Description

The Cross-Harbour Holdings Limited (32 HK) is a Hong Kong listed holding company with net cash and securities 19% greater than its market cap.  Furthermore, we expect 32 HK to generate cash equal to 89% of market cap over the next five years from its ownership in the Western Harbour Crossing tunnel.  32 HK’s other assets include stakes in two small, but stable businesses (it owns 70% interest in the largest driving school in Hong Kong and 35% interest in an electronic toll system business).

32 HK was previously written up by manatee in February 2015.  His write-up provides an excellent overview of 32 HK’s assets and its underlying value.  The stock performed reasonably well, from HKD $8.38/sh when manatee’s write-up was posted to over HKD $13.00/sh in May - November 2018 plus HKD $1.35/sh in dividends over this period.  However, the stock sold off 15% since November due to non-fundamental reasons. In September, a publicly traded company that owned 14.2% of 32 HK distributed its 32 HK shares to its shareholders.  This one-time event had a material impact on supply/demand of 32 HK’s stock, and combined with general market volatility created a compelling buying opportunity.  As it has been nearly five months since this distribution, we believe this non-fundamental selling pressure is effectively complete.

32 HK’s main asset is its 50% ownership in the Western Harbour Crossing tunnel, which is one of the three tunnels connecting Hong Kong with Kowloon.  Traffic congestion is a significant issue in Hong Kong, particularly for transportation between Kowloon and Hong Kong Island. This has resulted in consistent throughput increases at Western Harbour Crossing.  Since manatee’s February 2015 write-up, Western Harbour Crossing has continued to perform well. The number of vehicles passing through Western Harbor Crossing increased at a 2.3% annualized rate during the four years ending in 2018.  Over this same period, tolls were increased at a 5.2% annualized rate (note: the most recent increase was 6.5% in May 2018). We estimate that 32 HK will collect HKD $3.7 billion of cash from Western Harbour Crossing over the next five years (89% of market cap) before the franchise expires in August 2023.  There are no competing tunnels under construction in Hong Kong and Western Harbour Crossing is resilient to downturns as throughput grew 1% in 2009. Therefore, we are confident in the future cash flows from this tunnel.

The Hong Kong government is expected to take back Western Harbor Crossing upon the expiration of the operator franchise in August 2023.  While both of 32 HK’s driving school and toll road system businesses are consistently growing and profitable, the tunnel is by far the company’s largest source of income.  Therefore, the company is searching for investment opportunities in infrastructure assets or acquisitions. 32 HK’s recent acquisitions were additional interests in tunnel assets purchased in 2008, and they turned out to be solid investments.  As the Chairman owns 6.5% of 32 HK and has patiently waited for a compelling opportunity, we are cautiously optimistic that a future infrastructure investment or acquisition will provide an attractive return. In the meantime, the company pays a modest dividend of 3.4% (dividend has increased 27% since 2014).

In terms of valuation, 32 HK has HKD $2.1 billion of net cash (50% of market cap), HKD $2.1 billion of listed securities (51% of market cap), and HKD $749 million in non-listed securities (18% of market cap). Therefore, at the current price you’re getting cash flows from the Western Harbour Crossing, driving school, and electronic toll system for free.  Applying a 7% discount rate to future tunnel cash flows and 10x earnings from 32 HK’s remaining businesses yields a fair value of HKD $21.51/sh. Applying a 20% holdco discount, we have a price target of HKD $17.21/sh, or 53% above the current price.

Downside is protected by cash and listed securities above the current market cap.  Poor capital allocation is a risk, but historically 32 HK has not made egregious investments that destroyed shareholder value.   

Risks:

Economic crash in China/HK impacts Western Harbour Crossing volume as it is the most expensive tunnel between Hong Kong and Kowloon.

Value destructive future investments.

Substantial declines in the value of the listed and/or non-listed securities owned by 32 HK.

FX risk if the HKD to USD peg ends.

Catalyst

Continued cash generation

Dividend increase

Potential accretive acquisition/investment