November 18, 2020

Bigger Scale But Slower Growth; Downgrade To HOLD

The merger of CMT and CCT creates a behemoth in CICT, which is double in size with 24 properties valued at S$22.4b. However, the increased diversification means that asset enhancements for existing properties will have a smaller impact due to the larger base. Furthermore, post-merger aggregate leverage of 41.8% leaves little debt headroom for future acquisitions. We see 2021F distribution yield of 5.5% as fair (FCT: 5.9%, SUN: 6.4%). Downgrade to HOLD. Target price: S$2.25. Entry price: S$2.00.

WHAT’S NEW
• A behemoth is created. The merger of CapitaLand Mall Trust (CMT) and CapitaLand Commercial Trust (CCT) through a trust scheme of arrangement creates a behemoth, CapitaLand Integrated Commercial Trust (CICT), which is double in size with a combined portfolio of 24 properties valued at S$22.4b. CICT will become the largest REIT in Singapore and the second largest REIT in the Asia Pacific region.

• Increased diversification and reduced concentration. CICT has eight office properties, 11 retail properties and five integrated developments, which account for 38%, 33% and 29% of portfolio valuation respectively. The expanded scale comes with increased diversification and reduced concentration risk. Net property income contribution from the top-5 properties is reduced from CMT’s 50% and CCT’s 82% to CICT’s 43% post-merger. The size of properties ranges from the largest Raffles City Singapore (RCS) at 14.6% of enlarged assets under management (AUM) to JCube at 1.2% (average size per property: 4.2% of AUM).

• But enhancements become less impactful. Management is mulling enhancements for JCube, Westgate, IMM Building, Junction 8, Capital Tower and The [email protected] These projects incur additional capex and result in downtime without revenue contribution. Also, the positive impact of asset enhancement initiatives and redevelopment for existing properties would be moderated due to the enlarged base of properties. It gets more difficult to move the needle for contribution to the overall portfolio.

• Averaging down to a slower growth rate. The law of averages dictates that growth in the retail business unit could be offset by a slowdown in the office business unit, and vice versa. The synchronised growth in both retail and office business units would be a rarity.

• Remains grounded in Singapore and developed markets. CICT intends to be anchored in Singapore with overseas exposure capped at 20%. It intends to focus on developed markets, such as Europe and Japan. However, being the largest off-take vehicle within CapitaLand, CICT is likely to play a pivotal role in CapitaLand’s goal of achieving asset recycling of S$3b per year.

STOCK IMPACT
• Fairly valued relative to peers. S-REITs with a mix of two or three asset classes tend to trade at a higher distribution yield and discount to NAV. Suntec REIT (office: 83%, retail: 20%) and OUE Commercial REIT (office: 63%, retail: 11% and hospitality: 26%) trade at distribution yields of 6.4% and 8.5% respectively. Their discount to NAV is also significant at 29% and 44%. We consider CICT fairly valued with 2021F distribution yield at 5.5% (Frasers Centrepoint Trust (FCT): 5.9%, Keppel REIT (KREIT): 5.9% and Suntec Real Estate Investment Trust (SUN): 6.4%).

• Higher aggregate leverage leaves little headroom for acquisitions. CMT’s aggregate leverage is estimated to increase from 32.9% pre-merger to 41.8% post-merger. This would be caused by cash consideration of S$1,000.2m for the acquisition of CCT and consolidating RCS’ debts of S$1,218m. Our estimate of aggregate leverage is higher than 38.3% as of Dec 19, which management provided, due to decline in fair value of investment properties of S$279.6m for CMT and S$131m for CCT in 1H20.

EARNINGS REVISION/RISK
• Our forecast DPU of 11.1 S cents for 2021F and 11.5 S cents for 2022F.

• We expect CICT to recognise gains on the acquisition from negative goodwill of S$620.4m assuming new CICT units are issued to CCT unitholders at S$1.89 each, which is the closing price of CMT units on the merger effective date of 28 Oct 20. Our estimated NAV/share post-merger is S$2.05.

VALUATION/RECOMMENDATION
• Downgrade to HOLD. Our target price of S$2.25 is based on DDM (COE: 6.0%, terminal
growth: 1.0%). Entry price is S$2.00.

SHARE PRICE CATALYST
• Asset enhancement and redevelopment of existing properties.

• Pre-commitment at CapitaSpring remains low at 34.9%. The building is targeted for completion in 2H21.

HOLD by UOB Kay Hian Securities. Share price closed at $2.04