Pavilion Real Estate Investment Trust (Jan 20, RM1.82)
Maintain hold with an unchanged target price of RM1.85: We cut Pavilion Real Estate Investment Trust’s (REIT) earnings forecast for the financial year ending Dec 31, 2017 (FY2017) and FY2018 by 3% each as net property income margins are lower than expected, with net property income margin of 65.5% in the fourth quarter of FY2016 versus our estimate of 68.5%. This was due to the higher operating expenses allocated towards promotional and marketing initiatives for da:men Mall and Intermark Mall. We expect operating expenses to remain high in FY2017 for maintenance work of Pavilion. We believe net property income margins will improve once management rebrands and realigns the assets.
Pavillion REIT’s core asset is the Pavilion KL mall. The premium tenant profile and location have led to strong average rental rates of above RM20 per sq ft. In FY2016, Pavillion REIT opened the door to two new acquired assets — da:men Mall and Intermark Mall. The two remaining right-of-first-refusal assets are the 250,000 sq ft (23,226 sq m) Pavilion Elite and 300,000 sq ft Fahrenheit88 mall, currently held by Pavillion REIT’s major shareholder. We expect to see valuations around or above the RM600 million-to-RM700 million range due to their prime locations near Pavilion KL, which can support rental rates of more than RM20 per sq ft a month.
Tan Sri Desmond Lim, the major shareholder of Pavillion REIT, recently acquired a controlling stake in WCT Holdings Bhd. Given an existing vehicle in Pavillion REIT, WCT’s aspiration to list its retail malls via a REIT will likely be abandoned by the new management of WCT. Instead, these assets comprising BBT One Mall and Paradigm Mall with a combined market value of about RM1.2 billion will likely be injected into Pavillion REIT. If this materialises, an equity raising exercise via placement and/or rights issues will need to be undertaken to finance the acquisitions.
The key risk to our view includes an underperformance of new assets. We base our assumptions on the positive performance of the acquisitions (da:men Mall and Intermark Mall) and we forecast both to be immediately accretive. In the event the new assets underperform due to lower-than-expected occupancy levels and rental reversions, its earnings may come in below our expectations. — Alliance DBS Research, Jan 20
This article first appeared in The Edge Financial Daily, on Jan 23, 2017. Subscribe to The Edge Financial Daily here.