limited - Vice Chairman of the Board [29]

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Rental per square foot?

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Praveen Kumar Choudhary, Morgan Stanley, Research Division - MD [30]

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Because your rental is up in Harbour City by, let's say, 15%. I'm trying to understand is it because of 2% GFA increase Ocean Terminal and 13% actually rental per square feet?

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Yuk Fong Lee, Wharf Real Estate Investment Company Limited - Vice Chairman of the Board [31]

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I think the Ocean Terminal, if you see, mostly -- most of this leases in Ocean Terminals are restaurant space. You can't -- you don't expect to collect gold from restaurants. So that impact on the overall rental is very minimum. It's very minimum.

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Praveen Kumar Choudhary, Morgan Stanley, Research Division - MD [32]

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Okay. In both the cases? Okay. And the second question I have was for hotel. So Murray had a loss, which we expect obviously early on. Just trying to understand, how should we think about the time horizon? When do we expect that to turn positive?

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Tin Hoi Ng, Wharf Real Estate Investment Company Limited - Chairman & MD [33]

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Okay. The Murray is now fully open. We obtained our last license last week and it was the license for the swimming pool. So we're preparing the swimming pool for opening in a week's time or something. Until the swimming pool is licensed and until it's open, it was -- we were not able to sell it as a full hotel, full-service hotel. So with that, we will -- our next challenge is to embark on converting the very good reputation we have been able to build up in the last 6 to 9 months into sales. We did very well in terms of awards and word-of-mouth and so on and so forth. But sales in the first 6 months of the year during the soft opening period was behind the competitive set. As I said, our next challenge is to build that sales in the third quarter, the remainder of this third quarter and in the fourth quarter leading into next year. To put things into perspective, the -- because it is a hotel property, the land and building cost, which come up to somewhere in the range of HKD 8 billion, is depreciated over the remaining life of the land lease. The land lease is 50 years in duration, and we have already used more than 4 years of it. So in between when depreciation first started and the end of the land lease there is about 46 years. So roughly the depreciation of land and building alone is somewhere in the range of $160 million -- $150 million, $160 million a year. That's how much operating profit we need to make for it to report a profit and we're certainly not making that much operating profit in the first year. Hopefully by next year, it's first full year of full operation, we'll come up to that number or better by which time hopefully we would be able to report a contribution to the bottom line. But of course, our horizon is not 1 year or 2 years, it's much longer. But because of the accounting policy, we do have to depreciate the $8 billion over the 46 years, unfortunately. Thank you.

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Angela Ng, Wharf Real Estate Investment Company Limited - IR Manager of Wharf Limited [34]

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Thank you. Any more questions?

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Jeff Yau, DBS Vickers Research - Analyst [35]

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Jeff Yau from DBS. Is there an update on the percentage on the disposal of the China asset?

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Tin Hoi Ng, Wharf Real Estate Investment Company Limited - Chairman & MD [36]

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Okay. Exit from Harbour Center's China assets, there are really 3 assets. One, we have a joint venture, an office joint venture in Shanghai with Vanca. We own 27% of it. That's a DP project and Vanca is the project manager. And we booked a -- some transactions in the first half of this year. So it's a DP project they will continue to set it. The second asset is a hotel in Zhengzhou. We have not made a lot of progress yet on finding a buyer for the hotel in Zhengzhou, but efforts are continuing. The third asset is a project under development in Suzhou, called Suzhou IFS. And in Suzhou IFS, there are 3 parts. There are -- there is a residential portion, there is a hotel portion, then there is an office portion. Parts of it will be sold as DP and parts of it under the terms of the lease, we need to keep for a period, which we will hold on as IP. However, we can sell the company that owns the asset, the IP asset. Construction is still underway and the first phase will not be complete until next year. So the DP portion we would probably start to sell in the second half.

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Angela Ng, Wharf Real Estate Investment Company Limited - IR Manager of Wharf Limited [37]

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Any more questions?

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Tin Hoi Ng, Wharf Real Estate Investment Company Limited - Chairman & MD [38]

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Really very few assets. I can name the assets and count with 2 hands.

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Angela Ng, Wharf Real Estate Investment Company Limited - IR Manager of Wharf Limited [39]

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So if there is no question, I think this is the end of the briefing. Thank you very much for joining us today.

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Tin Hoi Ng, Wharf Real Estate Investment Company Limited - Chairman & MD [40]

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Thank you.

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Yuk Fong Lee, Wharf Real Estate Investment Company Limited - Vice Chairman of the Board [41]

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Thank you.