Suntec REIT - Preparing for asset rejuvenation (CIMB)

NEUTRAL Maintained

S$1.54 Target: S$1.61

Mkt.Cap: S$3,398m/US$2,808m

• Slightly above. 2Q11 DPU of 2.53 S cts was slightly above our and consensus estimates, forming 27% of our FY11 forecast. 1H11 DPU formed 52% of our fullyear estimate. The outperformance came mainly from lower-than-expected interest costs. Rentals and occupancy for Suntec City Mall continued to weaken though we believe that this could be in preparation for any potential asset enhancement initiatives to rejuvenate the mall. Likewise observations by other office landlords, leasing momentum appears to have slowed though occupancy within its office portfolio remains strong. We tweak our FY11-12 DPU estimates by -2% to +2% for lower interest expense in FY11-12 and a lower income support assumption in FY12. Our DDM-based target price is, however, unchanged at S$1.61 (discount rate:8.1%). We maintain our NEUTRAL call. Potential re-rating catalysts are strongerthan-expected rentals and AEIs at Suntec City Mall.

• Net property income (NPI) slipped 1% yoy due to weaker performance from Suntec City Mall. Distributable income, however, rose 22% yoy from contributions from Marina Bay Financial Centre Phase 1 (MBFC 1), which was offset by lower income support from One Raffles Quay. 2Q11 DPU was, however, flat yoy due to a larger unit base from a unit issuance to partly fund the acquisition of MBFC 1.

• Slower office leasing momentum. Suntec City’s office occupancy remained stable in 2Q11 at 99.5% with negative rental reversions appearing to have stabilised on a qoq basis. As the pace of office leasing momentum is likely to have slowed, achieved rents climbed only 1% (vs. 1Q11: 13%) from S$9.22 psf to S$9.28 psf, notwithstanding the minimal remaining office leases expiring in FY11. Management, however, notes continued demand for office space from tenants within the IT, oil & gas, legal and shipping industries.

• Preparing for rejuvenation of Suntec City Mall. Committed retail passing rents (S$10.16 psf, -1% qoq) drifted lower for the fifth quarter in 2Q11. Occupancy has also slipped by 0.8% pts to 97.1% though management has successfully renewed and lowered lease expiries to about 12% (1Q11: 19%) by retail portfolio (by NLA) in 2Q11. With a weakening portfolio, we anticipate plans for AEIs to rejuvenate the mall with any AEIs likely to be debt-funded.

Suntec’s aggregate leverage is 40.5%, inclusive of debt held at ORQ and MBFC 1 (38.5% excluding debt held at the JVs). While gearing is relatively high, management appears comfortable with a mid-term gearing target of 45%. Barring a major AEI at Suntec City Mall, AEI plans are likely to be debt-funded. Meanwhile, all-in financing costs remain low at 2.8%. More than 60% of its borrowings are currently hedged into fixed-rate borrowings.