Country Garden Services Margin Misses, Though 1H Results Resilient in Weak Market Conditions

No-moat Country Garden Services, or CGS’, first-half results were below our expectations on gross margin miss. Notably, the core property management services were dragged by the effects of mergers and acquisitions, and nonproperty owners value-added services, or NPVAS, saw a shift to lower-margin services. Despite the margin miss, significant top-line growth from the increased scale of the company’s operations more than doubled core property management services revenue and overall revenue by 73.5% year on year, and in turn core net earnings for the period rose by 30.5% year on year. Nonetheless, we reduce our fair value estimate to HKD 61 from HKD 73 per share, after lowering gross margin by 2.3 percentage points to 4.1 percentage points during the forecast period and adjusting for a higher share base. With the lower gross margin assumption, we also lowered our net earnings projections in 2022 and 2023 by 19% and 17%, respectively. CGS' share price has been sold down significantly, in contrast to its resilient operating performance. This is on market concerns of negative contagion from a related developer under challenging market conditions as a private developer with significant lower-tier market exposure. However, given the related developer’s recent funding guaranteed by the government—validating it as one of the stronger players in the market to be earmarked for policy support—we view the market concerns and selldown as overdone and the stock as very undervalued.