Mandarin Oriental: Don't Lose Money
I wanted to compile my notes and seek feedback on Mandarin Oriental; a company I own indirectly through Jardine Matheson and an interesting prospect on its own.
While I don’t yet own the stock, my thesis boils down to two key points:
Mandarin owns the One Causeway Bay precinct which is likely worth more than the company’s current Enterprise Value ($2.4b) having recieved an offer of $3.8b for the site in 2017. For those unfamiliar, this site is being massively re-developed into retail and office- not a hotel as might be expected given the company.
Mandarin is transitioning to a capital light hotel management model by selling its owned hotels and maintaining management contracts with the purchasers.
Background
By way of brief introduction, Mandarin Oriental is a luxury hotel group with its roots in Hong Kong and Bangkok. Jardine originally bought the Causeway Bay site in question in 1841 and it would become the Excelsior Hotel.
Mandarin is globally recognisable today with a significant footprint throughout Asia, Europe, the US and the Middle East. Growth is healthy, with a long pipeline of 28 hotels and 16 residences launching in the the next five years- a significant boost to the current 38 hotels, nine residences and 23 exclusive homes already in operation. Importantly, these are pure management contracts with no building costs for Manadarin. An excellent, asset-light path to leverage the brand.
The stock trades on several exchanges but can be frustratingly illiquid. Despite a $2.2b market cap, the company’s main Singapore listing didn’t trade for most of last week. There is definitely room for inefficiency here.
Thinking about valuation
I will cut to the chase. I get to a sum-of-the-parts fair value of $6b.
This is comprised of:
One Causeway Bay at its 2017 offer price of $3.8b. This is where I’m most likely to be wrong and would appreciate any feedback. Commercial HK real estate got pretty frothy before the pandemic and is under pressure at present. The site is currently only held at $1.9b the balance sheet (valued off square footage) and will face some challenges, with several other mega projects to hit the rental market soon, including Hysan Development’s Caroline Hill.
Having said this, Mandarin has spent around $1b on the re-development and the result will be absolute, super-prime real estate. Looking at the plans, it seems reasonable for me to believe the completed project will be comfortably worth $3.8b+. While there is some excess capacity in the rental market may prove a great time to enter.
Management has previously said they will look to monetise the property after completion in 2025.
Owned Hotel real estate of $1.8b. Mandarin currently owns 13 of its hotel properties. Using the sale of its Paris site which will close this year (which valued the property at $1.65m per room) and the 2023 Revenue per Available Room (RevPAR) achieved at this hotel, I have collated a rough value of these holdings by comparing the RevPAR of the portfolio to the Paris hotel and taking a proportional value.
Similar recent sales of the MO Barcelona ($2m per room) and MO Jakarta ($320k per room in a related-party transaction with Astra) also helped for reference. Tokyo and Geneva are leasehold properties with expiries in 2040 and 2050, so I halved my estimate of their value. I believe these numbers are mostly conservative, for example it’s possible the New York stake is worth far more than my estimate, but I just comped it off the European properties to be safe.
And the hotel management unit worth $636m. I put a 12x EBITDA multiple on this segment’s 2023 result. This is a higher multiple than I would normally use for almost anything, but as noted above, this is a genuinely excellent business. Each new contract requires very little capital investment by Mandarin, simply the lending of its brand to the property.
This business should nearly double in the coming years on the existing pipeline alone. Below is just the Asian component of this as a taster.
Summing these three value drivers and subtracting net debt of $225m, we arrive at my $6b estimate, implying a P/NAV of .35x.
Given negligible debt and an apparent wide discount on quality assets, I believe Mandarin Oriental looks like a very resilient investment, hence the Buffettism in the title. Take care of the downside and the upside should work itself out.
But there is another element here too. Despite exposure to marked down HK property, MO trades in Singapore and has an extra layer of protection in the event of any future stand-offs the US/China/Taiwan sphere. While I believe this unlikely (and will hopefully write about it soon), it takes this risk mostly off the table.
So this is my current thinking. If anyone has a decent opinion on the valuation of One Causeway Bay I would love to hear it.
Best,
Guy
As always, this isn’t investment advice. Please do your own due diligence and seek professional advice if you’re unsure about your finances.
No real knowledge about One Causeway Bay. This article however does sum up most of the common known risks. https://www.mingtiandi.com/real-estate/projects/mandarin-oriental-preps-leasing-of-hong-kongs-one-causeway-bay/
Which are in my mind:
High vacancy (15.9% in Hong Kong, 12.5% in the neighborhood of One Causeway Bay, and now 7.4% for Hongkong Land).
Additional supply coming online (3.7M square feet of Grade A office space, 1.1M square feet Hysan project in the same neighborhood).
Rent declined 33.2% since the 2019 peak, and another decline is expected this year of 6-10%.
The trajectory of Hong Kong (not in the article), Hong Kong lost its special status. This means more serious competition from other Chinese Cities with plenty of real estate development.
Real estate development is naturally riskier than already developed real estate (development risk and cashflow further out into the future, and more uncertain). Given that HongKong Land trades at $7.55B market cap with $32B of shareholder funds and low leverage ($5.4B of net debt). I think looking for the right appraisal value for a Hong Kong real estate development is not worth your time. The uncertainties are just too high to come up with a precise number.
My guess is that the number will be between $3.5B and $0.5B. Depending on how conservative you want to be and how certain the money will flow back in the pocket of shareholders.
As part of Jardine Matheson it can be a nice bonus. If you have any insight to share into HongKong Land this would be greatly appreciated.
Thanks for an interesting idea, Guy!
I looked into it after reading your post and I tend to agree about the limited downside and potentially significant upside. I applied the following methodology for ballpark valuation estimate:
1. Own property (subsidiaries). I took the average of two methods: value per room based on precedent transactions and NOI/cap rate.
- I used only Paris and Jakarta since Barcelona looks like an outlier. Then I adjusted the value per room for RevPAR.
- I took their subsidiaries' revenue ex-Paris and assumed 70% Opex/Revenue ratio (didn't dig deep enough to check if this is a reasonable estimate for luxury hotels). Capitalized it at 10% (likely conservative cap rate).
$1.2bn EV.
2. Associates and JVs. I took their net income for 2022 (2023 net income was zero largely due to Singapore renovation for 6 months, according to the company) and put a 10x P/E on it.
$0.1bn EV.
3. Management business. 2023 net income * 15x P/E. Marriott trades at 24x, Hilton at 28x, so 15x seems conservative, especially given the pipeline.
$0.6bn EV.
4. One Causeway Bay. I looked up current rents in Causeway Bay area in RE broker reports. I used 60 HKD/sqft for offices and 818 HKD/sqft for commercial (not sure if the latter is adequate for this type of building, this is the rate for "high street retail" in Causeway Bay as per Cushman's Q1 2024 report). I applied above market average vacancy rates (20% for offices, 10% for commercial) and higher end of cap rates (5.0-5.25% as per CBRE). This gave me $1.9bn (surprisingly close to company's estimate of $2.0bn as of 31.12.2023; I hadn't seen their number before doing my valuation exercise). Then I applied a 30% discount to be on the safe side.
$1.3bn EV.
This gives me total EV of $3.2bn. Subtract remaining capex for Causeway Bay ($351mn), add back after-tax cash inflow from Paris sale ($177mn). Subtract $225mn net debt. We arrive at equity value of $2.8bn which is 33% above current market cap.
Normally I wouldn't consider an opportunity with such a limited upside, but in this case it may actually make sense because I believe my assumptions are mostly conservative and the downside is likely limited. The upside may come in the form of higher selling price for One Causeway Bay and growth of the hotel management business.
What I'm concerned about is capital allocation. What do you think is the likelihood of the company distributing cash to shareholders after the potential sale of Causeway Bay ? Given your knowledge of Jardine holding, do you think they would prefer to plow the cash back into this business or to use it in their other businesses?