Frasers Commercial Trust - No heart break even if we split
- 2Q17 DPU of 2.51 Scts (+2% y-o-y) in line with expectations.
- Growth in DPU on the back of higher contribution from the Australian portfolio.
- No further clarity over HP lease but we believe this potential risk has been priced in.
Negatives priced in.
- We maintain our BUY call with a revised TP of S$1.52.
- Frasers Commercial Trust (FCOT) has de-rated over the past year due to fears of a downturn in the Singapore office market and concerns over HP Inc and HP Enterprise leaving (c.17.7% of group gross rental income) Alexandra Technopark in September and November 2017. However, we believe these risks have been overblown given FCOT’s ability to maintain its current DPU through managing the proportion of payment of management fees in units and/or distribution of capital gains from the sale of the hotel development site at China Square Central.
Potential loss of HP as a tenant a blessing in disguise.
- Based on our analysis of HP Inc and HP Enterprises’ property footprint in Singapore, we anticipate that HP Enterprise will leave Alexandra Technopark. However, we think this is a blessing in disguise as it offers FCOT an opportunity to undertake an AEI (asset enhancement initiative) to increase rents and the value of the property in the medium term.
Spread to other office REITs too wide.
- FCOT currently trades on a 7.4% yield compared to the 5.7% average for large-cap office REITs such as CapitaLand Commercial Trust (CCT) and Keppel REIT (KREIT). We believe the 1.7% yield differential, which is higher than the historical average spread of 0.8%, is unwarranted given FCOT’s ability to maintain its current DPU.
- After rolling forward our valuation to FY18, we raised our DCF-based TP to S$1.52 from S$1.46.
- With 15% capital upside and yield in excess of 7%, we maintain our BUY call.
Key Risks to Our View
- Unfavourable forex movements. As FCOT derives c.45% of its net property income in AUD while distributions are based in SGD, foreign currency fluctuations will have an impact on distributions.
- The Manager has hedged its AUD exposure on a rolling basis of 6-9 months to mitigate such risks.