Result analysis: Recovery of Hong Kong retail and carpark portfolio well on track
- 1HFY24 distribution income rose 1.7% to HK$3.33bn, slightly beating our expectations, mainly due to lower-than-expected finance cost
- Hong Kong retail reversionary growth accelerated to 8.7% in 1HFY24
- Potential unit buyback to lend support to unit price
- Maintain BUY with DDM-based TP of HK$49.80
Link REIT’s 1HFY24 distribution income rose marginally by 1.7% to HK$3.33bn, as higher rental earnings were largely offset by increased finance cost. The result was slightly ahead of our estimate, primarily due to lower-than-expected finance cost. With a 22% increase in outstanding units following the rights issue in Mar-23, and new units being issued under the distribution reinvestment scheme, interim DPU fell 16% y-o-y to HK$1.30.
Total revenue grew 11.3% to HK$6.73bn, mainly boosted by maiden contribution from the Singapore retail portfolio acquired in Mar-23 and higher contribution from the Hong Kong portfolio. This was despite the drag from China’s retail and office portfolio and the impact from foreign currency depreciation.
Rental receipts from the Hong Kong retail portfolio went up 2.4% to HK$3.73bn, primarily thanks to a solid reversionary growth of 8.7% during the period under review. (FY23: 7.1%) Market and cooked food stalls continued to outperform by staging an 11.3% (FY23: 15.1%) rental growth on renewals. Meanwhile, on the back of an improved leasing sentiment upon border reopening and local economic recovery, reversionary growth for general retail shops accelerated to 8.1% in 1HFY24 from FY23’s 5.7%, with that of education/welfare tenants standing at 3.2% (FY23: 1.2%). This brought the average monthly unit rent 0.8% higher h-o-h to HK$64.3psf as of Sep-23, broadly on-par with that as of Mar-20. The portfolio maintained a record-high occupancy of 98% as of Sep-23.
While tenant sales at Link REIT’s Hong Kong retail portfolio has exceeded the pre-COVID level in FY23, it has gained further momentum by rising 3.1% y-o-y in 1HFY24. Food and beverage sector led the sales growth by climbing 9% during this period. This was followed by a 4.7% rise in sales from general retail tenants. On the other hand, with the resumption of dining activities, supermarket sales saw a 4.8% decline y-o-y. Overall, occupancy cost ratio stood healthy at 12.4% in 1HFY24 (FY23: 12.5%). This should continue to underpin a mid- to high-single-digit reversionary growth for the portfolio in FY24.
Total revenue from car parks and related businesses rose 5.2% to HK$1.24bn, mainly led by a respective growth of 4.5% and 7.5% in monthly and hourly carpark income due to the carpark tariff increment. Meanwhile, the two carpark/car service centres and godown buildings in Hung Hom and Chai Wan delivered stable revenues of HK$103m in 1HFY24. The 60%-owned office building in Kowloon East, The Quayside, contributed a rental income of HK$150m in 1HFY24 (1HFY23: HK$147m). Occupancy of the property dropped to 86.1% in Sep-23 from Mar-23’s 98.2% due to the exit of two tenants, but it is expected to recover back to 98.2% upon the commencement of new leases from replacement tenants.
Contribution from the China portfolio fell 6% to HK$742m, mainly due to Rmb depreciation. Excluding the effect from exchange rate, total revenue would have been relatively flat as shortfall from retail and office portfolio was offset by higher contribution from logistics assets. Due to a softer recovery in the China retail market, rental reversion for the China retail portfolio, including the minority-owned Qibao Vanke Plaza, stayed in the negative territory of 5.2% in 1HFY24. It is expected to level out by the end of FY24. The portfolio was 95.8% let as of Sep-23 (Mar-23: 95.2%). With the ongoing pressure in the China office market, occupancy at Link Square in Shanghai softened to 91.5% in Sep-23 from Mar-23’s 95.5%, with rental decline upon renewal standing at 7.5% in 1HFY24. The logistics portfolio saw a healthy occupancy of 95% as of Sep-23.
Revenue from the overseas portfolio jumped more than three-folds to HK$861m, mainly boosted by the maiden contribution from the Singapore retail portfolio, which was virtually fully let as of Sep-23. Benefitted from expansion demand, occupancy of the 50%-owned Australia retail portfolio improved further to 98.1% as of Sep-23 from Mar-23’s 96.9%. Average occupancy of the overseas office portfolio also climbed from c.90% in Mar-23 to 95.1% in Sep-23.
Overall NPI margin fell to 75.3% in 1HFY24 from 1HFY23’s 75.9%, mainly due to higher repair and maintenance resulting from increase in minimum wage and extreme weather events during the year and increased utility cost. Hence, net property income rose 10.4% to HK$5.06bn.
The first phase of asset enhancement work at Link Plaza Tianhe was completed and it soft reopened in Sep-23. With a total capex of c.Rmb300m, the project has achieved an ROI of c.12%. This should add momentum to the earnings recovery of the China retail portfolio. Meanwhile, renovation work at the Tung Tau Market was completed during the period under review. It achieved a ROI of 15.9% with an incurred capex of HK$28m. Facelift at Kai Tin, Butterfly, Kin Sang, Fu Shin, Sau Mau Ping, and Lei Yue Mun are well underway with a total budgeted capex of HK$378m.
Finance cost surged 67.2% to HK$1.01bn, mainly due to a higher average debt level and borrowing cost of 3.74% (1HFY23: 2.5%). Following the debt repayment in early FY24, total borrowings lowered to HK$59.7bn as of Sep-23 (Mar-23: HK$65.7bn). Net debt further improved to HK$46.6bn in Sep-23 from Mar-23’s HK$48.4bn. However, due to lower portfolio valuation primarily led by cap rate expansion, net gearing increased slightly to 18.0% in Sep-23 from Mar-23’s 17.8%. We believe Link REIT is financially sound for pursuing its diversification strategy. Under the prolonged interest rate hike environment, the bid-ask price between buyers and sellers is starting to narrow, especially in Australia. Link REIT will continue to explore acquisition opportunities prudently, with its primary focus on suburban retail assets in Australia, Singapore, and Hong Kong. Portion of fixed rate debt increased to 69.8% as of Sep-23, from Mar -23’s 56.8%.
Link REIT offers a distribution yield of 6.6-6.9% for FY24-25. This translates into a yield spread of 2.1-2.4%, slightly above with its 10-year average of 2.0%. Hong Kong retail portfolio should see higher earnings contributions as underpinned by solid reversionary growth. China retail portfolio is bottoming out with negative reversionary growth expected to level off by end of FY24. This, coupled with the contribution from newly renovated Link Plaza Tianhe, should further propel its earnings recovery. Any potential unit buyback in the near term should enhance its distribution yield and boost sentiment towards the counter. Maintain BUY with a DDM-based TP of HK$49.80.