3Q NPI boosted by Northpoint

Pays out 1.94 S cents. Frasers Centrepoint Trust (FCT) posted S$21.2m in gross revenue, up 1.8% YoY and 0.5% QoQ. The REIT will distribute S$12.1m to unitholders, up 4.1% YoY and 4.4% QoQ. The YoY and QoQ improvements in distributions are due to a 100% payout this quarter versus a 95% payout in 2Q09 and 3Q08. Excluding the payout difference, distributions would have slipped. Results beat our expectations.

3Q NPI boosted by Northpoint. Causeway Point (CP) and Anchorpoint (AP) registered a 7% and 7.7% QoQ drop in net property income (NPI)respectively in 3Q09. Margins fell as revenue recorded smaller QoQ changes of -3% and 0.2% at the two properties. AP also saw occupancy fall from 99.5% three months ago to 93% though the manager did say committed occupancy stands at 97.2% there as at June. The erosion in NPI at these two properties was offset by gains at Northpoint, where asset enhancement (AEI) work is finally drawing to a close. The combination of rising occupancy and higher post-AEI rents led to a 35% QoQ increase in NPI at the mall. Consequently, NPI was up 0.1% for the overall portfolio.

What next? 97% of NP’s NLA has already been leased or is in advanced stages of negotiations with tenants. The manager is projecting a 20% increase in average rents at the mall from S$11 per square foot per month to S$13.20 psf pm. This should flow through to 4Q09 results. Meanwhile, FCT issued S$75m 3-year fixed rate notes in June, which it will use to repay short-term debts. Gearing is expected to consequently fall to below 30%. AEI plans at CP, which were postponed, could potentially be resurrected now that the macro picture and credit market look to be stabilizing. But CP is the portfolio’s key revenue driver and investor appetite for DPU stability may be a constraint. Meanwhile, the manager said two malls in the pipeline were “ready for acquisition”. Financing and pricing of any acquisition is still a question mark, however, in our opinion.

Valuation. We have increased our earnings estimates to reflect the positive rental reversions achieved in 9M09 as well as the post-AEI support from NP. We still expect declines in achieved rent in FY10, however. We are also lowering our cap rate assumptions by 40 basis points. Our new fair value estimate is S$0.95 (prev: S$0.75), at par to our SOTP value for FCT. We are estimating yields of 7.2% and 7.7% in FY09 and FY10. Maintain HOLD.

Steady performer

• Met expectations. 3Q09 results are in line with Street and our expectations. DPU grew 3.2% yoy to 1.94cts, to make up 27% of our full-year forecast. Distribution income (+4.1% yoy) and net property income (+4.4%) grew despite disruptions from enhancement work at Northpoint, boosted by higher contributions from Causeway Point and Anchorpoint.

• Occupancy stable; reversions positive. Portfolio occupancy was stable at 93.2% (-0.2% qoq) even though Northpoint’s occupancy was affected by enhancement work. Renewals were on track and reversions were 14% above preceding rates. This translates to an annual increment of 4.5%, assuming typical 3-year leases.

• Northpoint and other leasing updates. Enhancement work on Northpoint is expected to end shortly. Physical occupancy was 75% as at end-Jun 09. However, 97% of the net lettable area has been leased, including space being negotiated with tenants (talks in advanced stage). Management estimates that enhancement will increase Northpoint’s average rents by 20% (to S$13.20 psf) and full-year net property income by 30% (to S$18m). Additionally, 98% of gross rental income for FY09 has been locked in.

• Northpoint 2 and Yew Tee Point ready for injection. Northpoint 2 and Yew Tee Point, currently held by sponsor FCL, appear ready for injection in the short term with committed occupancy rates of 100% and 94% respectively. In our view, Northpoint 2 is more likely to be injected first as it is already fully occupied and seamlessly integrated with Northpoint. The put and call option announced last year estimates an acquisition price of S$139.5m-170.5m (S$1,632-1,994 psf).

• Maintain Outperform and target price of S$1.12. FCT’s progress in pre-leasing renewals, positive reversions and stable occupancy reaffirm our belief that suburban retail is stable despite the downturn. Our estimates and DDM-derived target price of S$1.12 (discount rate 9.2%) are unchanged. Maintain Outperform.

Solid as a rock

• In line with expectations
• Pace of rental growth on reversions still at double digits
• Outlook resilient, Northpoint construction works completed
• Buy with TP of $1.08

Results largely in line. FCT recorded a 3.4% yoy rise in distribution income to $12.1m (DPU 1.94cts) in 3Q09 on a 0.5% uptick in revenue to $21.2m. NPI improved 4.4% yoy to $14.7m thanks to lower maintenance and other expenses, which lowered expense ratio to 30.7%.

Rental growth on reversion maintained at double-digit levels. The better performance was attributed to renewal of 12% of portfolio NLA (77,566sf) in Q3 at rents 14% above preceding levels while overall occupancy remained at 93%. FY09 income is well secured with only 2% of NLA left to be contracted this FY. The group’s pure exposure to the suburban retail sector and lack of competing properties within its malls vicinity should continue to provide income resilience. It augurs well with 10%, 42% and 35% of its income is up for renewal in FY10, FY11 and FY12 respectively. Beyond this, AEI works at Northpoint will be completed and is 75% occupied presently. Up to 97% of the 149,400sf NLA is leased or under negotiation and average rents are expected to be 20% higher than before. This should lift bottomline by c8%.

New acquisitions remain a closely watched driver. Plans to include Northpoint II and Yew Tee Mall are still in place. With cost of equity declining owing to higher stock price, any transaction would likely be accretive for unitholders.

Maintain Buy. We have raised FY09 DPU to 7.3cts as rental rates have generally held up well vs our projection of a 5% decline. Share price have appreciated in recent weeks and the stock is trading at 0.8x P/bk NAV and implied portfolio yield of 6.5%. Our revised DCF target price of $1.08 offers a total absolute return of 15% over the next 12 months.

Boring But Defensive

3QFY09 results in-line with expectations. FCT reported a 3.2% YoY gain (+4.3% QoQ) in 3QFY09 DPU to 1.94¢. Annualised DPU of 7.3¢ came in slightly ahead of our forecast but in-line with consensus. FCT will trade ex-3Q09 distribution on 30 Jul 2009. Price target raised to S$1.17 (S$0.83 previously) to reflect a lower cost-of-equity assumption of 7.5% (9.5% previously) and terminal growth rate of 1% (nil previously).

Who says boring is bad? Apart from its resilient suburban portfolio, FCT stands out among the S-REITs as one of the least aggressive in terms of acquisitions. On hindsight, we think management has been among the most effective in terms of preserving the stock’s theoretical valuation through its
strong asset enhancement initiatives and cautious acquisition stance. With that, FCT continues to boast commendable financial credit metrics and a strong
balance sheet, which does not warrant any dilutive equity capital raising in the foreseeable future.

Resilient portfolio with limited downside. At current prices, CCT offers investors a dividend yield of 7% for FY09 and 7.2% for FY10. Causeway Point and NorthPoint, which contributes to 92% of NPI, are suburban malls which are resilient even during periods of recession. FCT has a strong balance sheet with gearing of 32.7% and interest cover of 4.5x. As all acquisitions are put on the backburner, there is no need for any equity raising in the near-term.

Low beta and high earnings resilience justify lower COE assumption. Like most REITs, FCT has risen sharply (+75%) since Mar 09, providing a forward
yield spread of 470bps above risk-free instruments, 110bps above its historical 360bps average. Despite the sharp increase, we think a forward yield of 7.2% continues to underscore our BUY justification on the counter. This is in view that FCT has one of the lowest betas (0.75x) among S-REITs, which typically average 1.1x. The relative stability of the stock price justifies a lower cost-ofequity assumption, hence higher theoretical fair value. Stock still undervalued at current levels. Trade stock to S$1.17 (~6% yield).

Anchored To Resilience In The Heartlands

Dichotomy in the retail market. Suburban malls are resilient and hardly affected by the financial crisis due to a change in behaviour with consumers visibly trading down to stretch every dollar. On the other hand, shopping malls along Orchard Road suffer from a triple whammy, namely: a) local consumers tightening their belts and doing more shopping at suburban malls, b) tourist arrivals falling due to the outbreak of influenza A (H1N1) and c) intense competition with 1,384,000sf of retail space being added this year.

Resilient portfolio of suburban malls. Shopper traffic remains healthy in Jul 09 after the Great Singapore Sale (GSS) held in May-Jun 09. Thus, management expects positive rental reversion to be sustainable, going into 2HFY09. Management is confident that valuation will hold up when investment properties are revalued in Sep 09 due to positive rental reversion. In particular, there is room for the valuation of Northpoint to increase due to Asset Enhancement
Initiative (AEI) and subsequent growth in rental income. Gearing will therefore remain below 30%.

Scenario analysis. We conducted a scenario analysis for the acquisition of Northpoint 2 and YewTee Point, assuming the transactions will complete in Dec 10. These acquisitions will be funded by 50% debt and 50% equity, assuming gearing of 35% post-acquisition. Our conclusion: embarking on equity fund raising through a private placement affects unitholders’ value as current share price is well below intrinsic value and the stock is undervalued. We estimate that
a private placement at S$0.80/share, representing 10.1% discount to yesterday’s closing price of S$0.89, dilutes FY10 DPU by 6.0% to 7.6% and reduces the target price by 5.8% to 7.9%.

Frasers Centrepoint Trust (FCT) focuses on suburban malls located next to the Mass Rapid Transit (MRT) stations, which cater to basic necessities and nondiscretionary spending by captive populations in HDB heartlands. Our target price for the stock is S$1.39, based on the Dividend Discount Model (required rate of return: 7.7%, terminal growth: 2.5%). FCT provides FY10 distribution yield of 8.7% and trades at 27.6% discount to NAV/share of S$1.23.