Philippine Markets Newsletter

This real estate company’s determination during this pandemic enabled it to achieve a Uniform ROA that is twice as much as its as-reported

December 14, 2021

This real estate company is one of the many undeterred fighters during this pandemic, constantly pushing for improvements in its business operations. Despite the company’s sustained efforts, as-reported metrics make its performance look futile when in reality, the opposite holds true. 

Also below, Uniform Accounting Embedded Expectations Analysis and the Uniform Accounting Performance and Valuation Tearsheet for the company.

Philippine Markets Newsletter: 
Wednesday Uniform Earnings Tearsheets – Philippine-listed Focus
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One of the hardest-hit sectors during the pandemic is real estate. In the beginning, office spaces and foreigner-rented residential units suffered from the closing of the country’s borders and the exodus out of Metro Manila. Then with more restrictions, leisure activities halted, further putting pressure on property companies’ profitability.

Yet, real estate development remains to be one of the most lucrative industries from a global perspective. 

The world’s real estate industry managed to power through as its market size increased from a whopping $9.6 trillion in 2019 to $10.5 trillion in 2020. 

Most development initiatives across all countries are made up of infrastructure, buildings, and residential area plans. This shows it will take much more than a pandemic to pull this industry down. 

In the Philippines, real estate development accounts for 11.4% of the GDP. Among the local real estate corporations, Ayala Land, Inc. (ALI:PHL) holds the strongest revenue stream.

The company has a rich history as it practically developed the entirety of Makati City, which is the leading business district in the country, way back in the World War II era.

Since then, Ayala Land’s business grew by improving its property development capabilities, as well as venturing into other kinds of businesses.

However, due to the pandemic, Ayala Land struggled from the lockdowns and tight restrictions set forth by the government, particularly its hotels and resorts segment. This resulted in revenues decreasing by a massive 42% for this division.

Luckily, the corporation was able to offset this through the surge in office leasing revenues and sales reservations. Sales reservations alone have increased by 26% annually, accounting for P48.2 billion of the company’s revenue. 

Despite its overall 36% drop in revenue, Ayala Land still banks on its newly launched projects for more stable business segments, with which it invested around PHP 100 billion this 2021.

Its recently launched projects include Anvaya Cove S3 in Bataan, Bayview Heights in Misamis Oriental, Averdeen Estates Phase 1, and Southdale Settings in Nuvali, Laguna. 

On top of that, the company also capitalized on the expansion of Amaia Land Corp., its subsidiary that leans towards the more affordable side, catering to all types of individuals. The project’s first building, Aria, was reported to have sold out all its units thereby contributing greatly to the subsidiary’s performance. 

With more initiatives and projects lined up, Ayala Land is slated to come back stronger in the following months. However, as-reported data shows low profitability, even going below cost of capital levels, signifying low economic value generated for its shareholders since 2005. 

Uniform Accounting tells us that this is a misrepresentation of Ayala Land’s profitability. While it’s true that the company’s business struggled during the pandemic, Ayala’s Uniform ROA only fell to 4%, which is 2x better than what the as-reported figures show.

One of the said distortions stems from how Philippine Financial Reporting Standards (PFRS) classifies interest expense. 

According to PFRS, interest expense is an operating cash flow. In reality, interest expense represents the cost of debt and is rightfully a financing cash flow. As such, in Uniform Accounting, interest expense is added back to earnings.

Specifically, in 2020, Ayala Land recorded interest costs at PHP 12.3 billion. Adding back this expense because it is not an operating expense, along with many other necessary adjustments made by Valens, leads to a PHP 19.8 billion net income and a 4% Uniform ROA, higher than its PHP 8.7 billion as-reported net income and 2% as-reported ROA.

Ayala Land’s earning power is stronger than you think

As-reported metrics distort the market’s perception of the firm’s historical profitability. If you were to just look at as-reported ROA, you would think Ayala Land’s profitability has been weaker than real economic metrics have highlighted in the past sixteen years.

In reality, Ayala Land’s true profitability has actually been higher than as-reported ROA in recent years.

Uniform ROA expanded from 5% in 2005 to 11% levels in 2010-2011. Thereafter, Uniform ROA compressed to and stabilized at 8%-10% levels in 2019, before falling to a low of 4% in 2020.

Meanwhile, as-reported ROA ranged from 3%-6% levels through 2019, before declining to a low of 2% in 2020.

Ayala Land’s margins are weaker than you think

Trends in Uniform ROA have been primarily driven by Uniform earnings margin.

Uniform margins gradually expanded from 13% in 2008 to a high of 27% in 2019, before compressing to 21% in 2020.

Meanwhile, as-reported margins have slowly improved from 13% in 2008 to a high of 42% in 2019, before falling to 38% in 2020

At current valuations, markets are pricing in expectations for a continued decline in both Uniform margins and Uniform turns.

SUMMARY and Ayala Land, Inc. Tearsheet

As our Uniform Accounting tearsheet for Ayala Land, Inc. (ALI:PHL) highlights, the company trades at a Uniform P/E of 34.9x, above the global corporate average of 24.0x, but around its historical P/E of 34.5x.

High P/Es require high EPS growth to sustain them. In the case of Ayala Land, the company has recently shown an 83% Uniform EPS shrinkage.

Sell-side analysts provide stock and valuation recommendations that in general provide very poor guidance or insight. However, sell-side analysts’ near-term earnings forecasts tend to have relevant information.

We take sell-side forecasts for Philippine Financial Reporting Standards (PFRS) earnings and convert them to Uniform earnings forecasts. When we do this, Ayala Land’s sell-side analyst-driven forecast is to see Uniform earnings grow by 49% and 97% by 2021 and 2022, respectively.

Based on current stock market valuations, we can use earnings growth valuation metrics to back into the required growth rate to justify Ayala Land’s PHP 34.50 stock price. These are often referred to as market embedded expectations.

The company is currently being valued as if Uniform earnings were to grow 13% annually over the next three years. What sell-side analysts expect for Ayala Land’s earnings growth is above what the current stock market valuation requires through 2022.

However, the company’s earning power is below the long-run corporate average. Moreover, cash flows and cash on hand are also below total obligations—including debt maturities, capex maintenance, and dividends. Together, this signals a high dividend risk.

To conclude, Ayala Land’s Uniform earnings growth is above its peer averages, and also currently trades above its average peer valuations.

About the Philippine Markets Newsletter
“Wednesday Uniform Earnings Tearsheets – Philippine-listed Focus”

Some of the world’s greatest investors learned from the Father of Value Investing or have learned to follow his investment philosophy very closely. That pioneer of value investing is Professor Benjamin Graham. His followers:

Warren Buffett and Charles Munger of Berkshire Hathaway; Shelby C. Davis of Davis Funds; Marty Whitman of Third Avenue Value Fund; Jean-Marie Eveillard of First Eagle; Mitch Julis of Canyon Capital; just to name a few.

Each of these great investors studied security analysis and valuation, applying this methodology to manage their multi-billion dollar portfolios. They did this without relying on as-reported numbers. 

Uniform Adjusted Financial Reporting Standards (UAFRS or Uniform Accounting) is an answer to the many inconsistencies present in GAAP and IFRS, as well as in PFRS. 

Under IFRS, each company’s financial statements are rebuilt under a consistent set of rules, resulting in an apples-to-apples comparison. Resulting UAFRS-based earnings, assets, debts, cash flows from operations, investing, and financing, and other key elements become the basis for more reliable financial statement analysis. 

Every Wednesday, we focus on one Philippine-listed company that’s particularly interesting from a UAFRS vs as-reported standpoint. We highlight one adjustment that illustrates why the as-reported numbers are unreliable. 

This way, we gain a better understanding of the factors driving a particular stock’s returns, and whether or not the firm’s true profitability is reflected in its current valuations. 

Hope you’ve found this week’s Uniform Earnings Tearsheet on a Philippine company interesting and insightful. 

Stay tuned for next week’s Philippine company highlight!


Angelica Lim
Research Director
Philippine Markets Newsletter
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