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Morningstar | Shimao Property's operation is turning around but lagging peers.

Shimao Property saw slower contract sales growth than its peers from 2012 to 2016. During the latest easing cycle, starting in late 2015, most large developers registered growth well above 30%, while Shimao saw a paltry 2%. Its gross margin also declined, dropping below 30% in recent years. The slow growth was attributed to the company’s strategy of focusing on destocking rather than expansion. In 2017, Shimao returned to growth mode with a 48% year-on-year increase in contract sales, and gross margin rebounded to 30%. Management believes the trend should continue, as the company has completed its operational turnaround and has begun to shift its focus to higher-tier cities. We believe contract sales growth largely hinges on government policies and the consolidation trend in the industry. With the end of the easing cycle, we believe further contract sales growth may be limited. The margin decline over the past few years was structural as the sector matured. This is especially true in higher-tier cities with high land costs, intensifying competition, and property prices capped by policies. Shimao's rental income has grown at about 10% annually over the past five years, roughly one third of the rate achieved by CRL. Currently, rental income accounts for 5% of earnings. We expect the company’s earnings to be mainly driven by development properties in the near future.As the Chinese property market enters a consolidation phase, large developers are expected to be the main beneficiaries as smaller players are pushed out of a market characterized by greater pricing pressure and less funding liquidity. The change in demographics will lead to slower urbanization and lower fixed-asset investments. The capital market will see tighter liquidity as the central government seeks to deleverage gradually. The buoyant property market and the accommodative policy environment are mostly in the past. In a consolidating environment with the industry in a rollup process, scale is an important factor, and Shimao appears to be one step behind some of its peers.