SPH REIT - DBS Research 2018-01-08: Trading Off Rental For Occupancy

SPH REIT - DBS Vickers 2018-01-08: Trading Off Rental For Occupancy SPH REIT SK6U.SI

SPH REIT - Trading Off Rental For Occupancy

  • SPHREIT's 1Q18 top-line performance and DPU were largely flat.
  • Paragon registered negative rental reversion of 10.6%, mainly come from high-end fashion retailers.
  • Tenant retention remains high over 80% and committed occupancy stays at 100% for both malls.
  • Maintain HOLD.

Resilient performer; Maintain HOLD due to valuation. 

  • SPH REIT’s earnings are resilient, supported by sticky occupancies while its low gearing of c.26% empowers the Manager to potentially undertake value accretive acquisitions. 
  • We upgraded the REIT in March 2017 on the back of potential acquisition of The Seletar Mall. The stock price went up by 5% in October as the completion of first rental renewal cycle of the mall boosted market sentiment that an acquisition was around the corner.
  • Given limited upside to our TP, we maintain HOLD.

Where we differ: Incorporated contribution from The Seletar Mall from FY19. 

  • We have priced in the acquisition of The Seletar Mall and account for the contribution to start from FY19, whereas the market seemed to have pushed the acquisition to a much later date or not priced in at all.

Potential catalyst: Higher debt-financed The Seletar Mall acquisition will drive price. 

  • We have estimated the acquisition cost of The Seletar Mall to be S$500m and will be funded by 30/70 of equity/debt, while pushing the aggregate leverage to 32% from the current level of 26%. 
  • Nevertheless, given the REIT’s low gearing, we do not exclude the possibility of a higher debt-funded acquisition which should lift price up further.


  • Maintain DCF-backed TP of S$1.07. The stock offers a dividend yield of close to 5.5% and price upside potential of 2%.
  • Maintain HOLD due to total potential return less than10%.

Key Risks to Our View

  • Timing and price of The Seletar Mall acquisition. We have factored in contributions from The Seletar Mall from FY19F.
  • Later-than-projected timeline or higher purchase price implies downside to our estimates.

WHAT’S NEW - 1Q18 Results

Numbers largely flat, magnitude of negative reversion may come as a surprise to the market 

Performance is largely flat: 

  • SPH REIT reported 1.7% and 1.9% y-o-y increase in revenue and net property income to S$53.5m and S$42.2m respectively. 
  • Distributable income increased slightly by 0.5% to S$36.5m y-o-y, out of which 94.1% was paid out this quarter which translated to DPU of 1.34 Scts, flat y-o-y, and represents 24.1% of our FY17 forecast of 5.55 Scts.

Occupancy at an expense of lower reversion: 

  • Both malls continued their track record of fully committed occupancy. However, as anticipated from last quarter, renewal rentals are under pressure on the back of tepid retail spending over the last three years. 
  • Paragon recorded a rental reversion of - 10.6% for the 4.4% of NLA renewed and newly signed, most of the leases were committed about a year ago. The tenancy came from discretionary spending, primarily in high-end fashion. 
  • Clementi Mall also recorded a negative rental reversion but for a much smaller space that only represents 1.1% of the mall’s NLA, so the net impact is immaterial. Tenant retention rate is stable around 80%. Another 18.0% of leases by gross rental income will be due to renew for the remaining nine months in FY2018.
  • The Manager acknowledged that they have been more flexible in their leasing strategy as the ongoing uncertainties in the retail sector are starting to bite. As such, they are focusing on helping the tenants to maintain their occupancy cost which is around 19.5% for Paragon and 15.5% for Clementi Mall.

Debt refinancing in FY18. 

  • S$320m or 37.6% of total debt outstanding is due in FY18. The Manager is in advanced talks with banks on its refinancing and the rates offered are competitive. Hence the cost of borrowing should remain stable. 
  • Gearing level is still among the lowest among S-REITs at 25.4%.

Maintain HOLD. 

  • We downgraded the stock from BUY to HOLD in December as it had achieved our target price. The market may have anticipated flat to negative reversion but the magnitude may have come as a surprise. Hence near-term pressure on the stock price is probable. 
  • In the medium to long run, we believe Paragon is still one of the more resilient retail assets in Singapore and the strategy adopted by the management to trade off rental rate for occupancy makes sense. 
  • Catalyst remains on higher debt financing to fund The Seletar Mall acquisition. 
  • Maintain HOLD with TP unchanged at S$1.07.

Singapore Research DBS Vickers | Derek TAN DBS Vickers | Mervin SONG CFA DBS Vickers | http://www.dbsvickers.com/ 2018-01-08
DBS Vickers SGX Stock Analyst Report HOLD Maintain HOLD 1.070 Same 1.070