Macro signals continue to show strength

Indonesian economy sees growth. Indonesia’s Deputy Finance Minister said this week1 that the economy is likely to have grown by 5.9% YoY in 2Q10. The Central Statistics Agency reported that Indonesia’s GDP grew 5.7% YoY in 1Q10. Domestic consumption accounts for about two-thirds of the Indonesian economy. The Indonesian government has forecast growth of 5.8% in 2010. It also expects growth of 6.1% to 6.4% next year. Earlier this month, Indonesia’s Finance Minister Agus Martowardojo said that he expected economic growth to be underpinned by “household consumption that stays strong, the improving investment climate and the increase in export activities”. We note inflation hit 4.16% in May – its highest level in a year; the IMF noted that monetary policy may need to be adjusted later in 2010 “if inflationary pressures increase” .

Leasing efforts positive. In our view, strong domestic consumption could lift the fortunes of both retailers and retail landlords like LMIR Trust (LMIR). At 1Q10 results, LMIR had reported that retail mall occupancy as of 31 Mar fell 2.2 percentage points compared to three months ago to 93.8%. The manager attributed the occupancy decline mainly to the expiry of rental guarantees, granted by the vendor at the time of LMIR’s IPO, on spaces that had undergone extensive asset enhancement. After including temporary leasing and new leases committed by way of signed letters of intent, occupancy at Mar 2010 was 96% (flat). We spoke to the manager this week and understand that leasing efforts are going well, and occupancy trends are positive. LMIR also reports continued growth of customer average spend per visit. This is supported by other accounts of increasing consumer confidence and consumption – PT Astra International said it expects vehicle sales of 650,000 units in 2010, up 34% YoY.

Valuation. The manager noted at 1Q10 results that the REIT’s “portfolio has a very defensive position with very low upcoming expiries and already high occupancy levels”, which may cap near-term earnings upside from the improving retail environment. Nevertheless, LMIR still has scope for accretion from new acquisitions, thanks to its low leverage of 10.2% debt-to-assets (the lowest in the S-REIT sector). Meanwhile, CFO Shane Hagan tendered his resignation this month, after just a year with LMIR. We don’t expect a significant impact to the REIT, with LMIR’s CEO assuming Mr Hagan’s duties until a replacement is found. Our fair value estimate of S$0.55, at a 20% discount to SOTP value, remains unchanged. With a 23.7% estimated total return, maintain BUY.

1Q10 misses the mark as rental guarantees expire

1Q10 results below expectations. LMIR Trust reported 15.7% YoY and 3.4% QoQ gains in 1Q revenue and net property income to S$21.6m and S$20.3m respectively, primarily due to the strong Indonesian Rupiah (IDR) against the Singapore Dollar (SGD). By our estimates, revenue and NPI were slightly negative to flat YoY and QoQ in IDR terms. Revenue and NPI missed our estimates by 8.9% and 7.6% respectively. Meanwhile, distributed income fell 11.5% YoY but rose 3.5% QoQ to S$12.9m or 1.20 S cents per unit. We believe this is due to the appreciation in the IDR, as the hedged rate on distributions is significantly higher than the physical rate. Consequently, LMIR booked a realized (cash) forex loss this quarter of S$1.7m versus a loss of S$0.9m in 4Q09. DPU was within 5% of our expectation of 1.26 S cents.

Mall occupancy falls 2.2ppt versus 31 Dec to 93.8%. Malls such as The Plaza Semanggi (the second largest income contributor among the retail malls), Bandung Indah Plaza (third largest contributor) and Ekalokasari Plaza recorded occupancy declines of 600 basis points, 470 bps, and 820 bps respectively. The manager attributed the occupancy declines (-220 bps overall) mainly to the expiry of rental guarantees, granted by the vendor at the time of LMIR’s IPO, on spaces that had undergone extensive asset enhancement. After including temporary leasing and new leases committed by way of signed letters of intent, occupancy at Mar 2010 is 96% (flat). The manager said that with improving sentiment, it continues to receive various leasing enquires for vacant space. It is also re-mixing its tenant profile as it positions the portfolio for a more favorable retail climate.

Easing earnings estimates slightly. LMIR re-iterated that while the retail property market might start to benefit from a strong macro environment, LMIR will not see any “material benefit” in 2010 as “the portfolio has a very defensive position with very low upcoming expiries and already high occupancy levels”. The REIT manager said it continues to source for new acquisitions to take advantage of its low leverage of 10.2% debt-to-assets. We are now factoring in lower occupancy assumptions for FY10 and FY11. Our revenue estimates decline 2.7% and 3.7% for FY10-FY11F. In line, we adjust our DPU estimates for FY10-FY11F down by 3.3% and 4.3% to 5.0 S cents and 5.2 S cents respectively. Our fair value estimate, at a 20% discount to SOTP value, declines to S$0.55 from S$0.59 previously. With a 23% estimated total return, we maintain our BUY rating.

Implications of Matahari Department Stores sale

Matahari sale. Matahari Department Stores (MDS), a related company of LMIR Trust (LMRT), is being sold by its 90.8% owner PT Matahari Putra Prima (MPP). MPP, Indonesia’s largest retailer, owns retailing formats including MDS, Hypermart, Foodmart, Boston Healthcare, Times Bookstore, and Timezone. Its majority owner is the Lippo Group. MDS is being sold to CVC Capital Partners, a private equity group, for IDR 7200b. Most of the cash proceeds will be used by MPP to repay debt. MPP will also get a 20% stake in Meadow Asia, a joint venture that will hold the MDS stake. The proposed deal is currently in process as MPP addresses concerns raised by the local regulatory agency1. 

Major tenant. Several MPP businesses including MDS, Hypermart, and Times Bookstore are tenants at LMRT properties. MDS, which has over 80 department stores in Indonesia, is LMRT’s second largest mall tenant – it contributed 4.1% of mall portfolio gross income in FY09. Meanwhile, all seven retail spaces are leased to MPP for a term of 10+10 years starting from 2007, and a significant portion of that space is utilized by MDS. The spaces contribute 18% of portfolio income as of 31 Dec. 

Implications. We spoke to LMRT’s manager regarding MDS. The sale has no impact on the current lease agreements between MDS and LMRT. We understand that the people running the business are unchanged – so the ground level relationships between LMRT’s leasing team and MDS should remain largely intact. We also note that Lippo Group will continue to have an interest in MDS through MPP’s stake in Meadow Asia. More broadly, we believe the commercial relationship between LMRT and MDS still makes sense – both on a target customer level and also because LMRT has consistently been able to maintain portfolio occupancies significantly above market. Still there could be a risk of tighter negotiations on rents and lease terms. As for the seven retail spaces, MPP is the master lessee and the option to renew the agreements come 2017 still remains with MPP. 

Our view on LMRT is unchanged. Issues that adversely impacted FY09 earnings such as early lease terminations and low retailer budgets for advertising & promotion expenditure will be less of a factor in FY10, in our opinion. We also see increasing chances of an acquisition in the next six to 12 months. A strong IDR, which may continue to be a drag on distributions, is a key risk to our estimates. We maintain our BUY rating and S$0.59 fair value.