CHINA RETAIL IS GROWING ALRIGHT

• Beijing can absorb more retail space
  
• Overall retail sales growth
  
• Support for continued rental hikes
  

Room for more retail space

According to Cushman & Wakefield, among major Chinese cities, Beijing has the most retail space on a per capita basis. However, even with the projected growth from ~0.57 sqm to ~0.73 sqm over 2010-2013, Beijing’s retail space per capita will still be half that of HK’s, which is at 1.4 sqm. As explored in our report dated 28 Jun, we believe that CRCT’s malls in Beijing, where four of its nine malls are located, have good locations and will do well despite the overall growth in retail space supply.

Golden Week numbers

The Mid-Autumn Festival (30 Sep) this year coincided with the seven day Golden Week holiday (1 Oct-7 Oct) to give an eight-day break. It has been reported that overall retail sales in China grew 15% to reach RMB800.6b during the National Day holiday. In comparison, overall retail sales grew by 17.5% YoY during the seven-day Golden Week last year. The 15% YoY growth rate this year may have been distorted slightly upwards by the longer holiday period.

Reconciling media news with sales growth

Recent news reports regarding increased inventory pile-ups for certain retailers have caused some people to doubt official retail sales figures, e.g. official figures show that China’s retail sales rose 13.2% YoY in Aug. To get a better picture, we compared 36 consumer companies’ revenue growth for 1HCY12. We have organized nine subsectors by order of descending growth: Alcoholic beverages (+25%), Department stores (+22%), Snack foods and beverages (+17%), TCM (+16%), Supermarkets (+11%), Dairy products (+9%), Fashion and apparel (+8%), Eateries (+6%), Home appliances (+3%). On an average basis, we estimate that retail sales grew by 13% YoY in 1HCY12. More companies (8) reported YoY shrinkage of revenue in 1HCY12 versus the two previous periods, 2HCY11 (3) and 1HCY11 (2). Essentially, while more companies are facing revenue contractions, revenues are climbing overall. Companies should be able to support continued rental increases.

Maintain BUY

We maintain our BUY rating on CRCT and our fair value of S$1.70.

CHINA AIMING FOR 15% P.A. RETAIL SALES GROWTH

• Targeting 15% p.a. growth in retail sales
  
• Strong demographic fundamentals
  
• CRCT is one-of-a-kind
  

Targeting 15% p.a. growth in retail sales

According to the 12th Five-year Development Plan for Domestic Trade released by the State Council recently, China aims to expand its retail sales of consumer goods to around RMB32tr (~US$5.05tr) by 2015, with an average annual growth rate of 15%. While the targeted growth rate is slightly lower than the 16.1% p.a. growth rate over the past decade that propelled retail sales to RMB18.4tr in 2011, 15% is still very good. China’s retail sales rose 13.2% YoY in Aug, 0.1 percentage points higher than the growth rate in Jul. To make a simple comparison with a developed country, we note that for the month of Jun (the latest month for which data is available), Singapore’s retail sales actually decreased by 0.9% YoY.

Positive demographics means increasing “firepower”

We see the MoM decline in consumer confidence to be short-term; the Bankcard Consumer Confidence Index fell 0.5 percentage points MoM to 86.21 points in Aug. Having gathered demographic data on the cities that CRCT operates in, we believe that long-term fundamentals remain good for the retail industry. Beijing, which accounted for 67% of CRCT’s 2Q12 gross property revenue, saw overall retail sales grow 13.0% YoY in 1H12. While Beijing’s 1H12 expenditure per capita only expanded by 3.6% YoY, disposable income climbed 6.4%, which means that consumers have growing amounts of unutilized “firepower”, especially given that the rate of inflation is historically low (consumer inflation grew at only 2.0% in Aug).

The only pure-play China retail REIT

We are confident that CRCT can achieve healthy double-digit positive rental reversions for 2012 for its multi-tenanted malls. For 2Q12, CRCT’s multi-tenanted malls achieved rental versions of 15.2%, excluding the gross turnover component. Most of the leases have rental escalation clauses. The only listed pure-play China retail REIT globally, CRCT is our top pick in the overseas retail REIT space.

Maintain BUY

We maintain our BUY rating on CRCT and our fair value of S$1.70.

RAISE FV TO S$1.70

• Only pure-play mainland China retail REIT
  
• Strong operations
  
• Raising FV
  

Deserves scarcity premium

We believe that CRCT deserves a scarcity premium since, as we understand, it is the only pure-play mainland China retail REIT in the world, offering positive exposure to structural shift towards domestic consumption in the second largest economy. In our view, the closest two peers are Hui Xian REIT and Perennial China Retail Trust. Hui Xian is a mixed PRC REIT play, which exposure to mainland retail, office and hospitality segments. Perennial is a PRC retail development trust and is thus exposed to development risks. Hui Xian and Perennial are trading at Bloomberg consensus yields of 7.8% and 6.7% respectively.

Good outlook, operationally solid

China’s real GDP grew by 7.8% YoY in 1H12. 1H12 total retail sales of consumer goods grew faster at 14.4%. On a long term basis, retail sales growth should continue to outpace GDP growth as people increasingly turn towards organized retail with urbanization and rising disposable incomes. CRCT has nine malls in first-tier and second/third-tier cities. We believe the vicinity of the four Beijing malls will see limited increase in retail supply space over the next few years. Occupancy in CRCT’s portfolio is good at 97.1%, the highest among the overseas retail S-REITs; we note Lippo Malls Indonesia Retail Trust’s occupancy is at 94.7% while Fortune REIT’s occupancy is at 96.5%.

Attractive dividend yield

Given the recent run-up in REIT share prices across the board and general yield compressions, we believe that CRCT’s FY12F dividend yield of 6.4% is fairly attractive. For example, local retail REITs are trading at Bloomberg consensus dividend yields of 5.0%-5.9%. Among the overseas retail REITs, although CRCT’s forward yield is lower than LMIRT’s 7.4%, it is higher than FRT’s 5.9%.

Maintain BUY

We lower the cost of equity assumption in the DDM model for CRCT from 9.5% to 8.6% to better reflect the prevailing lower interest rate environment. We raise our fair value from S$1.50 to S$1.70 and maintain our BUY rating on CRCT.

Potential Headwinds On Near‐Term Horizon

Investment Highlights

Q212 Marks Strong Quarter Of Growth

CapitaRetail China Trust (CRCT) recorded growth of 18.2% YoY in its 2QFY12 gross revenue. CRCT's shopper traffic climbed by 26.4% YoY and its tenant sales increased by 13.1% YoY in 2QFY12, despite an uncertain macroeconomic climate in China. Contribution from recently‐acquired CapitaMall Minzhongleyuan and higher rental sales across its multi‐tenanted malls were major drivers underpinning CRCT's 2QFY12 growth.

Healthy Rental Reversions

2QFY12 was also a quarter of good rental reversions for CRCT. CRCT recorded a total of 223 new leases and renewals in the quarter and observed a portfolio rental reversion of 15.2% YoY. CRCT's ongoing initiatives at improving its tenant mix by attracting big names such as Urban Renewal and UNIQLO could provide potential upside on overall tenant sales and rental reversions. According to CRCT, tenant sales growth at CapitaMall Xizhimen was at the high single‐digit range and management believes there is scope for further enhancement to its existing tenant mix.

Higher Revenue Translating Into Profitability Gains.

CRCT’s net property income grew by 15.0% YoY in 2QFY12. While this result was partly supported by the contribution from CapitaMall Minzhongleyuan, we observed that strong growth from CapitaMall Qibao, CapitaMall Saihan and CapitaMall Wuhu played a part as well.

Potential Near‐Term Headwinds Ahead.

Trading at 1.1x price‐to‐book and with a forward dividend yield of 6.7% (according to Bloomberg consensus estimate), CRCT is relatively expensive compared to its industry peers. Nearterm risks appear to be weighted to the downside and we would view CRCT’s recent quarterly results with cautious optimism. A Chinese macroeconomic slowdown is likely to weigh on near‐term consumer sentiment and put downside pressure on discretionary spending. Generating the bulk of its rental sales from consumer discretionary sectors such as department stores and apparel, CRCT is not immune to the macroeconomic headwinds in China. CRCT is already witnessing a slowdown in sales in the sporting and fashion trade, according to management.

BETTER-THAN-EXPECTED 2Q12

•Slightly above expectations

•Stronger rental reversions

•High NPI growth at CapitaMall Saihan

Slightly above expectations

CRCT reported 2Q12 income available for distribution of S$16.65m, up 23.5% YoY. 2Q12 DPU is 2.41 S-cents per share. The results were slightly above our expectations; YTD DPU of 4.82 S-cents made up 52% of our initial full-year forecast. 2Q12 revenue rose 18.2% YoY to RMB190.2m and net property income climbed 15.0% to RMB124.4m. CapitaMall. The increase was chiefly due to the contribution from CapitaMall Minzhongleyuan which was acquired on 30 June 2011, as well as higher rental growth at its multi-tenanted malls. Shopper traffic and tenant sales at CRCT’s multi-tenanted malls grew 26.4% and 13.1% respectively.

Good rental reversions

Solid rental reversions of 15.2% YoY for the portfolio were achieved (versus 13.0% for 1Q12). CapitaMall Xizhimen in Beijing saw the highest rental reversion of 28.9% on the back of a 52.1% YoY increase in shopper traffic to approximately 85k-90k people per day, following the opening of a basement connection to the subway. Management said that tenant sales at Xizhimen grew at a high single digit percentage rate, and believes that there is further potential to fine-tune the tenant mix at the mall. Management will be bringing in international fast fashion brands such as UNIQLO and Urban Renewal to Xizhimen. Our understanding is that the recent floods in Beijing will not have a significant impact on CRCT’s malls there.

Transformation of CapitaMall Saihan

CapitaMall Saihan in Huhot, Inner Mongolia, registered the highest NPI growth of 38.2%. Since the completion of AEI at Saihan in 2010, which marked its transformation from a master-leased mall to a multitenanted mall, Saihan has experienced strong growth, with occupancy at 99.7% as of Jun 2012.

Maintain BUY

We maintain our BUY rating on CRCT and raise our fair value from S$1.44 to S$1.50. CRCT is offering a good FY12F dividend yield of 6.9%.