BACKGROUND

CapitaCommercial Trust (CCT) has the largest portfolio of prime office properties in Singapore, deriving about 72% of its value from this segment. Its portfolio also includes office and business park properties in Malaysia through a 30% stake in Quill Capital Trust (QCT) and a 7.4% stake in Malaysian Commercial Development Fund.

OUTLOOK/RECOMMENDATION

• Watch out for acquisitions.
  
  • Portfolio reconstitution saw the sale of two office buildings, Robinson Point and StarHub Centre, in quick successions this year for a total of S$572.5m. Current gearing of 31.5% gives debt headroom of S$1b, assuming target gearing of 45%, for acquisitions. Management indicated it is on an active lookout for prime/Grade A office property in the CBD.
    
• 
  Strong pick-up in office rentals mitigates risk of negative reversion.
  
  • The market rents for office space continued to improve in 3Q10 with prime office rents increasing 7.2% qoq to S$7.40psf pm and Grade A office rent increasing 6.5% qoq to S$9.00psf pm. The risk of negative rental reversions is mitigated with Grade A office rents exceeding the average portfolio rent of S$8.73psf pm and the prime office rentals bridging the gap to average portfolio rents. Average portfolio rent for CCT is S$8.79psf pm.
    
• Market Street carpark redevelopment.
  
  • With prime office capital values increasing 29% ytd to S$2,000psf in 3Q10, outpacing a corresponding 9.6% rise in prime office rents to S$7.40, yield compression is starting to set in. With yield-accretive acquisition opportunities becoming increasingly difficult in the near term, management may relook the option to redevelop the Market Street carpark into an office building.
    
• Maintain BUY and target price of S$1.70.
  
  • We use the dividend discount model (required rate of return: 7.7%, terminal growth: 2.5%) to value CCT.

CCT distributable income up 7.9% in Q3

But revenue slides on sale of Robinson Pt, StarHub Centre

CAPITACOMMERCIAL Trust (CCT) has reported a 4.7 per cent year on year drop in third-quarter gross revenue on account of the sale of Robinson Point and StarHub Centre. But it still managed a 7.9 per cent year on year rise in distributable income, thanks to lower property tax and interest savings as a result of lower borrowings.

The trust now had cash and cash equivalents of $730.9 million at end-September – more than double the $312.5 million at Dec 31, 2009. The increase was on the back of $577 million of net proceeds from the sale of the two buildings this year. CCT has not distributed the sales proceeds, saying it intends to retain them for growth opportunities and/or to repay debt.

‘The trust will continue to extract value from the portfolio through pro-active asset enhancement initiatives,’ said Richard Hale, chairman of CapitaCommercial Trust Management Ltd (CCTML).

‘We are actively sourcing for good quality assets that will complement our existing portfolio. We will also maintain a disciplined approach towards using the divestment proceeds, with careful consideration to the impact on the trust’s balance sheet and yield, and unit-holders’ returns.’

Standard Chartered Bank said in a report yesterday that after divesting the two non-core assets, CCT has $2.3 billion of unencumbered assets plus the $730.9 million of cash. ‘We believe CCT can invest around $2 billion without issuing new equity,’ said Stanchart. ‘Potentially, CCT could redevelop Market Street carpark for about $1 billion, which could provide a yield on cost of 5.5-8 per cent. CCT may also buy assets in Singapore, including 50 Collyer Quay for $1 billion or Asia Square for $2.2 billion, without issuing equity. These could be yield-accretive given current low interest rates of about 2.5 per cent versus a prime office capitalisation rate of 3.5 per cent.’

CCT’s gearing ratio has fallen – from 32.8 per cent in Q2 2010 to 31.5 per cent in Q3 2010. ‘We have completed all refinancing due in 2010 and are already exploring options to refinance the borrowings due in future years,’ said CCTML’s CEO Lynette Leong. CCT has total gross debt of about $1.9 billion, including $850 million due next year and $713 million due 2012.

For Q3 ended Sept 30, 2010, gross revenue fell 4.7 per cent year on year to $97.8 million. Net property income dipped one per cent to $76.3 million, but distributable income rose 7.9 per cent to $56.2 million. Distribution per unit (DPU) for Q3 works out to $1.99 – a year on year rise of 7.6 per cent.

On an annualised basis, the Q3 DPU translates to a distribution yield of 5.5 per cent based on CCT’s Oct 20 closing price of $1.44 per unit. The counter closed one cent higher at $1.45 yesterday. There is no distribution payment for Q3 as the trust distributes semi-annually.

CCTML said it signed new leases and renewals for about 138,000 sq ft in Q3, taking the figure for the first nine months to 560,000 sq ft. New tenancies sealed in Q3 included Ai Mien Bar Holding, which will operate a chic Chinese restaurant featuring seasonal and regional flavoured noodles on the ground floor of Capital Tower, and AXA Rosenberg Investment Management Asia Pacific, at One George Street.

Lease renewals in Q3 included Neste Oil Singapore and Orix Investment & Management, at Raffles City, and Robert Walters (Singapore) at Six Battery Road.

CCTML said asset enhancement works for Six Battery Road will kick off next month, with the main lobby getting a face-lift first. Growth in demand for prime and Grade A office space is expected to continue into the current quarter and 2011, it said. ‘As a result, there is less concern that large volumes of secondary stock will be left unoccupied when some major tenants relocate to newer buildings in the Marina Bay area.

‘Pre-leasing for the newer office space scheduled for completion in 2011 remains strong, indicating that the overall positive momentum in the Singapore office market will likely be sustained even with the increase in office stock from the completion of the new office buildings.’

For the first nine months, CCT posted a 0.1 per cent year on year drop in gross revenue to $299.8 million. Net property income rose 3.6 per cent to $228.1 million, while distributable income increased 14.2 per cent to $166.3 million. DPU rose 13.7 per cent to 5.89 cents.

Waiting for acquisition catalyst

• 3Q10 distribution income up a marginal 1.0% qoq, within expectations

• Portfolio occupancy to remain high with limited rental reversion upside

• Maintain Hold with TP S$1.47

Within expectations. CCT reported a marginal 2.4% qoq decline in topline to S$97.8m in 3Q10 despite loss of income from Starhub Centre, sold in mid Sept 2010. Performance was underpinned by robust leasing activities in its remaining properties, which boosted portfolio occupancy by 2.6% pt qoq to 98.2% with an additional 138,000sf of new take up. NPI increased by 2.8% to S$76.3m due to lower property expenses (-17.2% q-o-q) and distributable income remained stable, rising by 1.0% to S$56.2m (DPU: 1.99Scts) on reduced borrowing costs (-6.3% q-o-q). For the 9M, the group achieved DPU of 5.89Scts.

18.3% leases expiring in 2011. While leasing activities had focused on newer properties in 1H10, we believe that rental attention could shift back to existing prime buildings, as the next wave of new developments would only be ready late next year. As such, going forward, we think that CCT's high portfolio occupancy would remain intact. Although rental rates have started to strengthen, CCT's rental revenue is likely to see limited reversion upside as leases expiring in 2011(18.3%) were transacted at about $11-16 psf pm vs current prime rents and Grade A at S$7.4 psf pm and S$9 psf pm respectively. Asset enhancement activities for 6 Battery Rd will commence in Nov 2010 and be carried out in phases till 2013. Upgrading works will coincide with StanChart's plan to downsize their space occupation by 70ksf and some potential replacement candidates have already been identified.

Maintain Hold. We are revising our DCF-backed TP to $1.47 as we roll our numbers forward into FY11. Meanwhile, asset divestments have lowered gearing to 31.5%, putting them in good position to undertake new acquisitions. However, we think rising capital values could post a hurdle to making immediately accretive purchases. With no near term catalysts, we maintain a Hold call with TP of $1.47