Suntec REIT (SUN SP) - UOB Kay Hian 2017-07-27: 2Q17 Optimisation At Home; Acquisitions Abroad

Suntec REIT (SUN SP) - UOB Kay Hian 2017-07-27: 2Q17: Optimisation At Home; Acquisitions Abroad SUNTEC REAL ESTATE INV TRUST T82U.SI

Suntec REIT (SUN SP) - 2Q17: Optimisation At Home; Acquisitions Abroad

  • Suntec REIT's results were in line with expectations. The office segment and contributions from new acquisitions offset weakness from the retail segment. Management expressed their commitment to increasing utilisation rates for Suntec City Mall by subdividing units and raising rents, while keeping the overall quantum affordable for tenants.
  • Suntec also expanded their footprint in Australia to 12% from 8% (in terms of GAV) with the DPU-accretive acquisition of 477 Collins Street. 
  • Maintain HOLD with a higher target price of S$1.95.



RESULTS


Results in line with expectations. 

  • Suntec REIT reported a 2Q17 DPU of 2.493 S cents, down 0.3% yoy, due to a greater unit base from the 95.7m unit issuance.
  • Revenue and NPI increased as a result of full contribution from 177 Pacific Highway and Southgate Complex that were acquired. The 1H17 DPU is in line with our expectations, accounting for 48.2% of full-year estimate.


STOCK IMPACT

  • Office portfolio occupancies stood at 98.7% (-0.2ppt qoq) and tenant retention rate declined 1.3ppt qoq to 74%. About 118,000 sf of office NLA was leased this quarter (1Q17: 130,000 sf), of which 23% were from new tenants (1Q17: 31%).
  • Retail portfolio occupancies rose to 99% from 98% in the previous quarter. Tenant retention similarly rose marginally by 0.4ppt to 73%. More retail NLA was leased this quarter, with 152,000 sf leased as compared to 39,000 sf in the previous quarter; 36% of these leases were new (1Q17: 44%).

Rising average secured rents in Singapore. 

  • Average secured rent for the Singapore portfolio rose by 1.5% qoq to S$8.79 psf pf. Overall occupancy rate, however, declined by 0.6ppt qoq. Management believes that the Singapore office market will remain under pressure due to supply headwinds Office segment offsets weaker retail segment. 
  • On a yoy basis, retail and convention centre revenue declined by S$1.6m (-5.2% yoy) and S$0.9m (-6.2% yoy), respectively.
  • Office revenue, however, increased by S$10.9m (+33.4% yoy), offsetting the declines of retail and convention centre segments. MBFC and One Raffles Quay were exceptions in the office segment: The former recorded a decline in revenue of S$1.07m (JV stake) and the latter’s revenue declined yoy due to lowered rental reversions. 
  • Management is currently in final negotiations for 23.3% of the expiring NLA and highlighted that slight negative rental reversions are to be expected. Management guided that the expiring leases are in the range of S$8 psf pm and guided that there will be negative reversion in the low single digits.

Challenging retail environment remains. 

  • Average prime retail rents dropped 2.2% qoq to S$24.75 psf pm islandwide with particular weakness from the City Hall-Marina Centre and fringe areas, according to CBRE. Incoming supply of 925,582 sf of retail space in 2H17 and a further 1.64m sf in 2018 will depress retail rents for 2017 and 2018.

Optimising Suntec City Mall’s utilisation rate. 

  • Management is looking to sub-divide around 20% of the retail units in Suntec City, raising rents to over S$30 psf pm for small spaces, while keeping the overall quantum affordable for tenants. 
  • Management expects to bring in quality tenants in the newly-carved out spaces that would lead to a secondary wave of tenants.

Acquisition of Olderfleet, 477 Collins Street in Melbourne. 

  • Suntec REIT acquired a 50% stake in the premium grade - the highest grade set by the Property Council of Australia - office building for A$414.17m (S$445.52m) from Mirvac Group. The property is to be completed in mid-2020. 39.1% of NLA has been pre-committed by Deloitte, who will use the property as their Melbourne HQ. 
  • Management rationalised the acquisition of the 50% stake in Olderfleet, 477 Collins Street with the rarity of finding premium grade office buildings in Melbourne as the holding period for such properties are on the order of 20 years.

Yield accretive with income guarantees. 

  • The acquisition agreement for the property is such that the partner, Mirvac, is to provide a 5-year rental guarantee on any unlet space and to bear all development risks. The guarantee on the unlet space will be set such that the property would generate an initial yield of 4.80% with annual escalation of 3.50% to 3.75%. 
  • Management projects that the property will prove to see a 1.8% DPU accretion.

Gearing to rise to 42%. 

  • Suntec REIT will make progressive payments for the property based on the construction progress of the property. There will be a coupon rate at 4.80% p.a. on the progressive payments made. The acquisition will be funded in Singapore dollar-denominated debt with hedges set against currency fluctuations. After the acquisition of Olderfleet, 477 Collins Street and assuming the 50% acquisition of 9 Penang Road, gearing will rise to 42%.

Australia exposure to rise to 12%. 

  • Currently, 7.7% of the total portfolio by GAV is based in Australia. Following the acquisition, Suntec REIT’s footprint in Australia will increase to approximately 12% by GAV. Management has suggested that they are comfortable with holding up to 20% of assets overseas.


EARNINGS REVISION/RISK

  • We raise our 2019 DPU estimate by 3%, factoring in the Olderfleet acquisition and rent improvement at Suntec City.


VALUATION/RECOMMENDATION

  • Maintain HOLD with a higher target of S$1.95 (from S$1.90). 
  • Our valuation is based on DDM (required rate of return: 6.7%, terminal growth: 2%).


SHARE PRICE CATALYST

  • Well-managed execution of Suntec's AEI, with impact on occupancies and rentals mitigated.
  • Positive newsflow on office and retail capital values, AEI, tenant movements and renewals, rentals and occupancy




Vikrant Pandey UOB Kay Hian | http://research.uobkayhian.com/ 2017-07-27
UOB Kay Hian SGX Stock Analyst Report HOLD Maintain HOLD 1.95 Up 1.900



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