• Suntec REIT's 3Q20 results impacted by Suntec City Mall and Suntec Convention, offset by new Australia assets.
• Early terminations and rental deferments in line; rental reliefs to taper off.
• Highlights:
  1. Suntec City Mall tenant sales at 80% pre-COVID level;
  2. increasing demand from tech sector;
  3. to improve financials via asset divestments and acquiring yield-accretive assets

Suntec REIT – 3Q20 Results

Results impacted by COVID-19, partially offset by new contributions from Australia assets; no retention in 3Q20, held back capital distributions.

• Suntec REIT (SGX:T82U)'s 3Q20 DPU fell 13% y-o-y to 1.85 Scts largely due to rent assistance for tenants and absence of capital distribution (S$6.5m).
• While there was no retention of distributions in 3Q20, the previous retained amounts were not paid out.
• Suntec REIT's 9M20 DPU fell 28% y-o-y to 5.141 Scts, in line with FY20F estimates.
• 3Q20 revenue and NPI fell 13% y-o-y and 19% y-o-y to S$80m and S$47m respectively largely due to lower performances from Suntec City Mall (NPI: -57% y-o-y) and Suntec Convention Centre (NPI: loss of S$3.3m) due to COVID-19 pandemic, partially offset by higher contributions from the Australia portfolio with contributions from new assets.
• Gearing was flat q-o-q at 41.5% (vs 41.3% in 2Q20).
• Average cost of debt was flat q-o-q at 2.6% (vs 2.63% 2Q20 and 3.01% in 3Q19).
• Suntec REIT recently raised S$200m perpetual securities at 3.8% to partly fund the acquisition of Nova Properties (see report: Suntec REIT - DBS Research 2020-10-12: Maiden Purchase At London’s West End). Based on a pro-forma basis, DPU accretion will be 3.4% while post acquisition gearing will be lowered to 43.6% vs 45% if fully funded by debt.

Suntec REIT – Operational Updates

Office portfolio relatively stable, recording positive rental reversions; Suntec City Mall recorded lower occupancy and negative rental reversion but tenant sales are back to 80% of pre-COVID levels in 3Q20.

• Suntec REIT's portfolio occupancies were generally stable q-o-q except Suntec City Office (-1.1ppt to 97%) and Suntec City Mall (-3ppts to 93.3%)
• Rental reversions were positive but moderated to 4.6% (vs 9% in 2Q20) for Suntec City Office with 135k sqft leases signed in 3Q20 (25% were new leases). New leases signed were mainly coming from TMT and FI sectors.
• Majority of the leases expiring in FY20 has been renewed with only 5.1% of the leases remaining and 2% vacant space. Management believes most of the remaining leases expiring in FY20 (majority in ORQ) should be able to close by year-end.
• Suntec City Mall completed 186.5k sqft, with 35% new leases signed. However rental reversions in 3Q20 fell 9.4% (vs -2.4% in 2Q20) thus lowering 9M20 rental reversions to +2.7% due to the challenging environment. Leases expiring this year dropped to 12% from 20.6% in 2Q20 but vacant space increased to 6.6% from 3.6% in 2Q20. Management expects to close the remaining leases by year-end with occupancy of 90%.
• Suntec City Mall saw steady improvement in footfall and tenant sales from July onwards post phase 2 reopening. Although 3Q20 saw footfall improving to 47% of pre- COVID levels, tenant sales performed better at 79% of pre-COVID levels.
• Australian office portfolio remained stable with occupancy at 94% (vs 93.1% in 2Q20). The leases at 477 Collins have commenced.
• Suntec REIT has minimum lease expiries in FY2020 and approximately half of the 5% of leases expiring in FY21 have already signed Heads of Agreement (HOA) while 1% is not expected to be renewed or re-let.

Suntec REIT – Impact From COVID-19

• Early lease terminations and rent deferments were in line with previous estimates with some of these spaces backfilled.
• Singapore office
  • Only 2.3% of NLA (comprising mainly retail) qualified for landlord’s additional rent relief as at 3Q20 and no further rent relief is expected in 4Q20.
  • Early termination by tenants was 0.9% of NLA, in line with our projection of 1% previously, of which 0.3% has been backfilled.
• Suntec City Mall
  • Overall, Suntec REIT has provided more than 2 months out-of-pocket and government rent assistance of 2 months base rents to its retail tenants. Management expects further rental rebates will only be granted on exceptional cases.
  • Early termination of leases is 6.4% of NLA to-date, higher than previous estimates of 4%, and not expected to increase significantly for the rest of this year. Suntec REIT has successfully backfilled 10% to 15% of the space.
  • Rent deferment is 10% of NLA to-date, in line with previous estimates and we expect only 3% to 4% may face difficulties in paying once the deferment period is over. However, for prudence purposes, Suntec REIT has provided rent deferment of 30% to 40% of NLA as doubtful debts.
• Suntec Convention
  • Church services of up to 100 attendees have resumed.
  • Despite the authorities increasing the number of attendees of MICE events to 250 with effect from 1 Oct 2020, Suntec Convention’s outlook remains challenging as big-scale events are still not allowed. Management sees that smaller events (such as weddings) should help to offset some costs.
  • Currently undergoing a strategic review on whether to convert to other uses in the near-term
• Australian portfolio
  • Approximately 7% of the tenants have been granted partial rent rebates and deferments (in line with previous estimates), split equally between office and retail tenants.

Suntec REIT – Outlook

Office portfolio remains relatively stable with tenants looking for more flexible leases or space; Suntec City Mall expected to record -10% rental reversions in 2H20 but more optimistic now; Suntec City Mall occupancy expected to drift down marginally, which will allow some tenant remixing opportunities

• Suntec City Office has remained resilient during this period and physical occupancy stands at 20% currently, though slightly lower compared to MBFC and ORQ; this bodes well for sentiment and Suntec City Mall.
• Despite pressure on rents, management expects to keep rents steady for leases expiring in FY21 at average expiring rents of S$8.78 at Suntec City Office.
• Management continues to see increase in demand from the tech sector and has signed a new lease with a Chinese tech firm at Suntec City Office recently following news that Chinese Tech Giants are expanding in Singapore. Suntec REIT is looking to fit-out some office space to create “plug and play” solutions and provide shorter-term leases with more flexibility for its tenants.
• For Suntec City Mall, management expects rental reversions to be -10% in 2H20 (better than previous estimates of -10% to -20%) and -2% to 3% reversions for FY20F and occupancy to drift down to 90% by year-end, due to the challenging environment.
• Australian portfolio remains stable and will look to provide more full-fitted office suites to create “plug and play” solutions for occupiers.
• Following the proposed acquisition of Nova Properties, management will continue to work on improving its balance sheet financial metrics such as asset divestments (possibly not fully owned assets).
• At the same time, management continues to look for opportunities to recycle capital into higher yield assets. According to management, the UK and Australian transaction markets are getting more active but prices especially in Australia have held steady. Management maintain its stance to ensure accretive acquisitions and will consider equity fund raising when Suntec REIT's share price improves.

Suntec REIT – Recommendation

Maintain BUY; Target Price of S$1.81.

• We believe Suntec REIT is trading at attractive valuation of 0.7x P/NAV, -1 SD of its historical range, with limited downside risks and is poised to ride on the recovery. While we acknowledge that recovery could be gradual, the lower income contribution is expected to be offset by contributions from the new assets.
• With ongoing efforts to improve balance sheet metrics and management’s stance to keep to accretive asset recycling opportunities, we believe this will appease some of the equity fund raising risks that investors had concerns on.

Source: DBS Research - 23 Oct 2020