Property & REITs - UOB Kay Hian 2016-05-24: Bringing It All Back Home

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Singapore Property CAPITALAND LIMITED C31.SI  CAPITALAND COMMERCIAL TRUST C61U.SI 

Property/REITs ‒ Singapore - Bringing It All Back Home

• CCT’s anticipated acquisition of the remaining 60% CapitaGreen stake fulfilled management’s goal of full ownership since the redevelopment of the Market Street Car Park. With the acquisition already factored in, we maintain BUY on CCT with an unchanged target price of S$1.79. 
• CapitaLand will book a divestment gain of S$196m, in line with management’s capital recycling strategy to boost ROE. Maintain BUY on CapitaLand with an unchanged target price of S$4.08. 
• Maintain OVERWEIGHT on the sector.

WHAT’S NEW

• CapitaLand Commercial Trust (CCT) announced the proposed acquisition of the remaining 60% CapitaGreen stake from CapitaLand (CAPL) and Mitsubishi Real Estate yesterday for an acquisition outlay of S$393m. Key conditions to be met are: 
  1. market value (S$1,600.5m, S$2,276 psf, cap rate of 4.15%) should be equal to the hurdle price (S$1,585.8m), and 
  2. unitholders’ approval.

ESSENTIALS

CapitaLand Commercial Trust (CCT SP/BUY/Target:S$1.79)

• Bringing it all back home. 

• In 2011, the development limit of 10% capped CCT’s involvement in the redevelopment of its 100%-owned Market Street Car Park asset. 
• The REIT Manager thus took up 40% ownership of the redeveloped project, renamed CapitaGreen, partnering up with parent CAPL (50%) and Mitsubishi (10%). 
• The acquisition of the remaining 60% stake was thus long overdue for management.

• Treading the fine line between payoff and cost due to time and control sensitivity. 

• Eyebrows were raised regarding the timing of the proposed acquisition, given supply headwinds in end-16 and ongoing declines in Grade-A rents. However, management pointed out the expiration of the Call Option for acquisition by Dec 17, enabling third-party acquisitions causing the REIT manager to become a minority shareholder. 
• In addition, acquisition cost would increase, as the hurdle price is computed on total development net of income received, and compounded by 6.3% annually.
• This also implies management’s confidence in CapitaGreen’s capital values trending upwards in Dec 16, likely from higher revenue occupancy as rental contribution kicks in after respective tenant rent-free periods (committed occupancy now at 92.8%, though current market valuation only assumes 77.7% occupancy). We note that this underpinned the S$23.00 psf increase in CapitaGreen’s valuation (4Q15: S$2,253 psf).

Further upside from CapitaGreen. 

• The aforementioned NPI yield of 3.2% assumes revenue occupancy of 77.7% at CapitaGreen. With committed occupancy now at 92.8%, we expect further income to stream in likely by end-16, once tenants move in from their existing premises into CapitaGreen and conclude their respective rent-free periods. Also there is room to improve performance by backfilling the remaining 7.3% space.

Net property income yield well below trading yield, DPU accretion through debt. 

• Capitagreen’s NPI yield of 3.2% is well below that of CCT’s trading forward yield of 7.1%. DPU accretion of 1.4% is thus premised upon 100% debt financing of the proposed acquisition, with an assumed borrowing cost of 3% on the acquisition outlay.
• Acquisition is in line with our expectations, as our earnings estimates had already factored in the acquisition in 2H16, with an expectation of contributions kicking in from 2017 onwards. This was a primary reason for our higher-than-consensus FY17-18 DPU estimates.

Well-spread out lease expiry profile. 

• CapitaGreen’s committed occupancy stood at 92.8% as of 31 Mar 16, with a well-spread lease expiry profile, with leases starting to come due for expiry only in 2018, placing it in good stead for the incoming supply glut of office space slated to hit the market from 2H16.

Purchase consideration in line with market valuation. 

• The purchase outlay of S$393m, based on a valuation of S$1,600.5m (S$2,276psf by NLA), is in line with the average of property consultants’ valuations (Knight Frank: S$1,602m, CBRE: S$1,599m).

Limited debt headroom for further acquisition. 

• Gearing would increase from 30.1% to 37.7%, within management’s comfort gearing level of 40%. An assumed gearing limit of 40% would leave CCT with implied debt headroom of about S$331m. 
• We opine that it is unlikely for management to resort to perps to fund future acquisitions due to the adverse impact on yield accretion, eg MLT’s recent perp issuance at 4.18% vs CapitaGreen’s NPI yield of 3.2%.
• Maintain BUY on CCT with a target price of S$1.79, based on DDM (required rate of return: 7.2%, terminal growth: 1.7%).

CapitaLand (CAPL SP/BUY/Target:S$4.08)

• Minimal impact on RNAV, as the valuation of S$2,276 psf for land tenure of 57 years came in line with our expectations (S$2,700 for 99-year land tenure), leaving our RNAV of S$5.11/share largely unchanged. 
• The sale of its 50% stake in CapitaGreen would result in divestment gains of S$196m (S$8.5m+ S$187.5m) on the revalued book and S$100m gains on initial cost.

In line with management’s capital recycling strategy. 

• The proposed divestment of its stake in CapitaGreen is the latest in a string of recent capital recycling initiatives by CAPL. Among them were the divestment of Bedok Mall to CMT in Jul 15, serviced residences and rental housing properties to Ascott REIT, as well as the disposal of PWC building, both in Jun 15.

Opportune time. 

• With an impending supply glut of over 4m sqf in commercial space by NLA coming on stream from 2H16 onwards and declining Grade A rentals (13% down from peak), this could represent a prime opportunity for CAPL to reinvest its capital.
• Maintain BUY on CAPL and target price of S$4.08 based on a 20% discount to our RNAV of S$5.11/share.

PEER COMPARISON 

Vikrant Pandey UOB Kay Hian | Derek Chang UOB Kay Hian | http://research.uobkayhian.com/ 2016-05-24

UOB Kay Hian SGX Stock Analyst Report BUY Maintain BUY 4.08 Same 4.08

BUY Maintain BUY 1.79 Same 1.79