FRASERS CENTREPOINT TRUST (DMG)

BUY

Price S$1.49

Previous S$1.77

Target S$1.77

Drop i n share price presents buying opportunity Reiterate our top pick for S-REITs. Against the uncertain outlook revolving around weak US and China data, European debt crisis, and China’s property cooling measures, we reiterate our OVERWEIGHT stance on S-REITs which offer a current dividend yield of 6.9%. Our top pick within the space remains Frasers Centrepoint Trust (FCT) which owns prime suburban malls that are experiencing strong positive rental reversion. Despite the Asset Enhancement Initiatives (AEI) at Causeway Point (CWP) which saw occupancy fell to 69% during 1Q11, FCT’s DPU were not affected much due to contribution from its Northpoint 2 and Yew Tee Point which were acquired in Feb 2010. Backed by 1) strong pre-commitment for CWP’s space being redeveloped under AEI, 2) strong rental reversion, and 3) potential acquisition of Bedok Point in 2H11, we believe FCT is primed for growth at cheap valuation. Maintain BUY with TP of S$1.77 based on DDM (COE: 8.8%; TGR: 2.0%).

CWP AEI expected to be completed by Dec 2012. In addition to positive rental reversion from new leases expected at +11-12%, the progressive completion of CWP AEI will add to FCT’s DPU growth. Construction of CWP is currently 33% completed. Despite full completion requires another 1.5 years, the space undergoing refurbishment has been 99% pre-committed, indicating the strong demand for the mall space. Upon completion, the average rent is projected to rise 20% from S$10.2 to S$12.2, giving rise to ROI of 13.0%.

Undemanding valuation given clear growth profile. At S$1.49, FCT is trading at a yield of 3.8% to Singapore’s 10-year bond yield of 2.3%, which is significantly higher than its pre-crisis mean spread of 1.8%. Coupled with its clear growth profile going forward (positive rental reversion, completion of CWP AEI, and acquisition of Bedok Point), we favour FCT as our top S-REIT pick for 2011.

CWP AEI is 33% completed; occupancy rate expected to rise in subsequent quarters. CWP AEI works started in Sep 2010 and is currently 33% completed. Full completion of the AEI works is expected in Dec 2012. Major refurbishment revolves around 1) shifting escalators on B1 and L1 to improve visual lines and create more prime retail space, 2) expanding retail and F&B offerings on L5, as well as 3) introducing more pro-family features. As of Mar 2011, occupancy rate of CWP stood at 69% due to AEI works. In the subsequent quarters of FY11, we expect the occupancy rate to inch upwards to >80% by end FY11.

Rental reversion remains strong at 11.7% over preceding rents in 2QFY11. Suburban malls continue to show strong rental reversion in 2QFY11, particularly CWP which registered 19.8% rental hike over preceding rents. For 1QFY11, the rental hike was 11.6% for the entire portfolio.

Lease expiries to peak in FY12 at 56.6% of total NLA. FCT is already working on renegotiating the leases which are expiring in FY11 and FY12. The lease expiry profile for FY12 is expected to decline due to pre-terminations. Given the defensive characteristics of the suburban malls and the large catchment population in those areas, we think it will not be overly difficult for FCT to seek for new tenants.

Defensive characteristics of prime suburban malls add to FCT’s allure. During the crisis, spot rents of prime suburban mall fell 4% while that of urban mall dropped 13% from peak to trough. In comparison, industrial and office rents fell as much as 11-28% (depending on the type of industrial units) and 58% respectively. Meanwhile, average daily room rates of Singapore hotels fell as much as 31% from peak to trough. This illustrates the resilience of suburban spot rents even in times of economic recessions, which increases the appeal of FCT in our opinion. During the crisis, even though FCT’s NPI dropped 11% YoY in FY08, its DPU increased by 11% YoY in FY08 as only ~80% of FCT’s distributable income was paid out in FY07 – the year FCT was listed on SGX. In the following year (FY09), FCT’s NPI and DPU grew 6% and 3% YoY respectively.

Cheap valuation compared to pre-crisis (before Dec 2007) considering the clear growth outlook. Currently trading at S$1.49, FCT is trading at a yield of 3.8% to Singapore’s 10-year bond yield of 2.3%, which is significantly higher than its pre-crisis mean spread of 1.8%. Coupled with its clear growth profile going forward (positive rental reversion, completion of CWP AEI, and acquisition of Bedok Point), we favour FCT as our top S-REIT pick for FY11.

VALUATION & RESULTS REVIEW

We value FCT at S$1.77 based on DDM (COE: 8.8%; TGR: 2.0%). At its current trading level, FCT’s 12-month forward dividend yield is 6.1% while its spread is 3.8%. Compared against its pre-crisis mean spread of 1.8%, we believe FCT has further upside potential considering its steady growth profile in the coming years.