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Is Ho Bee’s Shift to a Rental Income Model Great News for Investors?

Ho Bee Land Ltd (SGX: H13) has property investments and developments in Singapore, Australia, China, the UK and Germany. Its portfolio covers many residential and high-end commercial and industrial properties. Ho Bee is the developer of luxury homes in the exclusive residential enclave of Sentosa Cove, and also has investment properties in Singapore and London.

As investors may be aware, property developers usually display “lumpy” revenue and profits as they follow a development property model of revenue recognition. This means that revenue and related costs can only be recognised upon completion of construction. During the construction period, the company books no revenue from the sale of units within the property but instead incurs expenses relating to selling and marketing, as well as administrative expenses. Some examples of developers with such a business model include real estate giants CapitaLand Limited (SGX: C31) and City Developments Limited (SGX: C09).

The slow shift to a rental model

Ho Bee has been transitioning to a rental model for the last few years to avoid the lumpiness associated with development properties. The group still has a development arm that builds and sells residential property, but it has been increasingly building up its leasehold property portfolio in the UK through opportunistic acquisitions.

For fiscal year 2018, rental income saw a 22% year-on-year rise to S$179.6 million. The growth was more than ten times higher than its revenue from the sale of development properties of S$17.2 million. For Q1 2019, rental income saw a healthy 35.6% year-on-year rise to S$51.2 million. If annualised, this means that FY 2019 should see the total rental income of around S$204.8 million, which is a 14% year-on-year increase from FY 2018.

Stable, recurring income

The rationale for the shift to rental income is that such income is more stable and recurring as compared to a development property model. Ho Bee’s strategy is similar to what real estate investment trusts (REITs) do -– build up a portfolio of income-generating property assets with strong tenants to receive a steady stream of rental income.

Management is savvy enough to purchase quality assets in the UK with good rental yields of 3% to 4%, and over time, has managed to build up a strong portfolio of stable and predictable income-generating assets.

More of a good thing coming up?

Investors may look forward to more of a good thing coming up, as Ho Bee’s strategy continues to emphasise a recurring rental income model. With more stability and predictability, the group also becomes easier to value as investors need only apply a capitalisation rate to the rental income to derive the value of its properties.

Ho Bee’s total-debt-to-equity ratio stands at 0.73 times as of 31 March 2019, which is fair by industry standards. The group continues to generate very healthy free cash flows and for FY 2018, paid a total dividend of 10 Singapore cents (comprising a final dividend of 8 Singapore cents and a special dividend of 2 Singapore cents). Its trailing dividend yield is 4.1% at a share price of S$2.44 (time of writing).

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. The Motley Fool Singapore has recommended the shares of CapitaLand Limited and City Developments Limited. Motley Fool Singapore contributor Royston Yang does not own shares in any of the companies mentioned.