CCT distributable income rises 33.2% for Q2

Trust will pay unitholders DPU of 3.33cents for first half of this year

CAPITACOMMERCIAL Trust (CCT), one of the island’s biggest office landlords, has posted distributable income of $48 million for the second quarter ended Q2 2009, up 33.2 per cent from the same year-ago period.

For the first half of this year, the trust will pay unitholders a distribution per unit (DPU) of 3.33 cents (adjusted for its recent rights issue). On an annualised basis, the payout works out to 6.72 cents, reflecting a distribution yield of 7.72 per cent based on yesterday’s closing price of 87 cents.

Q2 revenue rose 34.4 per cent or $25.6 million year-on-year to $99.97 million, due mainly to the acquisition of One George Street and Wilkie Edge as well as higher rental income due to positive rent reversions. Net property income improved 42.2 per cent to $73.3 million.

First-half gross revenue of $197.4 million was 35.6 per cent above that in the same period last year. CCT achieved net property income of $143.2 million in H1 2009, around 42 per cent higher than the same year-ago period. More than half of this increase came from acquisitions and the rest from organic growth.

The H1 2009 net property income was 4.3 per cent above the trust manager’s forecast, due largely to higher contribution from Capital Tower, 6 Battery Road, Starhub Centre and Market Street Car Park and the 60 per cent interest in Raffles City, offset partly by lower contribution from One George Street, Robinson Point, Bugis Village and Wilkie Edge. The trust also benefited from lower property tax, utilities and maintenance expenses. As well, borrowing costs were $14.1 million or 22.4 per cent lower than projected due to lowering borrowings and lower average cost of funds than forecast.

Of the $804.2 million net proceeds raised under CCT’s recent one-for-one rights issue, $664 million were used to repay part of CCT’s borrowings on July 3. Following this, gearing has been trimmed to 31 per cent. CapitaCommercial Trust Management Ltd said it can use up to $140 million of the remaining rights proceeds to repay much of the $235 million borrowings due next year.

In addition, the trust has an untapped balance of $665 million from its $1 billion multicurrency medium term note programme and about $3 billion worth of unencumbered properties – giving it enhanced financial flexiblity.

With its balance sheet bolstered from the rights issue, the immediate priority for CCT going forward is to ‘continue to focus on strengthening our fundamentals through astute asset management and prudent capital management to entrench CCT’s competitive edge’ said CapitaCommercial Trust Management Ltd’s (CCTML’s) CEO Lynette Leong.

In May and June this year, renewals and new leases for nearly 140,000 sq ft or 4.1 per cent of the trust’s portfolio net lettable area were inked at rental rates 45 per cent above the previous rent levels for the space involved on a weighted average basis.

As at end-June 2009, 92 per cent of this year’s forecast gross rental income has been locked in with committed leases.

Analysts expect challenging times ahead for office landlords like CCT amidst the massive new office supply to be completed in the next few years from a slew of projects, including Marina Bay Financial Centre, Ocean Financial Centre and 50 Collyer Quay.

However, Ms Leong argued that there is still possibility of positive rental reversion for CCT given that the average monthly passing office rent for its portfolio of $8.14 per square foot as at Q2 is below the average monthly market rental values – of $8.60 psf for prime office space and $10.15 psf for Grade A space as at Q2.

Consistently outperform

Results were above expectation. CapitaCommercial Trust (CCT) reported a set of good results that exceeded our expectations. Gross revenue increased by 34.4% YoY and 2.6% QoQ to S$100m and the increase came from the acquisitions of One George Street and Wilkie Edge and also positive rent reversions. Increase in operating costs was partly mitigated by the lower property tax. A loss of S$684.8m was recognized as a result of the downwards revaluation of its investment properties, which had already been announced during the Rights issue and has no impact on cashflow. As a result, a loss of S$636.1m was
recognized in 2Q09 but distributable income to unitholders grew by 33.2% YoY and 5.8% QoQ to S$48m.

Good operating performance. Operating performance in 2Q09 remained encouraging. CCT signed new leases and renewals for 139,380 sq ft (4.1% of NLA) of spaces and achieved new rents at 45% higher than previously signed rents on aggregate. While this was weaker than that achieved in 1Q09, it is still a good achievement, considering the fact that average Grade A office rent had fallen by 17.5% QoQ in 2Q09. Even though CCT’s portfolio occupancy rate had fallen from 96.7% in 1Q09 to 96.2% in 2Q09, this remained higher than market occupancy rate.

DPU of 1.71 S-cents for 2Q09. DPU of 1.71 S-cents has been declared for 2Q09, translating to an annualized DPU yield of 7.9%. Together with the DPU from 1Q09, unitholders will receive a semi-annual payout of 3.33 S-cents for 1H09, after accounting for the dilution from its Rights issue. The Rights units are also entitled to the DPU declared in 1Q09.

FY09 DPU forecast raised to 6.4 S-cents. We are now raising our FY09 DPU forecast by 5.3% from 6 S-cents to 6.4 S-cents after taking into consideration better-than-expected rent reversions in 2Q09. Our new forecast translates to a DPU yield of 7.3% for FY09. Our FY10 DPU forecast has also been raised by 10.5% from 5.4 S-cents to 5.9 S-cents.

Fair value raised to S$1.07; Maintain BUY. Our fair value of CCT has now been raised to S$1.07 (previously S$0.96), which is pegged at par to our RNAV estimate. While the office sector continues to face oversupply issues, we expect CCT to outperform its peers on the operating aspects, given its strong track record. We believe that this will be a justification for the valuation premium of CCT over its peers. We maintain our BUY rating.

Positive reversions held up distribution

• In line. 2Q09 results were in line with Street and our expectations. Net property income of S$73.3m was up 42% yoy and 5% qoq, aided by strong rental reversions and improved operating margins. Distributable income for 2Q09 was up 33% yoy. However, DPU of 1.7cts (24% of our full-year forecast) declined 34% yoy due to a bigger unit base after its rights issue. 1H09 DPU of 3.33cts was in line with
expectations, forming 47% of our full-year estimate.

• Reversions remained 45% above the last signed. Reversions for office rents were 45% above previous rental levels. Average monthly passing rents for the portfolio rose 5% qoq to S$8.14psf from S$7.73psf in 1Q09. Management commented that while typical lease periods remained three years, there were a few negotiations for longer leases such as five years. There was also increased interest
from prospective tenants from outside the CBD to take up core CBD space as market rents had come down substantially.

• Portfolio occupancy down 0.5%. CCT’s portfolio occupancy dipped to 96.2% from 96.7% in the last quarter. We observe more significant weakening at Golden Shoe Carpark (-6.4%), Bugis Village (-2.9%) and One George Street (-6.6%). On the other hand, occupancy at Market Street Carpark (+29.2%) and Wilke Edge (+5.6%) improved much, holding up overall occupancy.

• Asset leverage down to 31%. On 3 Jul 09, CCT repaid S$664m of borrowings, which brought its asset leverage down to 31% from 42% as at 30 Jun 09.

• Maintain Underperform and DDM-based target price of S$0.76 (discount 10.2%). We expect occupancy to continue to weaken in the year, weighed down by weak demand and strong upcoming supply. Over 2010-11, we expect reversions to turn negative for CCT as rents for expiring leases in two of its major buildings Six Battery Road and Raffles City are significantly higher than current market rents
(S$7-8psf), and anticipated future rents (S$5-6psf). We maintain our estimates and Underperform rating as catalysts in the medium term are still lacking.

Bleak outlook

• Maintain Underperform. CCT’s rights issue, completed in Jul 09, has strengthened its balance sheet to 31% leverage from 43%, at a price of a doubled share base. There remains large debt due for refinancing over 2010-11 while the outlook for office-sector rents remains bleak for the next three years with a large supply in the pipeline. Taking into account its pared-down debt, we estimate implied yields at 6.3%, translating into expected rents of S$5.20psf. We expect another round of asset devaluations to close the gap between implied and actual yields.

• Evidence of pick-up in leasing volumes. Recent evidence of increased leasing volumes following a sharp fall in market asking rents suggests that our earlier occupancy assumptions might have been too severe (we were expecting a fall to the last crisis levels of about 85%).

• DDM-derived target price raised to S$0.76 (from S$0.71). We now expect office occupancy to decline to 93% over 2009-11, instead of 88%. Additionally, we use a lower discount rate of 10.2% (from 10.4%) based on a lower risk-free rate of 4.8% applied across our REIT universe. Our new target price prices in three consecutive years of decline in DPU. We maintain our Underperform rating as catalysts within the three years are still lacking.

Rights issue completed

Rights issue completed. CapitaCommercial Trust (CCT) had recently completed its Rights issue with 1.4b new units listed last Friday, bringing the total number of outstanding units to 2.8b. The Rights issue was well accepted, with a subscription rate of 135.4% of the total units available under the Rights issue. With the completion of the Rights issue, CCT’s gearing will decline from 43.1% to 30.7%, after the repayment of borrowings using the proceeds.

Slower rate of decline in office rental but cautiousness is warranted. According to Jones Lang LaSalle, average prime Grade A office rental declined 11% QoQ to S$9.50 psf per month in 2Q09 and the decline had decelerated in comparison to the 28% QoQ decline in 1Q09. Despite the positive news, our fundamental view of a worsening office market going forward remains unchanged. The slower rate of decline also came after a steep decline in rental in 1Q09. The office market in Singapore will continue to be plagued by the huge oncoming supply of new office space (13.9m sq ft in the pipeline) and shadow space that will continue to put downward pressure on office rental.

Current gearing sufficient to withstand devaluation through downturn. At a post-Rights gearing of 30.7% after the recent revaluation of its properties, CCT can withstand a further S$1,995.6m or 31.8% decline in the valuation of its properties before it reaches the upper bound of its comfortable gearing range of 30%-45% and this is also more than the S$1,581.5m or 26.2% decline in valuation (based on latest valuation report) that we have factored in our RNAV computation. We believe that this provides a sufficient buffer for CCT to tide over the asset devaluation during this downturn without the need to tap on the equity market again.

Maintain BUY. Despite the weak sector outlook, we continue to like CCT for its quality office assets and strong management which is evident in the high portfolio occupancy rates, diversified tenant base and long established tenant-landlord relationship. Support from a strong sponsor – CapitaLand – also provides an added level of comfort to investors in turbulent time. Based on CCT’s current price/NAV ratio of 0.54x, the market is now factoring in a 32.4% decline in asset value, which is over-excessive in our view. Success of its Rights issue has also removed refinancing concerns going forward. We maintain our BUY rating on CCT with fair value of S$0.96.