Stock Market Reseach of CapitaLand Commercial Trust

CapitaLand Commercial Trust - A prime Marina Bay office does not come cheap
■ Strategically compelling but still DPU dilutive, on our estimates
■ Even after rental correction, Marina Bay office prices are not cheap
■ We reiterate Sell (5) rating with an ex-rights TP of SGD1.39

What's new:

CCT announced the acquisition of Asia Square Tower 2 (AST2) on 21 September 2017 and held a briefing for analysts. We maintain our Sell (5) rating as we expect it to be mildly DPU dilutive.

Read more - Singapore Stocks CapitaLand Commercial Trust analysis

What's the impact:

CCT will acquire AST2 at an initial net-property income (NPI) yield of 3.6%, with a committed occupancy rate of 88.7% as at 30 June 2017 and finance the total deal cost of SGD2.15bn with SGD1.12bn of bank borrowings, SGD340m of recent divestment proceeds, and SGD690.4m of equity from a 166 for 1,000 rights issue (at an issue price of SGD1.363/unit). The pro-forma gearing, after all transactions, is 37.1%.

We expect the transaction to be mildly DPU-dilutive, but depending on the actual borrowing cost and the rate of cash-rent improvement in AST2, it might become DPU accretive eventually. Given the multi-funding strategy to optimize the DPU impact, AST2’s prominence in the heart of Marina Bay and how it would enhance and diversify CCT’s overall portfolio, we can see why management was willing to buy AST2 at a 3.6% initial yield, although there will be some minor tax leakage in buying it through its existing special purpose vehicle.

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The purchase price of SGD2,689/sq ft is about 8% lower than the average valuation of other equally new Marina Bay office properties, so CCT is not paying the highest price, but this is just relative, in our view, because even though office rents have corrected by about 20% from the recent peak in early 2015, capital values of Marina Bay properties have only appreciated over this period. We also suspect that some of its in-place rents are higher than the spot rents, so we see some short-term risk of negative rental reversions (about 10% of AST2 leases are due for renewal in 2018).

We do not regard the deal as clear winner (on DPU-accretion) like some of the recent Mapletree-related deals (Mapletree Business City and Mapletree Logistics Hub Tsing Yi), but it is not a totally bad 3rd -party deal either, in our opinion. Nonetheless, we hold CCT management to exacting standards.

What we recommend:

We maintain our Sell (5) rating and revise down our DPU forecasts for 2017-19E by 3% after incorporating AST2 into our forecasts along with the funding assumptions. We lower our DDM-derived 12-month target price to SGD1.39 (ex-rights) from SGD1.42. A risk to our call is an exuberant recovery in Singapore office rents.

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