(BUY, S$1.54, TP S$1.72)
2Q11 results in-line with expectations. Suntec REIT (Suntec) reported 2Q11 DPU of 2.532S¢ (+6.0% QoQ; +0.2% YoY), which represents 26% of our FY11 estimate. Net property income declined by 1.1% YoY (+0.5% QoQ) mainly due to lower rental income from retail space. Suntec City Mall’s average passing rent fell for the 9th quarter out of the last 11 quarters due to negative rental reversion. Meanwhile, total income from JV rose 132% YoY to S$26.9m (+14.6% QoQ) on the back of strong contribution from MBFC, marginally offset by drop in ORQ contribution due to decline in income support. Maintain BUY with slightly higher TP of S$1.72 derived based on DDM (COE: 8.8%; TGR: 2.3%). Our TP was raised due to half-year rollover of our DDM valuation, marginally offset by higher COE (prev 8.4%) and lower terminal growth rate (prev 2.9%).
DPU expected to decline in 2H11. Given bulk of the leases at ORQ will only be up for renewal in 2015 (86.3% of NLA for renewal), we expect the positive rental reversion will not be sufficient to make up for the income support loss at ORQ in 2H11 and FY12.
Retail rental growth remains sluggish due to new supply in city centre. Suntec City Mall continued to experience negative rental reversion and saw its average passing rent fell 1.1% QoQ (-5.0% YoY) to S$10.16 psf pm. We believe the declining passing rent is predominantly due to upcoming supply of 1.2m sqft of retail space in Downtown Core and Orchard areas between 2H11 and 2015.
Positive office rental reversion beginning 1Q12. New leases secured in 2Q11 at Suntec City Office rose 0.7% QoQ to S$9.28 psf (+30% YoY). Buoyed by the sharp rise in prime office spot rents which rose 27.5% YoY in 2Q11 (+2.3% QoQ), we believe Suntec City Office will be able to experience positive rental reversion beginning 1Q12.
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