Another stable quarter

Stronger Japan and Australia contributions offset negative office rental reversions and weaker Chengdu rentals. Valuations remain undemanding against sector peers given stability with potential catalysts from a Toshin rent review and Wisma Atria's AEI.

1Q12 DPU matches our estimate and consensus at 25% of FY12. We keep our numbers but raise our DDM-based target price on a lower discount rate of 8.4% (from 8.8%). Maintain Outperform.

Stable quarter

1Q12 NPI was up 0.8% yoy as stronger Wisma, Australian and Japanese contributions offset negative office rental reversions at Ngee Ann City and weaker Chengdu rentals. Office occupancy at Wisma Atria and Ngee Ann City improved, though rental reversions at the latter were negative on high expiring rents. Signing rents were stable at S$9-10psf. Rental softening at its Chengdu mall from competition with new malls was unexpected. Repositioning work is underway, with Armani expected to open in 2Q12.

Wisma Atria's AEI on track

Wisma Atria's AEI is on track for completion by 3Q12. Disruptions have been moderate with retail occupancy up to 95.3% from 4Q11's 94.8%. While pre-commitments were unchanged at 75%, we understand that enquiries have been strong and management is holding out for better rentals as AEI nears completion. Separately, Food Republic is being renovated to unveil a new-concept food outlet in 3Q12.

Still waiting for Toshin

Starhill is still awaiting a response to its appeal on the Toshin rental review mechanism. Meanwhile, Toshin has signalled its intention to renew its lease term, commencing 8 Jun 13. While this could negate any upside from a complete lease overhaul (and direct management by Starhill), other upside could come from a downside-protected rent review then.

Starhill-Toshin rent case goes to Court of Appeal

Independence of valuers is the bone of contention

A DISPUTE between Starhill Global Reit and its master tenant in Ngee Ann City over whether a process used to set retail rents is still operable has gone before the Singapore Court of Appeal.

At issue is whether the independence of the international valuers that are part of a rent review process has been compromised by alleged bias. This was after Toshin Development Singapore allegedly ‘secretly’ approached all eight valuers and hired seven in 2010 to do valuations for a period that included a new rental term beginning June 8, 2011, several months before a joint rent review exercise was to have started.

Toshin, a unit of Takashimaya, leases more than 225,000 sq ft in Ngee Ann City, which it then sub-leases to luxury brands such as Chanel, Louis Vuitton, Burberry and Tiffany & Co.

In opening arguments before the appellate court yesterday, Senior Counsel Alvin Yeo of WongPartnership and Starhill’s lawyer argued that Toshin had ‘in a calculated manner, undermined the rent review mechanism such that it is no longer operable to provide parties with a rent that is objectively determined’.

Starhill would be ‘unfairly prejudiced’ because Toshin ‘knew exactly the prevailing market rent which the valuers would provide … based on their valuation report in 2010’ and would ‘be in the position to choose and manipulate the appointment of valuers in their favour’, Mr Yeo said.

As such, Starhill wants the court to replace the existing rent review process with another that will ‘provide parties with the objective and unbiased evidence of the prevailing market rental of the premises,’ he said.

‘This can be done, for example, by the court ordering an assessment where parties can call evidence from local valuers,’ Mr Yeo said.

Starhill’s appeal comes after its request for the court to determine the prevailing market rent of the Toshin lease was rejected in January by High Court Justice Lai Siu Chiu.

In her grounds of decision, she said she had her ‘reservations about the legitimacy of this remedy’ as it ‘would amount to the court substituting its own terms for those in the lease agreement, which was a contract made between the parties’.

She also found that the valuers were ‘not involved in a conflict of interest’ and that Toshin had ‘not obtained any unfair advantage by engaging seven of the eight valuers in 2010’.

But Starhill disagreed. ‘Regardless whether the valuers have a conflict of interest, the issue is whether the valuers are perceived by the parties as not biased,’ it said.

But Toshin, which is represented by Senior Counsel Cavinder Bull of Drew & Napier LLP, argued that Starhill has ‘no legitimate basis to derail the contractual rent review machinery’.

Mr Bull pointed out that five valuers have ‘confirmed in writing that they will not have any conflict of interest and that nothing has compromised their ability to objectively carry out professional, fair and independent valuations’.

In hiring the valuers in 2010, Toshin wanted to gauge how rentals had moved in light of a nearly 20 per cent jump in annual rents to $33.9 million at the last review in 2008, and in the aftermath of the financial turmoil later that year, as well as the opening of new shopping malls in Orchard Road.

‘This was so that it could estimate the possible impact on its business (eg, sub-tenants’ rentals could be affected),’ Toshin said. ‘Its head office in Japan also needed accurate information for preparing earnings forecasts to shareholders, and there was heightened scrutiny on Toshin’s rental rates due to the large hike in 2008.’

Furthermore, Mr Bull argued that Toshin could not demonstrate ‘a live conflict of interest’ because 18.5 to 19 months had elapsed since most of the valuations were carried out in 2010.

‘The price of a three-year lease transacted in June 2010 is not the same as the price of a two-year lease transacted in June 2011; they are based on two different sets of information and circumstances that exist on the two valuation dates, which are a year apart,’ he said.

Steady quarter

Rental step-ups for David Jones and AEI contributions from Starhill Gallery buffered AEI disruptions and negative office reversions. We anticipate a stable 2012, with earnings anchored by master leases,upside from AEI at Wisma Atria and a potential uplift from Toshin.

4Q/FY11 DPU broadly meets our estimates and consensus at 25%/97% of our numbers. The slight miss was due to higher borrowing costs. We slightly lower our DPU estimates but keep our DDM target price (disc. rate: 8.8%). We also introduce FY14 forecasts. Maintain Outperform.

Stable quarter

4Q11 NPI was flat yoy as AEI disruptions and negative office rental reversions were buffered by a full-quarter of rental step-up for David Jones and AEI contributions from Starhill Gallery. Positives were rising office occupancy, although negative office rental reversions slightly disappointed. Mitigation could come from slightly tightening occupancy and low office leases expiring in 2012. Enquiries and asking rents thus far are healthy.

Wisma Atria AEI

Disruptions have been moderate with retail occupancy at 94.8% in 4Q11. While pre-commitments are unchanged at 75%, we do not anticipate major problems in leasing out the remaining space given limited upcoming retail supply along Orchard Road and still-strong tourist arrivals. We expect pre-commitments to climb as AEI progresses.

Seeking appeal for Toshin

Starhill plans to appeal again for a review of the Toshin rental review mechanism after the Court’s recent unfavourable ruling. While failure to obtain any rental uplift could affect our DPU by 3% (we had factored in 10% rental uplift on renewal), downside should be capped by the upward-only rental-review clause and should be compensated by other sources such as rental improvements at a refurbished Wisma Atria.