Strong but upside capped

Although we expect the office market to improve from here, with only 13% of its office space due for renewal next year, CCT’s upside is likely to be capped, particularly with a lack of acquisition targets.

3Q13 results are in line, with DPU accounting for 26% of our full-year forecast and 9M13 DPU at 76%. In view of a lack of meaningful near-term growth catalysts, we remain Neutral with an unchanged DDM-based target price (discount rate 7.9%).

Active quarter in leasing

During the quarter, CCT largely concluded its long-term lease to CapitaLand Limited at Capital Tower. Together with 40,000 sq ft of space in advanced negotiations with one of CapitaLand’s business units, Capital Tower’s committed occupancy will reach 100%. In addition, CCT signed new leases and renewals for c.347,000 sq ft of space during the quarter. With these, all leases that are due for renewal in FY13 have been renewed. Further out, CCT has 13% and 30% of space (by monthly gross rental income) due for renewal in FY14 and FY15 respectively.

Strong balance sheet

Gearing was up a notch this quarter to 29.5% (28.9% in 2Q13), while average cost of debt dipped to 2.7% (2.8% in 2Q13). Having completed its refinancing last month, CCT will have no refinancing needs until 2015. With 75% of its total debt hedged as fixed-rate debt, we believe CCT is fairly immune to any rate hikes. We estimate a 1% impact on its DPU from a 50bhp increase in cost of borrowing.

Limited upside

Although fundamentals remain solid, we believe upside for this stock is limited, from a lack of meaningful growth catalysts. In addition, convertible bonds due in 2015 (outstanding S$190m) remain an overhang.

Driven by positive rental reversion

• YoY growth from rental renewal upside and 20 Anson contributions
  
• Low gearing and strong balance sheet give room for inorganic growth potential
  
• Maintain HOLD, TP S$1.72
  

Highlights

Earnings in line, boosted by positive rental reversion and 20 Anson. 1Q13 topline of S$96m was up 10% y-o-y on additional contributions from 20 Anson and HSBC rent reversion but down 1.2% sequentially, dragged by lower occupancy at Capital Tower. A total of 410ksf of NLA was leased/renewed in 1Q, bringing portfolio occupancy to 95.3% while average monthly passing rents improved 2.5% to an average of S$7.83psf. NPI was up 7% y-o-y (down marginally q-o-q). Income available for distribution grew 5.7% y-o-y but with the retention of S$2.7m, distributable income came in at S$55.7m or a DPU of 1.96Scts.

Our View

Earnings momentum to moderate this year. CCT would continue to benefit from positive reversions for its renewal leases as well as value add created from its AEI at 6 Battery Rd and Raffles City. The trust has a remaining 11.2% of income to be renewed this year and a further 19.1% next year. With expiring rents below current market levels, we expect the trust to be able to expand its rental earnings. This will be offset by the drop-off in yield protection from OGS from July 13. Focus on boosting occupancy level at Capital Tower should also provide further upside to earnings.

Low gearing. Gearing remains at 30.1% and the trust has only S$50m of refinancing due this year. This would provide significant headroom to look for inorganic growth opportunities.

Recommendation

Maintain HOLD. We have raised our TP to $1.72 on a slightly lower beta assumption of 0.82x, given the relatively long WALE of leases. Upside risk from OGS and Capital Tower as well as better-than-expected news of leasing performance at CapitaGreen, scheduled to complete by end 2014, could provide upside catalyst for the stock. At the current price, the stock offers FY13/FY14F yields of 4.7-4.9%.

Rise Of Another Icon

We visited CapitaGreen’s showroom yesterday morning and were wowed by its: i) 40th-floor sky garden and restaurant, ii) innovative technology which directs cool air inwards, and iii) unique dual facade that cuts solar heat, among others. Set to be CCT’s next growth driver, it offers c. 700,000 sq ft of Grade-A office space and is scheduled to receive its TOP by 4Q14. Due to a dearth of immediate drivers, however, CCT is still a NEUTRAL and its SGD1.70 TP remains unchanged as the contribution from CapitaGreen would only stream in by FY15.

CapitaGreen’s unique features include: i) a high ceiling (3.2m vs the typical 2.8m-2.9m), ii) sky terraces on the fifth, 14th and 26th floors, iii) a gym and pool on level 38, iv) column-free efficient floor plates that ranges in size between 12,000 sq ft to 26,000 sq ft, and v) a cool void at the top of the building that draws in cool air from the ‘sky forest’ on the top floor.

Unique design helps save utility cost. Not only is the cool void a unique architectural feature, previous studies have shown that the cool air it draws in could reduce the average temperature in the building by two degrees. Through this, we expect CapitaGreen’s utility cost to be lower than that of other office towers.

Strategic location a key selling point. CapitaGreen is located in the heart of Singapore’s CBD, and is served by the Raffles Place and upcoming Telok Ayer MRT stations. In addition, CCT has indicated that tenants of CapitaGreen will have priority access to the GoldenShoe car park which currently features 1,053 parking lots.

Decent yield from new building. CapitaGreen is a joint development by CapitaLand, CCT and Mitsubishi Estate Asia. In this project, CCT owns 40% equity interest as well as a call option to acquire the remaining 60% within three years upon receiving its temporary occupancy permit (TOP). We expect the building, involving a total development cost of SGD1.4bn, to generate a forecast yield of 5.1%-6.3% when occupancy stabilizes.

Looking for growth catalysts

• Full year DPU of 8.04 cts in line with expectations
  
• Steady occupancy, positive rental reversion, higher contributions from 6 Battery Road to drive FY13 earning.
  
• Low gearing and strong balance sheet can be used to drive inorganic growth
  
• Maintain HOLD at a higher TP of S$1.54
  

Highlights

In-line results. On a year-on-year basis, gross revenue and NPI rose by 8.0% and 1.6% respectively. The uplift in income was driven by the higher revenue from HSBC Building, the additional contribution from Twenty Anson and the higher income support from One George Street (OGS). NPI margin held steady at 77% as nonrecurring property tax refunds offset higher operating costs. DPU came in at 2.05cts, representing a +6.8% after retaining the $0.2m tax exempt income from QCT. NAV rose 2.5% to $1.62 upon a revaluation gain of S$154m. This largely led by cap rate compression of 25bbp to 3.75% -4.25% for its offices, alongside more moderated rental assumptions, resulting in a revaluation gain of S$154m.

Our View

Moving in the right direction. Occupancy continued to hold steady at 97.2% with average portfolio monthly rents moving up to S$7.64 psf from S$7.53 psf a quarter ago. Positive rental reversion is expected to continue as the average monthly rents for the 26.2% (gross rental income) leases expiring this year are at S$7.44 psf – S$7.53 psf vs Grade A market rents of S$9.58psf. Pre-commitments at 6 battery road are coming in strong. 91% and 86% of the 200,000 sf of space completed in 2012 and the final 171,000 sf scheduled for upgrading works in 2013 have been taken up respectively. Meanwhile, OGS’s occupancy held up pretty well at 92.5% despite the exit of a few large tenants. Underlying rents of S$8.50 – $9.50 psf have moved up closer to the income support rents of S$11.20 psf, which partly mitigate the income vacuum post the expiry of income support in July 2013.

Prudent capital structure. Gearing remains low at 30.9% and the trust only has about $50m or 2% of its debt due for refinancing in 2013. That would give the trust up to S$1b debt headroom (40% gearing) to undertake AEI work for some of its older projects or to capture accretive acquisition potential.

Recommendation

Maintain HOLD. We have nudged upwards our TP and FY13/14DPU by 3% to adjust for the better rents achieved at HSBC. Upside risk will hinge on potential accretive acquisitions or better-than-expected leasing performance at CapitaGreen and OGS