[This Week's Real Estate] As House Prices Soar, HDC Hyundai Development Company Stock Also Rises... Up 86% This Year

Riding the Recovery of the Seoul Metropolitan Housing Market
Differentiated Profitability through In-House Projects and Improved Cost Ratios
Regret over Litigation Risks and Sluggish Urban Redevelopment Projects

Editor's NoteDear individual investors dreaming of successful investments. How well do you know the stocks you buy with your own money? In the unrefined and chaotic online environment filled with all kinds of information, Asia Economy aims to be your hands and feet, eyes and ears, delivering accurate information about companies. Each week, we focus on companies that rank high in stock inquiries by the financial information provider FnGuide, providing everything from basic information to analyses of related companies such as partners, clients, and investors. We will explain companies' financial conditions, performance status, and future value in an easy-to-understand manner. We meet you every week under the name of "This Week's Stocks of Interest," or so-called ‘This Week’s Key Stocks.’

As the domestic real estate market begins to recover centered around the Seoul metropolitan area, there is a construction company boasting overwhelming stock price returns. It is HDC Hyundai Development Company, famous for its apartment brand 'IPARK.' As of the 2nd, its stock price has risen 86.49% compared to the beginning of the year. It nearly doubled from 14,210 KRW to 26,500 KRW. Among the so-called 'Top 10 Construction Companies,' HDC Hyundai Development Company is the only one with a rise exceeding 50%. Even across the entire KOSPI market, there are fewer than 20 stocks that have risen more than HDC Hyundai Development Company.

The securities industry is also raising target prices one after another. Since August, six securities firms that have issued reports on HDC Hyundai Development Company have all set target prices above 30,000 KRW. Many consider it the top preferred stock in the construction sector. KB Securities said, "It remains the sector's top preferred stock and is recognized for its potential to benefit differentially amid improving market conditions," while Shinhan Investment Corp. stated, "We maintain our top preferred stock opinion and expect earnings to be revised upward quickly as market conditions change." Although the stock price has nearly doubled since the beginning of the year, there is still room for growth.

The 'Three-Pronged Harmony' of Housing, Metropolitan Area, and In-House Projects

The reason behind the 'rosy outlook' lies in the recently stirring real estate market in Seoul and the metropolitan area. Housing prices in the metropolitan area have continued a 12-week consecutive rally until the last week of last month, with new record-high complexes appearing every week. Although the warmth has not yet spread to other regions, it is certain that a favorable wind is blowing in the metropolitan area alone.

HDC Hyundai Development Company is attracting attention because it has a higher proportion of housing projects compared to other construction companies, and among those, a high proportion in the currently hottest metropolitan area. Bae Se-ho, a researcher at iM Securities, said, "Looking at the proportion of construction starts by region, the metropolitan area accounts for 58%, which is very high." Jang Moon-jun and Kang Min-chang, researchers at KB Securities, said, "Because of the high housing exposure and large proportion of in-house projects, it has historically outperformed other companies during construction stock price rallies." In other words, HDC Hyundai Development Company is the company most strongly coupled with rising housing prices. When the real estate upcycle arrived in 2015, HDC Hyundai Development Company's market capitalization reached about 6 trillion KRW, making it the 'leader' in construction at that time.

Housing projects in construction companies are broadly classified into in-house projects and outsourced projects. In-house projects refer to cases where the construction company handles both construction and development. They are commonly called 'developers.' Jo Jeong-hyun, a researcher at IBK Investment & Securities, said, "If we look only at in-house projects, the metropolitan area accounts for 80-90%," adding, "It is a company that can fully benefit from the rebound in sales prices." The Gwangwoon University station area, Yongsan Railroad Hospital site, Gongneung station area, and Uijeongbu mixed-use complex are all in-house projects of HDC Hyundai Development Company. Especially, the Gwangwoon University station area project, which will start in November, is expected to be a 'prime asset' generating around 5 trillion KRW in sales over the next several years. Operating profit for next year, when this project will be fully recognized as sales, is expected to reach around 400 billion KRW.

Industry-Low Cost Ratio... Litigation Risk Remains a Burden

HDC Hyundai Development Company Headquarters Building
Photo by HDC Hyundai Development Company

According to HDC Hyundai Development Company's semi-annual report, sales in the first half were 2.0425 trillion KRW, and operating profit was 95.4 billion KRW. In the same period in 2023, sales were 2.008 trillion KRW, and operating profit was 55.8 billion KRW. While sales were similar, operating profit rose by 71%. The operating profit margin of 4.6% is the highest among large construction companies. The secret lies in the 'cost ratio.' Among the top 10 construction companies, excluding Samsung C&T's construction division which does not separately disclose cost of sales, HDC Hyundai Development Company recorded the second-lowest cost ratio in the first half at 90.4%. The cost of sales ratio is the proportion of cost of sales to total sales. A lower ratio means better profitability.

Bae Se-ho, a researcher at iM Securities, said, "It is the company expected to improve its cost ratio the fastest compared to competitors," adding, "One reason is the low construction area started in 2021-2022 when construction costs surged." The years 2021-2022 were when HDC Hyundai Development Company was involved in consecutive building collapse accidents in Gwangju (Hakdong and Hwajeong-dong collapse accidents). Jo Jeong-hyun, a researcher at IBK Investment & Securities, said, "Regarding new orders in 2022, which was a major cause of the high cost ratio, the company recorded lower volumes compared to others, thus avoiding the risk." For now, this has become an unexpected blessing in disguise. Right after the disaster, new orders plummeted to about a quarter of the previous level. Also, construction costs have passed their peak and are showing signs of decline. Prices of raw materials such as rebar and bituminous coal, which had soared, are stabilizing.

Of course, the aftermath of the accidents has not completely disappeared. Litigation risk remains. Kim Sun-mi, a researcher at Shinhan Investment Corp., said, "Two construction accidents are currently under litigation, but since the subcontractors bear a high proportion of the fault, it is unlikely to lead to severe sanctions," adding, "It is expected to take time until the verdict is finalized." In the worst case, the company could face an eight-month business suspension due to poor construction. The lawsuit with Asiana Airlines worth 250 billion KRW is also ongoing. After being selected as the preferred bidder for Asiana Airlines' sale in 2019, HDC Hyundai Development Company paid a performance bond, but Asiana Airlines notified the termination of the M&A contract. The airline claims there was no intention to acquire, while HDC Hyundai Development Company argues that irregularities occurred during the re-inspection request and demands the return of the performance bond.

Weak Urban Redevelopment Business, Interest Rate Cuts Are a Positive Factor

Perspective View of Gwangwoon University Station Area Development Project

The weak performance in the urban redevelopment business is also a regrettable aspect. Looking at the annual new orders for urban redevelopment projects by HDC Hyundai Development Company, it rose from 690 billion KRW in 2020 to 1.5 trillion KRW in 2021, then dropped to 1.03 trillion KRW in 2022, and last year secured only one construction right worth 179.4 billion KRW. Coincidentally, the decline began after the accidents damaged the company's image. Urban redevelopment projects select construction companies through votes by the project site’s association members. Conversely, if the company secures many new orders in the currently weak urban redevelopment sector, it could boost performance.

The possibility that authorities may intervene due to the relentless rise in housing prices is also a threat factor. The Ministry of Land, Infrastructure and Transport’s ‘8·8 Housing Supply Plan,’ which announced large-scale supply mainly in the metropolitan area, is a representative example. However, Jang Yoon-seok, a researcher at Yuanta Securities, said, "There are limits to how quickly government policies, including the 8·8 real estate plan, can immediately resolve supply shortages," adding, "Preference for metropolitan area real estate is expected to continue in the short term, and it is time to focus on companies with order-taking capabilities in the metropolitan area."

Although project financing (PF) risks remain across the construction industry, HDC Hyundai Development Company is considered to be almost unaffected, which is a positive factor. The contingent liabilities from PF for subcontracted projects decreased from 2.7 trillion KRW at the end of 2021 to 1.6 trillion KRW at the end of the second quarter. Especially excluding redevelopment projects, PF contingent liabilities are managed very stably at 350.1 billion KRW. For these reasons, HDC Hyundai Development Company received credit rating upgrades from all three major domestic credit rating agencies (Korea Ratings, Korea Investors Service, and NICE Investors Service) in the first half of this year. Furthermore, with forecasts that the U.S. will begin cutting interest rates from September, the construction sector is expected to benefit significantly from reduced financial costs, making it a representative beneficiary of interest rate cuts.