• Acquisition of Galleria in South Chengdu.
• Mall opened in 2010, with stable historical footfall and tenant sales.
• NPI yield of 5.4% lower than FY15 portfolio NPI yield of 5.8% but management aims to boost this through readjusting tenant mix and improving operational efficiency.
• Pure debt and cash acquisition increases DPU-accretiveness of mall due to lower cost of debt vs equity – but execution risks remain.
• Maintain ACCUMULATE with increased target price of S$1.62.

What is the news?

CapitaLand Retail China Trust (CRCT) announced the acquisition of Galleria, a relatively new mall opened in 2010, located in Xinnan Tiandi, a well-established retail precinct in Chengdu. With 100% occupancy currently, Galleria has achieved stable historical footfall and tenant sales since opening. With an estimated total cost of RMB1,571.4m (S$320m or 13% of total portfolio size), the acquisition is expected to be funded via 90% debt and 10% internal cash.

Analyst Briefing Key Takeaways and How do we view this?

Galleria’s NPI yield of 5.4% lower than FY15 portfolio NPI yield of 5.8% but management aims to boost this through readjusting tenant mix and improving operational efficiency. Management aims to boost earnings of mall through topline rental growth (by re-adjusting tenant mix) and bottom line growth (by improving operational efficiency of the mall). While we remain confident of management’s ability to adjust tenant mix and attract quality tenants through CapitaLand’s strong relationship with tenants, we note the generally sluggish retail rent growth for Chengdu over the last two years. The next round of rental renewals will be mostly for contracts signed over 2013/2014 which were the two peak years for rentals. Against this backdrop, we do not expect double digit rental reversions that Galleria witnessed for the first round of rental renewals (for the first batch of contracts when the mall first opened in 2010) to repeat. We expect flat to low single digit growth from organic rental reversions from the mall over the next year.

Figure 1: Chengdu mid to high end ground floor retail rents

Strategic location near transportation hubs with good surrounding enclave of complementary retail offerings and surrounding big-box retailers. Strategically located in the heart of Xinnan Tiandi, Galleria enjoys good neighboring complementary retail offerings such as IKEA, Decathlon, and Fusen-Noble House (see Figure 2). Renowned tenants in the mall include H&M, Innisfree, Nike, Starbucks, Swarovski and UNIQLO.

Figure 2: Galleria and surrounding complementary retail options

Pure debt and cash acquisition increases DPU-accretiveness of mall due to lower cost of debt vs equity – but execution risks remain. With the acquisition to be funded by c.90% debt topped up with internal cash, the DPU-accretiveness of the acquisition is boosted by the use of a huge percentage of debt (average cost of debt for CRCT as at 2Q16 is 2.97%). While Galleria is positioned as a fashion and dining mall, we remain cognisant of the possible impact on sales and footfall once the recent opened family mall CapitaMall Tianfu (Dec 2014), which is directly connected to subway Lines 1 and 7, further ramps up its operations. Management though, has not seen any major impact on sales or footfall of Galleria since the opening of CapitaMall Tianfu.

Investment Action

Maintain ACCUMULATE with new higher target price of S$1.62 from 1.55. We maintain our FY16 DPU forecasts and adjust upwards our FY17e DPU forecast from 10.5cents to 11 cents. Correspondingly we adjust our DDM-derived target price upwards from $1.55 to $1.62 and maintain our ACCUMULATE call on CRCT.