Result Analysis: Resumed 100% distribution payout
- 1H22 distributable income fell 6.9%, in line with our estimate
- Resumed 100% distribution payout ratio
- Venturing into Singapore’s retail sector
- Maintain BUY with a DDM-based TP of HK$7.95
Fortune REIT 1H22’s distributable income was HK$457m, down 6.9% y-o-y, due to lower rental earnings and higher cash finance cost. The result was broadly in line with our estimate. With an improving retail scene, Fortune REIT resumed a 100% pay-out ratio for 1H22 (FY21: 90%, 1H21: 100%). Interim DPU fell by a larger 7.7% to HK$0.2305.
Total revenue dropped 4.1% to HK$868m. Base rent was 4.5% lower at HK$692m, mainly dragged by rental concessions granted to tenants, negative reversionary growth and lower average occupancy. Despite a 3.4% fall in hourly carpark income due to 12.5% footfall decline, total carpark income was flat at HK$55m in 1H22, aided by resilient monthly car park income.
In view of the fifth wave of the pandemic, Fortune REIT has granted a new round of rental concessions on a case-by-case basis, with priority given to those who were impacted by mandatory closures and dinner restrictions. Compared to 2020, the amount granted this time was much lower.
Rental decline upon renewals further narrowed to c.5% in 1H22 from 2021’s 6-8% on the back of an improved retail scene. Tenant retention rate in the period was high at 81%.
With gradual commencement of new committed leases for stage 1 AEI at +WOO Ph2, occupancy at +WOO picked up to 88.6% in Jun-22, from Dec-21’s 86.7%. In Jul-22, Fortune REIT has completed the stage 1 AEI at +WOO Ph2. The entire AEI at +WOO Ph2 is slated for completion by the end of 2023 with a budgeted capex of HK$300m.
Meanwhile, reflecting the departure of elderly homes and education tenants, occupancy rates at Jubilee Square and Belvedere Square softened to 95.3% and 91% respectively from Dec-21’s 98.3% and 97.9%. Centre de Laguna, which was virtually fully let as of Dec-21, also saw its occupancy moderating to 92% in Jun-22 while that of Metro Town improved to 99% in Jun-22 from Dec-21’s 95.3%. Overall, the portfolio was 93.9% let as of Jun-22 (Dec-21: 94.3%).
The gradual easing of social distancing measures since Apr-22 has encouraged the swift return of consumers. Along with distribution of electronic consumption vouchers, mall traffic and hourly carpark income at Fortune REIT’s portfolio rebounded 20.3% and 46.9% m-o-m respectively in Apr-22. Recovery momentum was sustained in May-22 and Jun-22.
Property operating expenses increased 2.1% to HK$214m. Savings in utility expenses was partly offset by increase in building management expenses, allowance for credit losses, and advertising and promotion expenses. This, coupled with lower rental receipts, brought the cost-to-income ratio higher at 24.7% (1H21: 23.2%). Hence, net property income fell by a larger 5.9% to HK$634m.
Cash finance cost was 8.5% higher at HK$95m, mainly due to higher average debt level during the period. Effective borrowing cost was flat at 2.2% (1H21: 2.2%).
In Aug-22, Fortune REIT entered into a sale and purchase agreement with its major shareholder, Cheung Kong Asset Holdings (CKAH), to acquire the Stars of Kovan property in Singapore. Total consideration amounted to S$88m (HK$501m), representing a 7.4% discount from the appraised property value of S$95m as of Jun-22. This not only marks its maiden venture outside Hong Kong but also the first acquisition since it purchased Laguna Plaza in 2015. The acquisition is expected to be completed in Oct-22.
Completed in 2019, the property comprises 36 retail units with a GRA of 22,638sf and a public carpark in Stars of Kovan, a mixed-use development built by CKAH. The property is located within the residential neighbourhood in the Hougang area with close proximity to the Kovan Station on the MRT North-East Line. This makes it well positioned to capture the daily needs of residents nearby. As of Jun-22, the property was 100% let with >90% of its rental income derived from non-discretionary trades including F&B, medical, education and beauty. Over 47% of its leases, in terms of net rental income, is up for renewal by the end of 2023 with another 19% in 2024. Most of the current leases are under the first leasing cycle and were signed during the trough of market in 2019-21. Hence, on the back of strong retail market, favourable rental growth is expected upon renewal. Fortune REIT could also further improve the income from this asset through optimizing the trade and tenant mix.
Initial net property yield is estimated at 3.4%. The acquisition is not expected to offer any significant yield accretion immediately. However, we believe it allows Fortune REIT to tap on the domestic consumption growth in Singapore fueled by the booming local economy. The consideration will be fully debt funded. Fortune REIT will raise a new ESG loan of S$93m to fund the acquisition.
Following the completion of the acquisition of the Singapore retail asset, its gearing is expected to rise to 23.4% from Jun-22’s 22.4%. There is still plenty of room for Fortune REIT to conduct more yield-accretive acquisitions. The Singapore asset will account for 1.4% of its portfolio valuation with the remaining in Hong Kong.
Over 40% of its total debt is linked to sustainability features. About 70% of its interest cost has been hedged to fixed rate as of Jun-22. This should help mitigate finance cost risk amid interest rate hikes. In addition, the REIT has no refinancing requirements until Oct-23.
We have revised up our FY22 DPU forecast by 5% as we raised the assumed payout ratio to 100% from 95% previously.
Fortune REIT offers distribution yields of 6.7% for FY22-23. Resumption of 100% payout ratio should indicate a more stable outlook towards the REIT and prompt investors to revisit such a quality play. Meanwhile, the Hong Kong economy is exhibiting signs of recovery with a revival of business activities and falling unemployment rate. This, coupled with the distribution of consumption vouchers, should continue to underpin domestic consumption recovery, and bodes well for Fortune REIT’s reversionary growth. The acquisition of the community mall in Singapore should allow Fortune REIT to participate in the retail sector’s growth there. Maintain BUY with DDM-based TP of HK$7.95.