China Property Sector - DBS Bank business, but using the senior care concept to attract eyeballs. Developers using this model include Poly CN, Vanke, Greentown and Greenland. This

ASIAN INSIGHTS VICKERS SECURITIES ed-JC/ sa- AH

16 Feb 2017 DBS Group Research . Equity

Senior Housing: an attractive trap? • Contrary to common belief, China is not in shortage of

senior housing but good eldercare operators • Developers who diversify into this business will find it

difficult to build a profitable model given a low yield • Focusing on asset light model or high end markets in

tier I cities may be the only way to generate returns • Sino-Ocean Group (3377.HK, BUY) and Poly CN

(600048.CH, not rated) are doing better than others given their focus on building operating capability

Nation-wide oversupply risk is imminent. While most believes that senior housing in China is in serious undersupply, our analysis shows that China’s senior care beds as a percentage of senior population is already close to that of Japan’s. Senior housing has increased exponentially over the past years which will lead to a nationwide oversupply in the near future.

China needs eldercare operators, not senior home builders.

Most senior home builders do not have the capability to manage senior houses but to outsource it to elder home operators. Yet, the landlord model itself is not profitable due to (1) high initial investment; (2) low EBITDA yield of c. 3%. Unlike their counterparts in the US, Chinese developers are not able to obtain low cost lands and low cost funding. And there is no matured REITs vehicle, like that in the US, to fund their expansion.

Building operating capability or focus on niche market is

the only way to succeed. Our ground check shows that China does not have sufficient elder home operators to provide services of global standard. In addition, there is a rising demand for mid- to high-end senior living in Beijing and Shanghai, due to limited supply in the past and the rise in the affluent, aging population. Mid- to high-end projects providing memory or supplemental medical care services in top-tiered cities may offer better returns. Sino-Ocean and Poly CN are building their operating teams in Beijing and Shanghai. Sino-Ocean has seen its first asset-light project in Beijing reach profitability after three years of operations. Plus, both Sino-Ocean and Poly CN have insurance companies as key shareholders, which could enable potential synergies, as insurers could purchase these assets from developers and cross sell their products.

HSI: 23,995 ANALYST Ken HE CFA, +86 21 6888 3375 [email protected] Carol WU +852 2863 8841 [email protected] Danielle WANG +852 2820 4915 [email protected] Andy YEE CFA, +852 2971 1773 [email protected] Trista QIN +852 2863 8820 [email protected]

Developers who have ventured into senior housing business

Target Mkt FY17F

Price Price Cap PE

Company HK$ HK$ Rec US$bn x China Overseas (688 HK)

24.3 28.82 BUY 34.3 7.3

CR Land (1109 HK)

21.6 23.52 BUY 19.3 8.4

China Vanke 'H' (2202 HK)

19.62 20.2 HOLD 32.7 8.2

China Vanke 'A' (000002 CH)~

20.67 21.88 HOLD 32.7 9.8

Sino-Ocean Land (3377 HK)

3.73 4.61 BUY 3.6 5.8

Greentown (3900 HK)*

6.99 n.a. NR 1.9 6.7

Greenland (600606 CH)~*

8.77 n.a. NR 15.6 12.2

Poly CN (600048 CH)~*

9.37 n.a. NR 16.2 6.5

~ Denominated in RMB for price; * Consensus

Source: Thomson Reuters, DBS Vickers

Our proprietary research on senior housing sector is based on interviews to the senior housing offices of six Chinese developers, two international eldercare operators and private equity funds who have actively invested or are planning to invested in China senior housing area.

Asian Insights SparX

China Property Sector Refer to important disclosures at the end of this report

Asian Insights SparX China Property Sector

ASIAN INSIGHTS VICKERS SECURITIES

Page 2

The DBS Asian Insights SparX report is a deep dive look into thematic angles impacting the longer term investment thesis for a sector, country or the region. We view this as an ongoing conversation rather than a one off treatise on the topic, and invite feedback from our readers, and in particular welcome follow on questions worthy of closer examination.

Table of Contents

Investment summary 3

Supply and demand dynamics 5

Opportunities and market participants 7

Key challenges 10

Business model and profitability 13

Case study 15

Note: Prices used as of 15 Feb 2017



Page 3

Investment summary

In terms of demographics, China is 30 years behind Japan…As of end-2015, China’s senior population (age 65 and over) as a percentage of the total population was 10%, compared to Japan’s, the UK’s, the US’, and Australia’s 26%, 18%, 15%, and 15%. In terms of the pace of aging, China is greying faster than those in the abovementioned three western countries, but is very similar to Japan, despite being 30 years behind.

…in terms of senior care beds, China is already close to that in US and Japan. Contrary to common belief that there is an undersupply situation in senior housing in China, we believe there will likely be oversupply in the near future. The divergence stems from the definition of senior population (age 60 and over in China; age 65 and over in other countries). The five-year difference in definition makes the whole picture of senior housing supply quite different. Based on our calculation, senior housing supply, as measured by the number of senior care beds over senior population (aged 65 and over), was 4.7% by end-2015 for China, compared to 5% in Japan, 5.4% in Australia, and 5.9% in the US.

Will upgrade demand take up bulk of supply as we saw in the office and logistics property sector in the past? We don’t think so, as more than half of the total senior care beds (6.7 million) were built over the past five years (2010 to 2015) and 18% of the total was built in 2015. The number of senior care beds has kept up exponential growth lately, leading our concerns over a nationwide oversupply in the near future.

Will demand catch up with supply? Elderly people in China, as a whole, are not as rich as their counterparts in western countries – expressed as “getting old before getting rich” (未富先老). This affects affordability for senior housing. In addition, the majority of the elderly population is not urban and is not covered by the social insurance scheme. A mind-set barrier also exists, as traditional elderly prefer to stay with their family. This can be evidenced by Japan, where 97% of elderly people are living at home. Having said that, different market segments could see different prospects in an unequal society. Mid- to high-end projects with special features like memory care and a combination of senior housing and medical care (醫養結合) might see a better outlook in high-tiered cities.

Opportunities for developers? China is targeting for 90%/6-7%/3-4% of the senior population to live in their own homes/community-based senior facilities/institutional senior housings, respectively. Yet, the majority of developers are rushing into building senior housing for the targeted 3-4% of the senior population. In our view, developers who aim to be in the business need to focus more on operations, as senior housing is more about service than building hardware. Otherwise, senior housing will likely repeat the experience of the hotel industry in which operators are profitable but land lords are at loss making.

Policy is lagging. The government has reiterated its support for the senior housing industry, but there has been limited policy support. Firstly, there is limited land supply for senior housing as selling lands for elder homes is less profitable to local governments than selling lands for residential and commercial purposes. Beijing launched seven plots of land for senior housing purposes in 2015, but none in 2016. Secondly, funding is less accessible given the absence of a clear profitable model so far. Moreover, there is no REIT platform to hold the assets. Lastly, the tax regime provides only limited support to operations.

Another bottleneck is personnel and talent, as the sector is still in its early development stage. There is abundant senior housing supply but limited experienced personnel. The competition for talent could potentially drive up staff costs.

Four business models exist in the senior housing sector: (i) The sales model is similar to that of the traditional residential business, but using the senior care concept to attract eyeballs. Developers using this model include Poly CN, Vanke, Greentown and Greenland. This model might not be considered a real senior housing business, as limited after-sales services are provided.

(ii) There are two asset-heavy models – membership and monthly fee models. The membership model is similar to the continuing care retirement community (CCRC) entry fee model in the US, under which residents in apartment units pay a one-time upfront entrance fee or membership fee. The model allows developers to enjoy lower financial burden at the beginning and asset appreciation over time, with monthly fees charged to cover operating expenses. Some developers choose this model because some elder apartment units couldn’t be sold separately on a strata-titled basis. Thus far, we haven’t seen success in this model yet. The famous Shanghai project – Cherish-Yearn – is still loss-making and seeing limited appreciation in assets after operating for five to six years.

(iii) Compared to the membership model, the CCRC rental or monthly fee model only collects a small deposit amount upfront and charges a higher rental fee. In our view, developers may not have strong capability to hold such assets given limited yield. In the US, senior housing is usually owned by REITs. Given the absence of REITs in China, we think developers may need to go asset light by selling assets to companies with lower funding cost. For example, insurance companies may have incentives to hold such assets to generate longer-term returns and support marketing of their insurance products. Developers with insurance companies as key shareholders, such as Sino-Ocean and Poly CN may seek for synergy with key shareholders on such a model. Poly CN and Vanke also use such a model to liquidise idle assets inside the group.



Page 4

(iv) Build-and-lease-back or asset-light model. Sino-Ocean is using this model: it built elder homes for the government and lease them back to provide elder care services. After 3 years of operations, Sino Ocean has seen its first project become profitable. The model needs strong operating capability, but has less financial requirement. A strong operator could see fast expansion opportunities given there is abundant senior housing but limited operators in the market. Strong operating capability could also be used as a bargaining chip to access lower cost land. But, such a model might be affected by rising rental and staff costs. The model might need to be in large scale to attract investors’ interest, as a single project could only generate limited cashflow after rentals.

Sino Ocean and Poly CN are doing better than others. Either asset light model or focusing on mid- to high-end projects with memory care and medical care in top-tiered cities may offer better returns. Sino-Ocean and Poly CN are building their operating teams in Beijing and Shanghai. Both Sino-Ocean and Poly CN have insurance companies as key shareholders, which could enable potential synergies. Other developers, such as Vanke (2202.HK, HOLD; 000002.CH, HOLD), China Overseas Land (688.HK, BUY), CR Land (1109.HK, BUY), Greentown (3900.HK, not rated), Country Garden (2007.HK, HOLD), Evergrande (3333.HK, HOLD) and Greenland (600606.CH, not rated) are only at the trial stage for their senior housing business and thus far we don’t foresee a feasible business model being built in the near term.



Page 5

Supply and demand dynamics

We’re closer to oversupply than undersupply

There have been many reports talking about the undersupply situation in senior living facilities in China. However, based on our analysis, China is not short of senior living space (at least as a whole), but is lacking operators and service providers. Unfortunately, most policies and market participants are still focusing on development or construction of senior living space.

We use Japan and the US as benchmarks for our analysis. The reasons are (i) the cultural/geographic proximity between China and Japan are similar; (ii) the US has a complete value chain for senior living facilities; (iii) quite a few Japanese and American operators have ventured into China’s senior living market and most Chinese operators/owners are trying to copy the business model in Japan and the US.

Where are we now, in terms of demographics? China is more like Japan 30 years ago. According to a United Nation’s (UN) estimate (see the table on the right), as a percentage of the total population, China’s senior population (aged 65 and over) reached 7% in 2001; and it will take 25 years for that ratio to go up to 14% and another 13 years to reach 21%. The aging pace in China is similar to Japan’s, despite being 30 years behind. As a percentage of the total population, the US senior population reached 14% in 2014, but it will take 36 years for that percentage to go up to 21%. China’s senior population (aged 65 and over) was 10% by end-2015, much lower than Japan’s 26% and the US’s 15%. This can be explained by the low fertility rate in Japan, at less than 1.5, while the US has more or less maintained a higher fertility rate of 2.0.

Where are we now, in terms of senior care facilities? The number of senior care beds in China is already close to that in the US or Japan. The key reason why our analysis shows quite a different picture compared to other reports/analysis is the definition of senior population. The widely quoted number of beds, as a percentage of the population aged 60 and above, was 3.0% by end-2015, sourced from China’s Ministry of Civil Affairs (MCA). MCA’s definition of senior population (age 60 and above) is different from other countries’ definitions (65 plus). We have recalculated the ratios as shown in the table below. The number of beds as a percentage of senior population (65 plus) in China was 4.7% by end-2015, compared to 5% in Japan and 5.9% in the US. Based on the government’s 13th Five-Year Plan, the number of beds as a percentage of population aged 60 and above is targeted at 3.5-4.0% by 2020, which will translate into the number of beds as a percentage of population aged 65 and above at 5.2-5.9%.

Pace of ageing

Country

Percentage of population

aged 65 and above

Number of years

required

7% 14% 21% 7-14% 14-21%

China 2001 2026 2039 25 13

US 1942 2014 2050 72 36

Japan 1970 1994 2007 24 13

Time lag

between China

and Japan

31 32 32

Source: United Nations, Japan’s Ministry of Health, Labour and Welfare, China’s National Bureau of Statistics, DBS Vickers

Percentage of population aged 65 and above

0%

5%

10%

15%

20%

25%

30%

China Australia Japan US UK

Source: The World Bank, DBS Vickers As of December 31, 2015

Number of senior care beds in China

Year

Number of

elderly

care beds

(million)

Population aged

at or above

Number of beds as

percentage of population

aged at or above

65 60 65 60

m m m % %

2005 1.6 80 144 2.0% 1.1%

2006 1.8 104 149 1.7% 1.2%

2007 2.4 106 153 2.3% 1.6%

2008 2.7 109 159 2.5% 1.7%

2009 2.9 113 167 2.6% 1.8%

2010 3.2 116 177 2.8% 1.8%

2011 3.7 122 184 3.0% 2.0%

2012 4.2 127 193 3.3% 2.1%

2013 4.9 131 202 3.7% 2.4%

2014 5.5 137 212 4.0% 2.5%

2015 6.7 143 222 4.7% 3.0%

2020 gov't

target

2020 8.7 168 248 5.2% 3.5%

2020 9.9 168 248 5.9% 4.0%

Source: China’s Ministry of Civil Affairs, China’s National Bureau of Statistics, DBS Vickers



Page 6

Comparison of senior care beds

0%

1%

2%

3%

4%

5%

6%

7%

China^ US* Japan# Australia~

Nursinghome 3.2%

Assisted living 2.7%

3 facilitiescovered by long-term insurance

3.5%

Other rental housings for elderly 1.5%

Source: China’s Ministry of Civil Affairs, Administration on Aging at U.S. Department of Health and Human Services, Japan’s Ministry of Health, Labour and Welfare, Australian Nursing and Midwifery Federation, DBS Vickers

^ no. of beds for elderly living as percentage of elderly population (aged 65 and above) by end-2015, recalculated by DBS Vickers

* from A Profile of Older Americans: 2015. Assisted living facilities are designed for fairly independent people with minor supervision, while nursing homes are designed for people requiring extensive care

# from Survey on Social Welfare Institutions in 2008. Three facilities covered by long-term insurance include an intensive care home for the elderly, a long-term care health facility and a sanatorium medical facility for elderly requiring long-term care

~ from Australian Nursing and Midwifery Federation, September 2015

According to a report from Japan’s Ministry of Health, Labour and Welfare, 97% of the senior population is living at home.

Do we lack senior living space? On the whole, not really. Given the above analysis, China’s senior living space will be similar to that in Japan and the US by 2020. However, we don’t think China really needs so much senior living space. More than half of the total senior care beds (6.7 million) were built over the past five years (2010 to 2015) and 18% of the total were built in 2015. The number of senior care beds has kept up exponential growth lately, leading to our concerns over a nationwide oversupply in the near future.

Demand may not be as strong as what the market

expects

i) A psychological barrier exists. According to Japan’s 2010 fiscal year Survey of Institutions and Establishments for Long-term Care, 97% of elderly people are living at home. Given the cultural/geographic proximity between China and Japan, traditional elderly in China also prefer to stay with family. In addition, the majority of elderly people in China would prefer keeping their full-life savings for their offspring rather than paying for senior housing rental or membership.

ii) Life expectancy in China is lower than in Japan and the US (see table below), which means China requires less senior care services than Japan and the US (long life expectancy requires longer senior care).

iii) The majority of China’s elderly population is not urban and might not be able to afford senior care services as they are not covered by the social insurance scheme. According to China’s sixth census, the urbanisation rate was 50.1% in 2010, but only 43.9% of the senior population (65 plus) was urban.

iv) Japan has a well-established social insurance system (see the chart on the next page), which covers 90% of long-term care fees (for three facilities covered by long-term insurance), while China doesn’t have such a social insurance system, which means the senior population in China is less able to afford senior living facilities.

These factors explain why the MCA reported a 48% vacancy rate for senior care beds for China as a whole by end-2015.

Life expectancy

All Male Female Rank

China 75.5 74.1 77.0 63

US 78.9 76.3 81.3 34

Japan 83.7 80.2 87.2 1

World 71.4 69.1 73.8

Source: World Health Organization, May 2014, DBS Vickers

Urbanisation rate

Urbanisation rate*

China 55.9%

US 80.7%

Japan 93.0%

Source: CEIC, U.S. Census Bureau, China’s National Bureau of Statistics, DBS Vickers

* updated to 2015 for China, 2010 for US and 2014 for Japan

Based on the demographic trend, the overall existing senior living space in China is already enough. Having said that, we also saw that the number of senior care beds is not evenly distributed among provinces/regions. For example, the number of beds as a percentage of the population aged 60 and above was 5.4% in Inner Mongolia, but only 1.8% in Gansu. In addition, positioning of senior living facilities will need to be differentiated to meet various demands. On top of that, we see a lack of professional operators, rather than space.



Page 7

The mechanism of Japan’s long-term care insurance system

long term care fees(90%)

Service providers

- In-home services

- Community-based services

- Facility services

Pension and insurance

Taxes 50%

- municipalities 12.5%- prefectures 12.5%- state 25%

Primary insured persons - aged 65 or over (29.1m*)

Insured persons Certified as requiring long

Secondary insured persons - aged 40-65 (42.6m*)

claim benefits

services

10% co-payment

hous ing & meal

term care

Source: Japan’s Ministry of Health Labour and Welfare, DBS Vickers

* from 2010 report on long-term care insurance services

Opportunities and market participants

The MCA aims to establish a system of senior care by 2020, targeting to have 90%/6-7%/3-4% of the senior population

living in their own homes/community-based senior facilities/institutional senior care facilities (see table below).

Type of senior care providers

Type Characteristics Care provider Target

proportion

Living in own home Traditional elderly, preferring to stay with family Family members and in-home

service providers

90%

Low-income elderly who cannot afford senior care services

Community-based

services

Elderly who receive less care from family members Community hospitals and other

community-based service

providers

6-7%

Serves as supplementary to home care

Community senior care in day time and family care at nights

Institutional settings Elderly preferring to stay with people of similar ages Senior living facilities 3-4%

Elderly who are less independent and need intensive care

Provides comprehensive cares and services

Source: China’s Ministry of Civil Affairs, DBS Vickers



Page 8

Value chain of senior living facilities

Developers

In-home services

Supporting facilities

- Hospital/Medical

- Education

- Entertainment

- Other facilities

Community-based

services

Institutional facilities

Independent Assisted living

Nursing, memory care

and other special care

as % of total

90%

6-7%

3-4%

Policies

- Overall planning

- Land

- Tax

- Financing

- Others

Senior service providers Insurers Other investors

Development and construction

Opportunities

OperationInsurance and wealth

relatedFunding

Participants

Source: PwC, Deloitte, DBS Vickers

The rising eldercare industry offers four major opportunities – in development and construction, operations, insurance and wealth management related products, and funding – and comprises four major participants – developers, senior service operators/providers, insurance companies, and other investors.



Page 9

Milestones of senior housing industry

Features Participants

Before

2001

Few companies engaged in senior living

industry, with no mid- to high-end

community

Almost none from

private sector

2001 The first high-end senior community

emerged in Beijing

Beijing Sun City

2005 More high-end senior living

communities, diversified property

operation models

Shanghai Cherish-

Yearn Huichen

Senior Apartment

2010 More government policies and

diversified investors/participants

Developers,

insurers, senior

service providers,

and other

investment

institutions

Source: PwC, DBS Vickers

Developers are still focusing on development and construction. Developers have ventured into the senior care industry since 2010, for (i) business diversification; (ii) liquidising idle assets inside the group; and (iii) exploring potential synergies with associated companies, including insurance companies or medical companies. So far, we have seen developers engage in the development, operations and funding of senior housing. However, the focus is still on the development and construction, as (i) developers are good at construction but lacking operating capabilities; (ii) some developers are using the senior housing concept as a selling point to charge a premium for traditional residential properties; and (iii) local governments sometimes provide subsidies for senior housing development.

International operators usually team up with local partners, using an asset-light business model. In view of rising demand for senior care in China, international operators, especially those from Japan and the US, have rushed into this area. Yet, given the high prices of land and properties, they are applying an asset-light model to control risks.

In our view, developers may need to shift from the mind-set prevailing in the residential development business (i.e. fast asset turnover) and focus more on operations, as senior housing is more about service than building hardware. Otherwise, senior housing will likely repeat the experience of the hotel industry in which operators make money while landlords suffer on loss. Actually, senior housing management is similar to hotel management, but more sophisticated.

International operators’ exposure in China

Company Origin Business model Joint venture with partner in China Footprint in China

Year venturing

into China

RIEI Japan Asset-light Local operators Beijing, Shanghai 2012

Medical Care Service Japan Asset-light, senior care

related products

Shanghai Sanmao Shanghai 2011

Wisnet Japan Asset-light Local operator

Dalian 2013

Nichii Gakkan Japan Asset-light, in-home care Wholly owned Beijing 2016

Emeritus US Asset-light Sino-Ocean Land (3377.HK) Beijing 2013

Fortress US Asset-light/Asset-heavy Fosun (656.HK) Shanghai, Ningbo, Nantong,

Suzhou, Zhenjiang, Guangzhou

2013

CAJ Right at Home US Asset-light asset, in-home

care

Wholly owned Beijing, Dalian, Erdos, Ningbo,

Hangzhou, Wuhan, Chengdu,

Guangzhou

2011

Watermark US Asset-light Zhonghong (000979.CH), Taiping

Senior Living Inv.

Beijing, Shanghai 2016

Cascade US Asset-light Wholly owned Shanghai 2013

CP Homes US Asset-light Country Garden Huizhou 2015

Orpea France Asset-light/Asset-heavy Wholly owned Nanjing 2014

Source: DBS Vickers



Page 10

Key challenges

Policy support is lagging

While there have been quite a few policies to support the senior housing industry since 2010, we can hardly see a well-established policy system to facilitate the industry’s growth.

Lacking land for senior housing purposes. Prices for residential/commercial land have risen rapidly lately, and there was no land designated for senior housing purposes

before 2014. After the guide on land used for eldercare service facilities (養老服務設施用地) was released in 2014, several local governments, including Beijing, Shenzhen, Zhejiang, and Fujian, have listed land for sale for senior housing. But land for senior housing is classified under land used for medical, healthcare. and welfare (醫衛慈善用地), which makes funding less accessible. In addition, after the rapid growth in land prices in 2016, local governments are slowing down the launch of land used for eldercare services which offer lower profits to them. Beijing launched seven plots of land for senior housing in 2015, but none in 2016.

Major policies regarding land used for eldercare services since 2010

Date Policy Regulator

2015.11 Guiding Opinions on Maximising the Leading Role of New Consumption and Accelerating

the Cultivation of New Supplies and New Driving Forces

The State Council

2015.11 Guiding Opinions on Advancing the Combining of Medical and Health Service and

Eldercare Service

National Health and Family Planning

Commission and other ministries

2015.03 Notice on Advancing the Residential Properties and Land Supply and Promoting the

Stable and Sound Development of the Real Estate Market in 2015

Ministry of Land and Resources

2014.11 Guiding Opinions on Innovating the Investment and Financing Mechanisms for the Key

Fields and Encouraging Social Investment

The State Council

2014.11 Guiding Opinions on Promoting the Development of Eldercare Service Industry Ministry of Commerce

2014.09 Notice on Accelerating the Construction Projects Progress of Health and Elderly Service

Facilities

Ten ministries

2014.05 Notice on Accelerating the Construction Work of Eldercare Service Facilities in Urban

Areas

Ministry of Civil Affairs

2014.04 Guiding Opinions on Land Used for Eldercare Service Facilities Ministry of Land and Resources

2014.01 Notice on Enhancing the Planning and Construction work of the Eldercare Service

Facilities

Ministry of Housing and Urban-Rural

Development and other ministries

2013.09 Several Opinions on Accelerating the Development of the Health Care Service Industry The State Council

2013.09 Several Opinions on Accelerating the Development of the Eldercare Service Industry The State Council

2012.07 Implementation Opinions on Encouraging and Guiding Private Capital’s Entry into

Eldercare Service Sector


2011.12 Social Eldercare Service System Construction Planning (2011-2015) The State Council

Source: CREIS

Funding is less accessible.

i) There are government subsidies, including a one-off construction subsidy, interest subsidy and tax subsidy; but the subsidies are far below costs.

ii) It is not easy to get bank loans, given the lower visibility of profitable models in the industry. So far, banks only provide funding to public/government-related senior care facilities and senior care facilities with land use rights and construction in progress.

iii) Funding from the equity market is also difficult. The well-known senior housing play – Cherish-Yearn (親和源) suspended its initial public offering in the A-share market in late-2015. In early-2016, Yihua Real Estate (宜華健康, 000150.CH) announced the

acquisition of a 58.33% stake in Cherish-Yearn. According to the announcement, Cherish-Yearn is still loss making after five to six years in operation and is expected to gradually narrow losses over the next three years.

iv) Nearly half of senior housing owners/operators are funded from REIT platforms in the US (see the table on the next page). However, REITs are unlikely to kick off in China in the near future, as limited by current law and tax regimes.

v) Private equity and trust investors are less interested in senior housing as the industry is still at the start-up stage and there is no clear profitable model yet. Also, private equity and trust investors usually require higher returns.



Page 11

Major policies regarding support for the eldercare services industry since 2010

Publishing

time

Name of document Publishing commissions

2016.03 Guiding Opinions on Accelerating the Development of Eldercare Service Industry with

Financial Support

People’s Bank of China and other

ministries

2015.11 Guiding Opinions on Maximizing the Leading Role of New Consumption and Accelerating

the Cultivation of New Supplies and New Driving Forces

The State Council

2015.11 Guiding Opinions on Accelerating the Development of Consumer Service Industries and

Advancement of Consumption Structure

General Office of the State Council

2015.04 Implementation Opinions on Supporting Social Eldercare Service System Construction with

Development Finance

Ministry of Civil Affairs and other

ministries

2015.04 Notice on Issuing the Guidelines for the Issuance of the Special Bond for Pension Industry National Development and Reform

Commission

2015.04 Notice on Further Improving the Eldercare Service Industry Development National Development and Reform

Commission and other ministries

2015.02 Implementation Opinions on Encouraging Private Capital to Participate in the

Development of Elderly Service Industry

Ten ministries

2014.11 Notice on Relevant Issues concerning Reduction and Exemption of Administrative Charges

on Eldercare Institutions and Medical Institutions

Ministry of Finance

2014.11 Guiding Opinions on Promoting the Development of Eldercare Service Industry Ministry of Commerce

2014.11 Guiding Opinions on Innovating the Investment and Financing Mechanism for the Key

Fields and Encouraging Social Investment

The State Council

2014.11 Announcement on Encouraging Foreign Investors’ Establishment of For-profit Eldercare

Institutions

Ministry of Commerce

2013.09 Several Opinions on Accelerating the Development of Health Care Service Industry The State Council

2013.04 Administrative Measures for the Central Special Lottery Public Welfare Fund on

Supporting Rural Nursing Homes

Ministry of Civil Affairs and other

ministries

2012.07 Implementation Opinions on Encouraging and Guiding Private Capital’s Entry into the

Eldercare Service Sector


2010.05 Several Opinions on Encouraging and Guiding the Healthy Development of Private

Investment

The State Council

Source: CREIS

Top ten senior housing owners in the US

2016 rank Company Code REIT? Number of properties Number of units

1 Brookdale BKD US 945 78,595

2 Welltower HCN US Y 666 65,042

3 Ventas VTR US Y 716 61,969

4 HCP HCP US Y 470 49,000

5 Senior Housing SNH US Y 297 34,687

6 Boston Capital n.a. 468 29,134

7 NorthStar NHHS US Y 209 17,514

8 New Senior SNR US Y 150 17,474

9 Senior Lifestyle n.a. 161 16,187

10 Holiday Retirement n.a. 86 10,474

Source: ASHA 2016, DBS Vickers



Page 12

Lack of a favourable tax regime to support operations. Public/government-related senior housing usually enjoys local governments’ subsidies on operations or tax benefits. Private non-profit elderly care institutions could also enjoys subsidies and tax benefits, but the monthly charges will be

usually capped by government, and profit is not allowed to be distributed back to shareholders. For commercial elderly care institutions, there is no limitation on price and profit distribution, but they generally cannot enjoy subsidies and tax benefits.

Policy comparison of private non-profit elderly care institutions and commercial elderly care institutions

Categorisation

Social service institutions (Private non-profit elderly

care institutions) For-profit elderly care institutions

Land supply Allotted Most are leased; others are acquired through

negotiation or public assignment

Time limit on land usage 50 years of land usage Commercial land: 40 years

Residential land: 70 years

Property right Possessory right only; no right of sub-lease or sale Commercial or residential land: Right of sub-lease

and sale

With the construction of elderly care facilities: No

right of sub-lease or sale

Land-transferring fees Not required/rarely require the payment of land-

transferring fees

Normally require full payment of land-transferring

fees

Land size Nursing home with single institution: three hectares No limitation

Combination of medical and health services and

elderly care services: maximum five hectares

Property requirements Should be limited to 40 square metres Tenancy period: 20 years

Tenancy period cannot exceed five years

Registration Registered in Ministry of Civil Affairs Registered in State Administration for Industry &

Commerce; Certified by Ministry of Civil Affairs

Listing requirements Cannot be listed on the market Can be listed on the market

Government subsidy One-off construction subsidy of 25,000 Chinese yuan

per bed, and operating subsidy of 500 yuan per bed

per month

No subsidy

Monthly fee standard Monitored/capped by government Mark-to-market

Tax benefit No value-added tax, income tax and other

government administrative charges

No value-added tax, half of government

administrative charges

Profit distribution No profit distribution, no privatisation of assets, no

setting up of branches

No limitation

Source: DBS Vickers

Another bottleneck is personnel and talent

The sector is still at the very early stage. There is abundant senior housing supply but limited experienced personnel. The competition for talent could potentially drive up staff costs.



Page 13

Business model and profitability

The four major business models:

i) Sales model. This model is similar to the traditional residential development business. Developers are using the senior care concept to attract eyeballs and to charge premium pricing for their projects. Developers using such a model include Poly CN (Xitangyue 西塘越), Vanke, Greentown, Greenland and other developers.

ii) Asset-heavy model – membership. This model is similar to the CCRC entrance fee model in the US. Such a model allow developers to enjoy an “interest-free loan” from the upfront membership fee (some are refundable or partly refundable, while others are not refundable but can be transferred) and alleviate the financial burden at the beginning stages, enjoy asset appreciation over time and charge monthly fees to cover operating expenses. However, we haven’t seen a successful example in China, given high finance burdens and rising land prices. Also, a large upfront membership fee might not be easily accepted by the senior population. Developers using such a model include Fosun, Sino-Ocean (two projects are under planning) and Cherish-Yearn. As mentioned, Cherish-Yearn is still loss making after five to six years in operation. Fosun is using the platform to sell insurance or wealth management related products to enhance total profitability.

iii) Asset-heavy model – monthly fee or CCRC rental. This model charges a higher monthly fee as compared to the membership model, but only collects a small upfront deposit (usually 50,000 to 100,000 yuan per person) for emergence. Yet, for developers, such model can’t help to alleviate the initial financial burden for construction. Poly CN and Vanke use such a model for idle assets (previously designed for hotel use) inside the group. In our view, developers may not have a strong capability to hold such assets given limited yield of c. 2.7% (our rough estimate shown in the table below). In the US, senior housing is usually owned by REITs offering 6.8% to 7.5% cap rate and c. 5% dividend yield. Given the absence of REITs in China, we think developers may have to seek for financing from or partnership with insurance companies that have incentive to hold such assets to generate longer-term returns and support marketing of their insurance products. Developers with insurance companies as key shareholders, such as Sino-Ocean and Poly CN, may seek for synergy with key shareholders on such a model.

Rough estimate for an asset-heavy monthly fee project (mid- to high-end) in tier-1 cities

Items Amount

Land cost + construction cost (yuan/square

metre)*

16,000

Decoration cost (yuan/square metre) 6,000

Unit size (square metre) 50

No. of units 100

Total cost per unit (yuan, million) 1.1

Total cost of project (yuan, million) 110

Room rate (yuan/month/unit) 11,000

Occupancy rate 90%

Annual revenue (yuan, million) 11.88

Earnings before interest, tax, depreciation

and amortisation (EBITDA) margin

25%

EBITDA (yuan, million) 2.97

EBITDA yield 2.7%

Source: DBS Vickers

*Sino-Ocean just acquired one project at this cost in Shanghai. The project will be repositioned as a CCRC membership model; we use the cost for a rough estimate.

Current dividend yield of senior housing REITs in the US

FY16 FY17

Health Care REIT HCN US 5.25 5.34

Ventas Incorporated VTR US 4.81 5.07

HCP Incorporated* HCP US 5.12 5.11

Average 5.06 5.17

Dividend yield

* FY17 & FY18 dividend yield

@ Feb 15, 2017

Source: Bloomberg Finance L.P., DBS Vickers

iv) Asset-light model. This model doesn’t own assets but pays rental fees to assets owners. This model is widely used by international operators in China. Developers using this model include Poly CN and Sino-Ocean. Some projects have started to breakeven or even turn a profit, but are usually supported by cheap rentals. The scalability of such models is uncertain. Poly CN’s Beijing project (西山林語和熹會), with a mid-end position (monthly charge of 5,000 yuan to 6,000 yuan per person), has recently achieved cashflow breakeven after being fully occupied. Sino-Ocean’s first project in Beijing Yizhuang with high-end positioning (monthly charge of 8,000 yuan per person plus nursing charges ranging from 2,000 yuan to 8,000 yuan per person) has achieved 80% occupancy and positive cash flow lately after nearly three years in operation. The success of Sino-Ocean’s project could be partly due to cheap rental fees (less than 2 yuan per square metre per month) as supported by the local government.



Page 14

Exposure of major listed developers to the senior housing industry

Developer Poly CN Sino-Ocean Land Vanke Fosun Greentown Greenland

Stock code 600048.CH 3377.HK 2202.HK/ 000002.CH 656.HK 3900.HK 600606.CH

Senior living platform

Operations platform would be Poly-Anping Pension Care (保利安平), while assets will be owned by Poly Healthcare Investments (保利健

康投資 )

Senior Living L'amore (椿萱茂)

No group level platform, various brands in different regions

StarCastle (星堡); also Star Healthcare (星健) is supposed to consolidate all the business resources along the value chain of senior living inside Fosun Group

N.A. N.A.

Reasons to do the business / advantages

Liquidise idle assets inside the group; senior living operating capability could be used as a bargaining power to access land

Two major shareholders are insurers, which could create potential synergies.

Liquidise idle assets inside the group; senior living operating capability could be used as a bargaining power to access land

Exposure to full value chain, including property development, insurance, hospitals/elderly care, and pharmaceuticals.

Business diversification trial

Business diversification trial

Partner

The first project was with Emeritus. Memory Care, partnered with Meridian

N.A. StarCastle is partnered with Fortress

N.A. N.A.

Business model Lease, sale, and membership

Light asset care building and heavy asset continuous life retirement centre

Lease, sale, and membership

CCRC, light asset Sale Sale

Exposure Beijing, Zhejiang, Guangzhou, Chengdu, Sanya

Beijing Various regions across China

Shanghai, Ningbo, Nantong, Suzhou, Zhenjiang, Guangzhou

Jiaxing Wuzhen

Kunshan Huaqiao

Commencement 2012 2013 2010 2013 2014 2007 Other comments /special features

Mid-end positioning Memory care; also created it own healthcare brand “Health in Here” (海醫匯)

Provide a wide range of senior care services in different regions

Aims to provide insurance-related products to enhance profitability

University for the elderly

N.A.

Targeted mid-term or 2020 operating scale

80-100 senior housing projects with 20,000-30,000 beds

20,000 beds or revenue above 1 billion yuan

N.A.. 30 senior housing projects and 50 daily care centres

N.A. N.A.

Source: Company, DBS Vickers



Page 15

Successful factors for developers in elder homes business:

i) Developers might need to focus more on operations. We don’t think there are huge opportunities in the development and construction area. Developers might need to change from the mind-set that is prevalent in the residential segment (i.e. fast asset turnover) and focus more on operations if they really want to be the first movers in the industry.

ii) Asset-light model is preferred. In our view, China is lacking in professional operators. Developers with proven operating capability could expand into those projects owned by government or those that are poorly managed by other developers.

iii) Mid-to high-end projects in tier-1 cities, especially Beijing and Shanghai, could be a starting point. Both cities have a large proportion of senior population with higher education and income. But developers need to have clear positioning to differentiate their projects, such as those providing memory care or combining senior care and medical care.

Returns of high-end projects in the US

Welltower Healthcare

REIT*

Public

operators^

Property age (years) 22 36 32

Occupancy 86% 82% 81%

Revenue per occupied

room (USD/month)

6,830 4,666 4,131

Net operating income

per unit (USD/year)

23,525 15,090 12,764

Net operating income

margin

28.7% 27.0% 25.7%

Source: Welltower, Company, DBS Vickers

*including HCP, NHI (National Healthcare), SNH (Senior Housing) and VTR (Ventas)

^including BKD (Brookdale), CSU (Capital Senior), FVE (Five Star)

Case study

The asset-heavy model may face various challenges; while the asset-light model has started making profits.

Case 1: Cherish-Yearn’s asset-heavy model in Shanghai. Cherish-Yearn is a first mover in the sector and its brand name is well recognised by the industry. The company was founded in the Nanhui district of Shanghai in 2005. The project is a CCRC entrance fee model, comprising 12 multiple-storey buildings with a total of 838 units. Despite its low land cost (estimated 750 yuan per square metre) and being a first mover in the area – the company had achieved 95% occupancy, it still made a 30 million yuan loss in 2015. According to the announcement from Yihua Real Estate (宜

華健康, 000150.CH, not rated) that owns Cherish-Yearn in early-2016, the company might not be profitable before 2020.

The return of the project looks unsatisfactory. Total investment in the project was reported to be 600 million yuan. Yihua Real Estate spent an implied transaction price of 700 million yuan to acquire Cherish-Yearn. Yet, Yihua Real Estate’s market capitalisation lost 3.4 billion yuan within one week after the acquisition announcement, implying market’s low confidence in this business.

In our view, its failure could be attributable to (i) the large upfront entrance fees which are not easily accepted and affordable for the traditional senior population; (ii) the project size is too big, compared to the usual 150 to 200 units for CCRC projects in the US. In the initial years, the project also faced problems regarding uncertain land-use rights.

Cherish-Yearn’s membership fees

Membership

Unit size

(square

metre)

Entrance fee

(yuan)

Annual

service fee

(yuan)

Permanent

(hereditable and

transferable)

58 750,000 29,800

72 39,800

120 69,800

Life membership 58 450,000 23,800

72 550,000

120 880,000

50 years 58 20,000 per

square metre

23,800

72

120

Source: Company

Case 2: Sino-Ocean’s Senior Living L’amore in Beijing. The first project in Yizhuang was Sino-Ocean’s residential public housing project, which was completed and returned to the local government in 2013. Then, Sino-Ocean leased the area at a relatively low rental rate at 2 yuan per square metre per month from the government. Since the area was supposed to be senior housing when the land was transacted, the building was designed and constructed for senior housing purposes and there is no redesign or repositioning issue for Sino-Ocean.

The project, with 89 rooms and 116 beds, was opened in August 2013. The renovation/facilities cost per room was 300,000 yuan, translating into total renovation costs of 26.7 million yuan. After three years in operation, the project currently has occupancy of 96% and started to make profits in the last three months of 2016. Revenue-per-occupied-bed is currently 11,000 yuan with total revenue aiming at 15 million yuan in 2017. On-site management expects the earnings before interest, tax, depreciation and amortisation (EBITDA) margin to gradually improve to 35% in the



Page 16

medium term, driven by rental revision and improving cost efficiency. Assuming 25% normalised EBTDA margin (similar to peers in US and Europe), its mid-term EBITDA yield on renovation costs could go up to 14%, which is quite a good return.

The success of this project could enable Sino-Ocean to quickly apply this model to other government projects or some idle projects being built by other developers. In fact, it already has four asset-light projects in Beijing now. In addition, this may also allow Sino-Ocean to have advantages when bidding for residential land in top-tiered cities, given local governments’ increasing focus on senior housing.

Senior Living L’amore’s monthly fee

Independent living

Basic monthly fee (yuan)

first elderly resident

second

elderly

resident

Deposit for emergence 80,000 20,000

Standard unit - A 8,500 4,200

Standard unit - B 9,600

Suite - A 14,400

Suite - B 16,000

Suite - C 20,800

Assistance with daily

living activities Monthly fee (yuan)

Level-1 care 1,500

Level-2 care 3,500

Level-3 care 5,500

Level-4 care 8,000

Source: Company

Case 3: Nichii Gakkan’s home care service. Nichii Gakkan (9792.JP, not rated) is, in fact, a senior in-home service provider instead of a senior housing provider. The largest senior care service provider in Japan, Nichii Gakkan offers in-home nursing and assistance with daily living activities. The

reason we have this case here is we think its business model looks more suitable for senior care in China. Also, partnered with local Chinese companies, the asset-light model is expanding rapidly in China and making good money as well. Moreover, if such a model turns out to be more favourable in China, it may dilute demand for senior housing.

As we mentioned previously, the government is trying to build a three-layer senior-care system with 90% of the senior population being taken care of in their own homes. Nichii’s model can accommodate 90% of the senior population, while the other market participants are rushing into the senior housing sector, which is supposed to accommodate 3-4% of senior population. In addition, Nichii also provides training services to cater to the rising demand for nursing staff.

Supported by strong business expansion in China, Nichii recorded 51.6% year-on-year growth in revenue in the first quarter of the 2017 fiscal year, and 215% year-on-year growth in operating income in China.

Nichii Gakkan’s financial performance in China

(million yen)

FY2016

First

quarter

FY2017

First

quarter

change,

year-on-

year

Total sales 67,878 68,414 0.8%

China sales 318 482 51.6%

China as % of total 0.5% 0.7%

Total operating income -614 -215 n/m

China operating income 116 365 214.7%

China as % of total n/m n/m

China operating margin 36% 76%

Source: Company



Page 17

DBSVHK recommendations are based an Absolute Total Return* Rating system, defined as follows:

STRONG BUY (>20% total return over the next 3 months, with identifiable share price catalysts within this time frame)

BUY (>15% total return over the next 12 months for small caps, >10% for large caps)

HOLD (-10% to +15% total return over the next 12 months for small caps, -10% to +10% for large caps)

FULLY VALUED (negative total return i.e. > -10% over the next 12 months)

SELL (negative total return of > -20% over the next 3 months, with identifiable catalysts within this time frame)

Share price appreciation + dividends Completed Date: 16 Feb 2017 16:03:41 (HKT) Dissemination Date: 16 Feb 2017 16:43:51 (HKT) GENERAL DISCLOSURE/DISCLAIMER This report is prepared by DBS Vickers (Hong Kong) Limited (“DBSVHK”). This report is solely intended for the clients of DBS Bank Ltd., DBS Vickers Securities (Singapore) Pte Ltd. (“DBSVS”) and DBSVHK, its respective connected and associated corporations and affiliates only and no part of this document may be (i) copied, photocopied or duplicated in any form or by any means or (ii) redistributed without the prior written consent of DBSVHK. The research set out in this report is based on information obtained from sources believed to be reliable, but we (which collectively refers to DBS Bank Ltd., DBSVS and DBSVHK, its respective connected and associated corporations, affiliates and their respective directors, officers, employees and agents (collectively, the “DBS Group”)) do not make any representation or warranty as to its accuracy, completeness or correctness. Opinions expressed are subject to change without notice. This document is prepared for general circulation. Any recommendation contained in this document does not have regard to the specific investment objectives, financial situation and the particular needs of any specific addressee. This document is for the information of addressees only and is not to be taken in substitution for the exercise of judgement by addressees, who should obtain separate independent legal or financial advice. The DBS Group accepts no liability whatsoever for any direct, indirect and/or consequential loss (including any claims for loss of profit) arising from any use of and/or reliance upon this document and/or further communication given in relation to this document. This document is not to be construed as an offer or a solicitation of an offer to buy or sell any securities. The DBS Group, along with its affiliates and/or persons associated with any of them may from time to time have interests in the securities mentioned in this document. The DBS Group may have positions in, and may effect transactions in securities mentioned herein and may also perform or seek to perform broking, investment banking and other banking services for these companies. Any valuations, opinions, estimates, forecasts, ratings or risk assessments herein constitutes a judgment as of the date of this report, and there can be no assurance that future results or events will be consistent with any such valuations, opinions, estimates, forecasts, ratings or risk assessments. The information in this document is subject to change without notice, its accuracy is not guaranteed, it may be incomplete or condensed, it may not contain all material information concerning the company (or companies) referred to in this report and the DBS Group is under no obligation to update the information in this report. This publication has not been reviewed or authorized by any regulatory authority in Singapore, Hong Kong or elsewhere. There is no planned schedule or frequency for updating research publication relating to any issuer. The valuations, opinions, estimates, forecasts, ratings or risk assessments described in this report were based upon a number of estimates and assumptions and are inherently subject to significant uncertainties and contingencies. It can be expected that one or more of the estimates on which the valuations, opinions, estimates, forecasts, ratings or risk assessments were based will not materialize or will vary significantly from actual results. Therefore, the inclusion of the valuations, opinions, estimates, forecasts, ratings or risk assessments described herein IS NOT TO BE RELIED UPON as a representation and/or warranty by the DBS Group (and/or any persons associated with the aforesaid entities), that: (a) such valuations, opinions, estimates, forecasts, ratings or risk assessments or their underlying assumptions will be achieved, and (b) there is any assurance that future results or events will be consistent with any such valuations, opinions, estimates, forecasts, ratings or risk assessments

stated therein. Please contact the primary analyst for valuation methodologies and assumptions associated with the covered companies or price targets. Any assumptions made in this report that refers to commodities, are for the purposes of making forecasts for the company (or companies) mentioned herein. They are not to be construed as recommendations to trade in the physical commodity or in the futures contract relating to the commodity referred to in this report. DBS Vickers Securities (USA) Inc ("DBSVUSA"), a U.S.-registered broker-dealer, does not have its own investment banking or research department, has not participated in any public offering of securities as a manager or co-manager or in any other investment banking transaction in the past twelve months and does not engage in market-making.



Page 18

ANALYST CERTIFICATION The research analyst(s) primarily responsible for the content of this research report, in part or in whole, certifies that the views about the companies and their securities expressed in this report accurately reflect his/her personal views. The analyst(s) also certifies that no part of his/her compensation was, is, or will be, directly or indirectly, related to specific recommendations or views expressed in the report. The DBS Group has procedures in place to eliminate, avoid and manage any potential conflicts of interests that may arise in connection with the production of research reports. As of 16 February 2017, the analyst(s) and his/her spouse and/or relatives who are financially dependent on the analyst(s), do not hold interests in the securities recommended in this report (“interest” includes direct or indirect ownership of securities). The research analyst(s) responsible for this report operates as part of a separate and independent team to the investment banking function of the DBS Group and procedures are in place to ensure that confidential information held by either the research or investment banking function is handled appropriately.

COMPANY-SPECIFIC / REGULATORY DISCLOSURES 1. DBSVHK and its subsidiaries do not have a proprietary position in the securities recommended/mentioned in this report as of 15 Feb

2017.

2. Compensation for investment banking services: DBSVUSA does not have its own investment banking or research department, nor has it participated in any public offering of securities as a manager or co-manager or in any other investment banking transaction in the past twelve months. Any US persons wishing to obtain further information, including any clarification on disclosures in this disclaimer, or to effect a transaction in any security discussed in this document should contact DBSVUSA exclusively.

3. Disclosure of previous investment recommendation produced: DBS Bank Ltd, DBSVS, DBSVHK, their subsidiaries and/or other affiliates of DBSVUSA may have published other investment recommendations in respect of the same securities / instruments recommended in this research report during the preceding 12 months. Please contact the primary analyst listed in the first page of this report to view previous investment recommendations published by DBS Bank Ltd, DBSVHK, their subsidiaries and/or other affiliates of DBSVUSA in the preceding 12 months.

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Page 19

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Documents

China Property Sector - DBS Bank business, but using the senior care concept to attract eyeballs. Developers using this model include Poly CN, Vanke, Greentown and Greenland. This