Suntec – OCBC

ORQ to drive FY08 earnings

Results broadly in line. Suntec REIT (Suntec) reported 4Q07 revenue of S$51.1m; +14% YoY and +9% QoQ. Distributable income was equally strong at S$30.4m; +22% YoY and +1% QoQ. At the DPU level, growth was more moderate at +11% YoY and +1% QoQ to 2.12 cents. Growth was mainly due to the increase in office and retail revenue due to better rates and higher occupancy. However, higher property expenses specifically from higher property tax and property management fees eroded much of the better revenue. This led to NPI margin falling from to 71% from 73% in 3Q07 and 4Q06. The results were about 4.5% better than our estimates.

Revaluation gains of S$1.29bn. In the current quarter, Suntec re-valued its asset and has recognised a gain of S$1.29bn (or 40% YoY). Suntec attributed the bulk of the gains from its office assets. More importantly with the new valuation, Suntec’s gearing has dropped to 20% (from 24% at 3Q07). With a target gearing of 45%, based on its current asset value, Suntec could raise a further S$408m. As for its NTA, it now stands at S$2.20, which means that it is currently trading below book value.

Accretion from ORQ to kick-in in FY08. In a recent release, Suntec has revealed it will finance the ORQ acquisition with 10% equity (to the vendor, Cheung Kong), 48% convertible bond (CB) and the balance 42% straight debt. CB is a new innovative way of financing and one that could be viewed as a form of deferred payment. However, as Suntec has an option to redeem the CB, we consider it as debt. We estimate the average cost of funding of ORQ at about 3.2% and with ORQ NPI yield at 4.2%, we see strong accretion to Suntec in FY08. In light of this we have revised up our FY08F DPU from 8.8 cents to 10.4 cents and we are also introducing FY09F at 10.7 cents. Finally, we estimate the rental from ORQ to be about S$10.5psf/mth and with market rates at S$15psf/mth. So we see upside potential albeit in the middle term.

Maintain BUY and fair value of S$2.18. The investment case for Suntec is simple, strong rental reversions from under rented office space, earnings accretion from acquisitions and retail space to benefit from asset enhancement. More importantly, with a price to book of below 1.0x, we see the investment case for Suntec compelling. We maintain our BUY rating with a fair value of S$2.18.