What is the news?
CRCT announced the joint acquisition of Rock Square in Guangzhou in a 51-49% JV with CapitaLand. This acquisition marks CRCT’s first strategic entry into another Tier 1 city in Guangzhou, after Beijing and Shanghai. Expected to be funded by debt/cash/private placement proceeds in the 50%/28%/22% ratio, acquisition will be DPU accretive with pro-forma FY16 DPU lifted by 1.1% to 10.16 cents after adjusting for acquisition. The transaction is expected to be completed by 1Q18.
How do we view this?
NPI yield in line or slightly higher than recent market transaction. We estimate NPI yield on cost to be in the high 3+/4% region. We also note this is in line with HK-listed Link REIT’s recent purchase of the Metropolitan Plaza c.3km away from Rock Square in April this year, at an estimated 4% NPI yield. Land use rights for Rock Square expire in 2045, 3 years later than Metropolitan’s.
Swapping stability and higher yield for greater capital growth potential in a Tier 1 city.
Recall CRCT recently divested CapitaMall Anzhen, which was on a Master Lease with a FY16 NPI yield of 6.7% for S$230mn. The recycled capital into Rock Square effectively means swapping a stable higher yield for greater capital appreciation potential in another Tier 1 city. We note valuations for CapitaMall Anzhen grew 17% post GFC from 2010-2016 vs the average 37% for commercial building prices in Guangzhou in the same period (Source: CEIC).
Accretive acquisition because of optimal financing structure
Acquisition will grow pro-forma FY16 DPU by 1.1%. The funding structure utilising 50% debt and 28% internal cash was able to result in a low overall cost of capital for the acquisition, which we estimate could be 2.5-3%. Hence although the acquisition NPI yield is lower than the overall portfolio FY16 NPI yield of c.5.3%, the high usage of cheaper funding sources of debt and internal cash resulted in an accretive acquisition.
Room for yield to climb with average passing rent below current market price.
>100 leases constituting 53% of total rent are up for renewal in 2018-2020. With average current passing rents below market spot rents, yield could be further enhanced over the next few years from positive rental reversions.
Maintain NEUTRAL with unchanged acquisition-adjusted target price of S$1.66.
This translates to a FY18e yield of 6.5% and P/NAV of 1.1. At a current yield of 6.0%, CRCT is trading at -1s.d. for post-GFC yields (Fig 2), which we deem fair given that tenant sales and rental reversions are stabilising around mid-single digits as malls mature. While the accretive acquisition lifted our FY18e DPU by 0.94%, we prefer to see a more sustainable pick-up in rental reversions or more accretive acquisitions before relooking at our recommendation.
Figure 1: Mall Details
Figure 2: CRCT trades at close to -1S.D. average yields (post GFC) and average P/NAV
Figure 3: Peer Comparison Table