OUE Commercial REIT - DBS Research 2016-08-03: Tops expectations, but incoming office supply is a concern

OUE Commercial REIT - DBS Research 2016-08-03: Tops expectations, but incoming office supply is a concern OUE COMMERCIAL REIT TS0U.SI 

OUE Commercial REIT - Tops expectations, but incoming office supply is a concern

  • 2Q16 results ahead of expectations.
  • Stable operational results despite weak office fundamentals.
  • Maintain HOLD, revised TP to S$0.73.



Impediments to re-rating. 

  • We maintain our HOLD call for OUE Commercial REIT (OUECT) with a revised TP of S$0.73. 
  • We remain cautious despite attractive valuation of close to 30% discount to its book value, due to fears over falling office rents ahead of the impending 4.5m sqft of new office space over 2016-2017. 
  • Combined with OUECT’s above-average gearing (around 40%), in our view, its share price is likely to remain range bound in the near term.


Uplift from One Raffles Place (ORP). 

  • With an income support arrangement providing income stability to OUE Bayfront, contributing a third of net property income (NPI) till 2018, earnings upside would come from driving better performance at ORP (c.50% of NPI). 
  • With initial yield estimated at 3.4%, the Manager is actively seeking to push occupancy rates closer to c.95% from c.91% currently.


Earnings risk possible in FY17. 

  • As OUECT’s proactive forward renewals have reduced the number of leases expiring in FY16, the greatest earnings risk for OUECT is in FY17. There are approximately 20% of leases by net lettable area (NLA) at OUE Bayfront and 26% at ORP up for renewal in FY17. 
  • The risk of negative rental reversions arises as rents for these leases were signed during the better times in FY14/15. The potential magnitude of falling rents is still uncertain as it is unclear how aggressive the management of the new office buildings will be in discounting rental rates.


Valuation:

  • Given the better-than-expected 2Q16 results, we raised our FY16-17F DPU by 1-2% and increased our DCF-based TP to S$0.73 from S$0.70 previously.


Key Risks to Our View:

  • The key risk to our view is a greater-than-expected fall in spot Grade A office rents to below S$7 psf/mth. Our current assumption is for rents to bottom out at S$8-9 psf/mth.




Mervin Song CFA DBS Vickers | Derek Tan DBS Vickers | http://www.dbsvickers.com/ 2016-08-03
DBS Vickers SGX Stock Analyst Report HOLD Maintain HOLD 0.73 Up 0.70


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