Description

Howard Hughes Corp. (HHC) – LONG: Attractive Risk/Reward

HHC (market cap: $2.7B, EV: $3B) owns, manages, and develops long-term commercial, residential, and mixed-use real estate assets in the U.S.  The Company is comprised of ~50 assets, including 4 master-planned communities (“MPC”), 20 operating properties, 18 development opportunities, and 7 affiliated investments.  HHC was spun out of General Growth Properties (“GGP”) in 2010.       

• Applying a SOTP analysis, I value HHC at $91 to $136 per share, ~25% to 90% above the current price.  HHC could be worth significantly more if there is a recovery in the U.S. housing market. There is also substantial downside protection given the quality of the assets and the company structure (e.g. non-recourse leverage).
• The wide range in values and the reason the stock remains undervalued is due to the difficulty in valuing HHC’s assets.  The assets are long-term in nature and there is limited visibility on the timing and magnitude of future cash flows.
• I believe the combined value of four of HHC’s key assets is approx. equal to the current market cap.  Additionally, there are many other high quality assets that offer considerable value. 
• The Company has a strong balance sheet with low net debt and leverage is mostly non-recourse.  Management also has the option to employ additional leverage over time to increase returns.
• HHC is led by a strong management team and board that own a large amount of stock are aligned with shareholders.  

Key Asset Overview

I believe the combined value of four of HHC’s key assets (Summerlin, Victoria Ward, Bridgeland and South Street Seaport) is approx. equal to the current market cap.  Additionally, there are many other high-quality assets (including Fashion Show Air Rights, Woodlands, Shops @ Summerlin, ONE Ala Moana, and Landmark Mall) that have plenty of value.  Below is an overview of the key assets, the majority of which I valued using reasonably conservative volume, price, and discount rate assumptions. In addition to the assets outlined below, I held the remaining assets at carrying value, which is mostly based on a valuation from when HHC inherited the assets deep in the U.S. property downturn. My analysis suggests that the current NAV per share of $59 value considerably understates the future value of HHC’s assets.

Summerlin MPC

• I value Summerlin at ~$850 to $1,240 million.
  • Summerlin is an MPC located 8 miles west of downtown Las Vegas.  100,000 current residents with ~890 commercial acres and ~40,000 residential units remaining to be sold.
  • At peak Summerlin contributed $260 million in annual revenue, but generated no sales in 2008 and 2009 due to the decimated Las Vegas housing market.  The asset offers attractive option on housing recovery in Las Vegas.
  • Progress in the Shops @ Summerlin development should add a premium to the remaining units to be sold. 

Victoria Ward

• I value Victoria Ward at ~$700 to $1,170 million.      
  • Victoria Ward is a collection of retail, industrial, and office operating properties located one mile from Waikiki Beach in the historic waterfront area of Kaka’ako Makai in Honolulu. 
  • HCDA approved 15 – 20 year redevelopment of up to 9.3 million sq. ft. to include 4,300 residential units (3,440 market units and 860 affordable housing units) and ~1.75 million sq. ft. of retail, office, and industrial property.  Nordstrom Rack and Pier 1 Imports recently signed on as anchor tenants. 
  • HCDA currently limits floor-area-ratio (FAR) at 3.8.  If FAR were to be increased by the HCDA, HHC could develop an additional 8 million retail/commercial and 1.4 million residential sq. ft. 

Bridgeland MPC

• I value Bridgeland at ~$370 to $785 million.      
  • Bridgeland is an MPC located 27 miles west of Houston.  5,000 current residents with ~1,230 commercial aces and ~18,700 residential units remaining to be sold.   
  • The Houston real estate market is improving along with its economy, increasing demand for units at this MPC and offering incremental upside if the Houston market continues to recover. 
  • Interesting to note that GGP invested $325 million upfront in the Bridgeland development

South Street Seaport

• I value South Street Seaport at ~$280 to $390 million. 
  • South Street Seaport is an operating property comprised of three historic buildings and a pavilion shopping building on the East River in Manhattan, currently generating annual NOI of ~$4 million and with a current carrying value of $5 million.       
  • The Landmarks Preservation Commission and Manhattan CB1’s Landmarks Committee approved Pier 17 redevelopment equal to ~205,000 sq. ft.  Construction is expected to start in 2013 and to be completed by 2015. 
  • This opportunity offers incremental upside potential.  Manhattan CB1’s Landmarks Committee requested that HHC propose a plan to redevelop the entire South Street Seaport, including the Tin Building and New Market Building.   HHC does not currently own these properties but has a provision to take control in their ground lease with the NY Economic Development Corporation. 

In addition to the four key assets outlined above, there are multiple other assets that offer considerable value and below is an overview of some of these assets.

Shops @ Summerlin

• I value the Shops @ Summerlin at $130 to $220 million
  • The Shops @ Summerlin is a 1.5 million sq. ft. shopping center development opportunity 9 miles west of the Las Vegas Strip. GGP suspended construction in 2008 after investing $150 million and completing ~40% of the development.
  • HHC restarted construction with completion expected in 2014.  Plan includes 125 stores, at least one hotel, and a 9-story office building.  Macy’s signed as an anchor tenant for a 180,000 sq. ft. store.  

Fashion Show Air Rights

• This asset, with a carrying value of $0, is particularly difficult to value given the lack of visibility on timing and the limited number of comparable public air rights transactions.  With that said, after speaking with local experts in development properties on the Las Vegas Strip and analyzing land/property sales, I value HHC’s interest in the Fashion Show Air Rights at ~$110 to $200 million. 
  • HHC holds an 80% ownership interest in the air rights above the Fashion Show Mall located on the Las Vegas Strip.  Featuring ~48 acres, conceptual plans include Fashion Show Resort Casino, a 2,650-room hotel with over 300,000 sq. ft. of convention/banquet space and a second boutique hotel with 700 luxury suites.  HHC cannot exercise this right until the existing loans and guaranties of Fashion Show Mall and The Shoppes @ the Palazzo are satisfied in full, which is currently expected to occur in May 2017. 
  • Based on historical transactions, at its peak in 2007, land on the Las Vegas Strip sold for more than $30 million per acre.  More recently, land on the Las Vegas Strip has sold for ~$12 million per acre.     

Woodlands MPC

• I value the Woodlands at ~$70 million to $110 million.  The low end is the carrying value, which is based on a DCF conducted by the Company for its acquisition of Morgan Stanley’s 47.5% interest in the Woodlands in July 2011.  HHC was incented to get the price as low as possible.          
  • The Woodlands is an MPC located north of Houston.  101,000 current residents with ~2,125 acres remaining to be sold. 
  • New ExxonMobil corporate campus to be built directly south of the Woodlands is expected to drive increased commercial and residential demand and increase prices. 
  • HHC currently owns 10 operating properties in the Woodlands that I have held at carrying value of ~$90 million.  As the Woodlands becomes more populated and the new ExxonMobil corporate campus is completed, the value of HHC will increase on two fronts.  First, the value of the Woodlands MPC will increase.  And second, HHC’s current operating properties in the Woodlands will become more valuable and offer additional development opportunities. 

Riverwalk Marketplace

• I value Riverwalk Marketplace between $65 and $165 million.
• Riverwalk Marketplace is currently a three-level enclosed mall comprised largely of local businesses selling New Orleans-themed products, generating annual NOI of ~$1 million. 
• The Mayor of New Orleans and the New Orleans Building Corp. approved a $70 million redevelopment of Riverwalk Marketplace into an upscale outlet center called the Outlet Collection at Riverwalk. Will be expanded to 250,000 sq. ft. and will offer upscale retail outlet shops, dining and entertainment venues.  Expected completion by late 2013.

ONE Ala Moana

• I value ONE Ala Moana at ~$130 to $140 million. 
  • HHC owns the air rights above GGP’s Ala Moana Center in the Kaka’ako Makai area of Honolulu. The Company entered into a joint venture with leading local developers, the MacNaughton Group and Kobayashi Group, to develop a luxury residential tower. 
  • The concept/schematic design include a 23-story tower with 206 condominium units ranging from 760 to 4,100 sq. ft.  Prices are expected to range between $500,000 and $9 million, with an expected average price of $1.6 million per unit.
  • In Sept. 2012, HHC closed on a combined $40 million of non-recourse mezzanine financing for development and expects the construction loan to close in June 2013.       

Landmark Mall

• I value the Landmark Mall at carrying value of ~$24 million due to uncertainty surrounding the proposed redevelopment, although this asset is highly likely worth significantly more. 
  • Landmark Mall, in Alexandria, VA, nine miles from Washington DC, is an operating property currently generating annual NOI of ~$1 million.
  • HHC planned to move forward by revising a GGP plan to develop a town center of regional scale, with major office, retail, and residential uses. However, the Mayor of Alexandria did not support the plan so the future development is not clear at this stage, although it is likely there will be substantial development given the desirable location.

I held the remaining assets not outlined above at carrying value.

• U.S. economy and real estate market conditions deteriorate, in particular, in New York, Hawaii, Houston, and Las Vegas.  This is the key risk associated with HHC.  Asset values would decline, reducing the margin of safety, and the Company would be challenged to finance, develop, and sell properties. 
• HHC is many years away from being attractive on traditional cash flow metrics.  Although I believe development announcements and evidence of progress will serve as catalysts by highlighting value, the long-term nature of HHC’s projects means that it may take some time for an investor to be rewarded.  I do not see this as a risk for a patient investor.   

Asset Breakdown/list

Catalyst

- Development announcements and evidence of progress in unlocking the value including: Construction commences at South Street Seaport and ONE Ala Moana, progress on the Victoria Ward redevelopment, improved selling rates at the MPCs, additional tenants sign on the Shops @ Summerlin, etc.

- Housing market shows signs of a recovery, particularly in Houston and Las Vegas