Price Target: 12-month S$1.60
Waiting to Strike
• Growth engines humming in tune
• Completion of inorganic growth initiatives to propel DPU to grow at a 2-year CAGR of 7%
• BUY, TP S$1.60
Growth engines humming in tune. The coming two years could be transformational for CRCT. After finetuning its portfolio tenant mix and the completion of various asset enhancements, CRCT’s portfolio of malls have been consistently seeing strong shopper traffic and tenant sales, resulting in higher rental reversions (averaging 17% over 2Q12-2Q13) compared to the average of 12% over 1Q11-1Q12. With a renewed tenant mix and a stronger operational footing, we believe this trend is likely to continue going forward.
Inorganic growth initiatives to propel the trust forward. In addition, CRCT aims to deliver earnings alpha through planned inorganic growth initiatives via
(i) refurbishment of CapitaMall Mingzhongleyuan Mall and
(ii) proposed acquisition of Grand Canyon Mall, which when completed in 1H14 will be key growth catalysts for CRCT.
Apart from a robust FY13-15F DPU CAGR of 7% (almost doubling its organic growth potential), CRCT’s earnings base will also broaden and will be further diversified. Contribution from its multitenanted malls will increase to 79% of net property income, meaning that the trust earnings should better reflect underlying performance.
BUY maintained, TP S$1.60. We see value emerging after the recent price decline. The stock offers an attractive FY13-15F DPU yield of 7.0%-8.3%, which is higher than the S-REIT peer average of 6.3-6.7%.
Transformational years ahead.
The coming few years could be transformational for CapitaRetail China Trust (CRCT). The trust’s organic performance continues to remain robust as their malls mature operationally – rental reversions and the malls’ tenant sales continue to remain healthy. In addition, planned inorganic growth initiatives through (i) refurbishment of CapitaMall Mingzhongleyuan Mall, to be completed by the middle of FY14 and the (ii) proposed acquisition of Grand Canyon Mall by the end of FY13/early FY14, will be growth catalysts when completed.
The contribution from the fully-refurbished CapitaMall Mingzhongleyuan and the proposed acquisition of Grand Canyon Mall Beijing will further diversify CRCT’s income contribution and reduce its income reliance on CapitaMall Wangjing and CapitaMall Xizhimen, which currently contribute close to 55% of net property income (NPI), bringing it down to 48% by FY15. Grand Canyon Mall Beijing is expected to be 3rd largest contributor, at 13% of net property income (NPI).
In addition, income contribution from its master-leased properties (CapitaMall Anzhen, Erqi and Shuangjing) will drop from 27% to 21% by FY15, implying that the trust’s income will clearly reflect underlying income performance.
Upon completion of the planned asset enhancement initiatives at CapitaMall Mingzhongleyuan and the planned acquisition of Grand Canyon Mall over FY14F, we project CRCT’s DPU growth to accelerate by c.12% in FY15F, implying a 3-year CAGR of 7% (over FY13F-15F). This is almost double the estimated CAGR of 4% in organic growth that the current portfolio is projected to deliver.
Portfolio of malls shows strong operational metrics
Management has been proactive in managing its portfolio and has undertaken various initiatives – ie, changing tenant mix and/or revamping the mall (in the case of CapitaMall Wuhu and CapitaMall Saihan) to cater to changing consumer preferences and demographics within the mall’s competitive set.
In addition, leveraging on their Sponsor’s CMA strong tenant network, track record and presence in China, CRCT continues to attract international names like Zara, GAP and Uniqlo, which have been gaining popularity with Chinese consumers in recent years, fueled by the urbanisation and rising affluence within the middle class in China. The ability for CRCT to attract such strong tenant names has further improved the attractiveness of their malls, in our view.
rom an income perspective, CRCT’s derives a large 75%- 77% of NPI over the coming two years from Beijing, which is China’s capital and largest retail market. The workforce is highly educated with high disposable incomes and has been increasing by a CAGR of 10-13% over the past four years.
Supported by the ongoing change in tenant mix and asset repositioning strategies, CRCT’s portfolio of malls has been doing well - retail sales trend continue to remain positive.
As of 2Q13, average monthly sales posted a 9.5% y-o-y increase and have been outperforming the overall retail sales growth in China since 2010. Shopper traffic at their malls has also been on a steady uptrend of 17% p.a. over the past three years.
The strength of management’s expertise goes further than just mall management. Previous asset repositioning and renovations done at CapitaMall Qibao and CapitaMall Saihan significantly improved the operational performance of both malls when completed.
Over the past four years, CapitaMall Qibao and CapitaMall Saihan have seen their gross revenues increase by a CAGR of 13.0% and 28.8% respectively.
These malls’ firm operational footing and optimum tenant mix that enjoys both strong shopper traffic and sales, augur well for their future performance. In addition, we expect stronger rental uplifts from these malls as they undergo further stabilisation though their first rental renewal cycle over FY14-15F.
We believe that the organic growth potential for CRCT’s portfolio remains firm on the back of proactive tenant remixing strategies (please see report titled: Ramping up growth engines on 30th April’12), which have resulted in higher rental reversions for the portfolio (averaging 17% over 2Q12-2Q13) compared to the average of 12% over 1Q11-1Q12. With a renewed tenant mix, we believe this trend is likely to continue going forward, further supported by the urbanisation and rising affluence of the middle class in China, which imply that tenant sales performance is likely to remain fairly stable.
Over the FY13-14F, CRCT will be renewing close to 33.1% of its income (17.1% in FY13, 16.0% in FY14), we believe that rental reversion should continue and estimate rental hikes in the c.15% region (ie, 5% p.a.) as the malls enjoy the benefit of previous asset repositioning strategies initiated by the management over the past few quarters. A majority of the expiring leases will come from its two largest malls - CapitaMall Xizhimen and CapitaMall Wangjing which is estimated to contribute c.75% of topline, with the remaining coming mainly from CapitaMall Saihan, Qibao and Shuangjing (averaging 6-8% each). We remain optimistic that the management will continue to deliver growth as expiring rents over FY13F would have commenced during the 2010 period, when operating conditions were more subdued. This is further supported by the improved portfolio with strong tenant sales and high shopper traffic. In our view, this will likely mean that retention rates and rental growth potential will remain high.
Inorganic growth engines at work
Supported by a maturing portfolio that delivers stable returns, the management aims to create beta through the two main inorganic growth initiatives, being the (i) asset enhancement initiatives (AEI) at CapitaMall Mingzhongleyuan and (ii) proposed acquisition of Grand Canyon Mall Beijing.
(i) CapitaMall Mingzhongleyuan Mall In 2Q13, CRCT revealed its AEI plans for Minzhongleyuan, which it acquired in 2011 for Rmb395m (S$76m). The announced AEI works will involve an extensive overall makeover of the mall and will require its complete closure. A majority of the remaining leases will expire this quarter, and management hopes to shut the mall thereafter for a period of c.9 months, targeting a May 2014 re-opening, which will coincide with the Spring Festival in China.
Plans include upgrading and expanding the common areas and corridors, optimising the lettable area for smaller tenants, and reconfiguring the shopping space for better shop front visibility. Through these efforts, the management hopes to attract more well-regarded brands, and increase shopper traffic.
The estimated costs for this project is c.Rmb103 m, which the REIT will fund, via a combination of debt and cash on the balance sheet (raised during the equity fund raising in late 2012). The manager is targeting an average rental rate increase of c.35% vs pre-AEI levels (translating to Rmb10.4m p.a. or c.10% ROI), and a stabilised NPI yield (based on acquisition and AEI cost) of 8.4%.
With an established track record in turning around underperforming malls in CapitaMall Saihan and Qibao, we remain confident that the management is able to once again achieve the targeted returns of c.10% upon completion by 1H14.
(ii) Proposed Acquisition of Grand Canyon Mall CapitaRetail China Trust (CRCT) recently announced the proposed acquisition of Grand Canyon Mall in South Beijing, which will be the first 3rd party acquisition for the trust since its listing. This was done through a back-to-back deal with its sponsor, CapitaMalls Asia (CMA). The ability for CRCT to participate in this deal highlights the benefit of being part of a CMA group. Given its established presence and networks in China, the CMA group enjoys good access to potential deals that CRCT alone, given a smaller footprint, might not be able to obtain.
CRCT is proposing to acquire this mall at a total price of Rmb1.82bn (property price of Rmb1.74 bn) translating to a cost of Rmb26,000 psm. This acquisition is expected to be completed by the end of 2013/early 2014 upon the approval of the Chinese government.
Grand Canyon Mall is located in the Fengtai District in Beijing, which has been enjoying healthy growth in retail sales and urban consumption expenditure over the past few years, implying that the mall is likely to see healthy shopper traffic and sales.
Grand Canyon Mall has a GFA c.70,000sm and is welllocated near transport conveniences with a large office and residential catchment surrounding it. It is estimated that more than 55,000 residents and office workers are within a 10-min walking distance and more than 650,000 residents and office workers within a 5 km radius.
Pricing in line with its portfolio of malls
We believe that the acquisition price of Rmb1.82bn (inclusive of projected capital expenditure, implies a price of Rmb26,000 psm GFA, which is in line with the current portfolio of malls (CapitaMall Xizhimen, Wangjing , Anzhen), also located in Beijing.
Attractive rental growth opportunity
We believe that there is strong rental reversionary upside potential for Grand Canyon Mall, which is currently underrented. Based on a present occupancy of 92.7%, at the acquisition price of Rmb1.82bn, the mall is trading at an NPI of 3.5%, which is below the current portfolio average 6.3%.
However, taking into account the property’s WALE and expiring rents, which is currently up to 100% below market levels, the reversionary growth for the property is expected to be strong. Based on initial estimates and targets set by management, the mall is expected to see NPI yields reach 5% by 2014 and expand to a target yield of 7-8% by 2016- 17, on the back of positive reversions in the coming years.
Accretion is expected
Being fairly sizable, Grand Canyon Mall, upon completion of the acquisition, is expected to form 19% of CRCT’s expanded portfolio.
Given its size, CRCT will likely raise new equity to part-fund this acquisition, and given its gearing limit of 35% (vs current 23.5% gearing), we believe that to achieve the accretion for the trust, we estimate the optimal funding ratio to be at 79% (new debt and existing cash) and new equity ( 21% of total cost). This will result in a net funding cost of c.4.8% which is similar to the NPI yield of the property a year down the road. We have assumed this funding ratio in our forecasts.
In addition, the management is rolling out its Dividend Reinvestment Plan (DRP) over the next two quarters which will provide unitholders an option of receiving distribution in units (at a 4% discount) in lieu of cash. We believe this is a cost-effective way to raise additional equity as well as to partly conserve cash to finance the purchase of Grand Canyon Mall.
BUY Call maintained, TP S$1.60. Our target price is maintained at S$1.60. CRCT offers investors a pure China consumption driven exposure, which we believe will remain robust, through its portfolio of retail malls. We see the share price weakness in recent weeks as opportunities to buy in. The stock offers forward yields of 7.0-8.3%, which we believe is attractive.
Publish date: 12/09/13