CapitaCommercial Trust VS Keppel REIT

Prime office rents in Singapore are expected to extend gains this year as the supply of new properties coming into the market is limited. According to Knight Frank, about 1.15m sq ft of new office space will come on stream this year, rising to 1.6m sq ft in 2016 and 4.7m in 2017. As such, office REITs are expected to outperform this year and the next.

The two most prominent REITs offering Grade A properties are CapitaCommercial Trust (CCT) and Keppel REIT (KREIT) , so I thought, why not make a comparison between CCT and KREIT to see which is a better investment.

We'll compare these two REITs based on a few criteria:

1. Properties in portfolio.

CCT: Mostly in Singapore
1.      Capital Tower
2.      Six Battery Road
3.      One George Street
4.      Raffles City Singapore (60% interest)
5.      Twenty Anson
6.      HSBC Building
7.      Wilkie Edge
8.      Bugis Village
9.      Golden Shoe Carpark
10.  CapitaGreen (40% interest) – planning to acquire the remaining 60% in the next few years.
11. 30% stake in Quill Capita Trust, a commercial REIT listed on Bursa Malaysia Securities Bhd
12. 7.4% stake in Malaysia Commercial Development Fund


Total investment in Malaysia is S$65m, 0.9% of its total asset size.

KREIT:

Singapore
1. 99.9% interest in Ocean Financial Centre

2. One third interest in Marina Bay Financial Centre Phase One (Tower 1, 2 & 3)

3. One-third interest in One Raffles Quay

4. 92.8% interest in Prudential Tower

5. Bugis Junction Towers

Australia

1. 50% interest in 8 Chifley Square and 77 King Street Officer Tower in Sydney

2. 50 interest in 8 Exhibition Street in Melbourne

3. 50% interest in 275 George Street in Brisbane

4. 50% interest in new office tower to be built on Old Treasury building site in Perth

I do not like KREIT's exposure to Australian properties despite the four properties taking up only 12% of its total portfolio value. Australia's economy is not in a good shape right now due to the slump in demand of commodities, which might affect the demand for office space. However, I like KREIT's crown jewel, MBFC, which will be able to fetch a relatively higher rent compared to other properties. Meanwhile CCT's exposure to Malaysia is negligible. 

2. Debt

CCT: Gearing ratio of 29.3%, Interest cover ratio 5.5x, with average debt maturity at 3.4 years.

Average cost of debt 2.6%, 20% floating rate, 80% fixed rate.

CCT even included a sensitivity analysis in their report:

KREIT: Gearing 43.3%, Interest cover ratio 5x, with average debt maturity at 3.6 years.

Average cost of debt 2.23%, 35% floating rate, 65% fixed rate.

Looking at their debt profiles, I would definitely prefer CCT. Despite paying a higher interest rate, it has a more conservative debt profile. KREIT's gearing ratio is too high for my liking and with the imminent interest rate hike by the Fed, KREIT will likely need to spend more of its income servicing its debt, which will impact its DPU. I like CCT's low gearing ratio, higher interest coverage and the higher proportion of debt hedged at fixed rates.

3. Dividends

Share price as of 23/2/15

Looking at the dividends, KREIT is a better choice with a higher 5-year CAGR of 2.63% and a higher dividend yield. 

4. Lease Profile

CCT: 

Top ten blue chip tenants accounted for 43% of CCT’s monthly gross rental income, top three tenants: RC Hotels, GIC and JP Morgan

52% of office lease will expire in the next three years,

Overall occupancy rate = 98.7%,

Weighted average lease term (WALE) to expiry for the top ten tenants is 16.8 years, top ten tenants excluding RC Hotels is 3.1 years

KREIT: 

Total 10 tenants accounted for 42% of portfolio, top three tenants: ANZ, DBS and StanChart

40% of office lease will expire in the next three years.

Overall occupancy rate = 99.3%

WALE for ten 10 tenants is 9 years

KREIT has a higher net property income CAGR compared to CCT as it has been aggressively expanding over the past few years, acquiring interests in MBFC from Keppel Land. Meanwhile CCT hasn't been actively acquiring properties but have been upgrading and renovating their existing properties instead.

Their lease profile is relatively similar. CCT's top 10 tenants WALE is significantly higher due to the longer leasing period of RC Hotels, which manages Swissotel located at Raffles City. Hence, CCT's portfolio has a little mix of commercial and hospitality properties, other than just office properties. I think it is unlikely that RC Hotels would run into any financial difficulties given that it has been in operation for 29 years and the hospitality industry in Singapore is in relatively good shape.

5. Net Asset Value

CCT: $1.75 vs share price of $1.78, means we will be paying 1.7% premium to its NAV

KREIT: $1.41 vs share price of $1.23, means we will be buying the share at a 12.8% discount to its NAV.

In conclusion, I would think CCT is a better BUY as despite the premium to NAV.  Despite CCT having a lower dividend and net property income CAGR compared to KREIT (due to KREIT buying assets over the years), it is a conservative and well managed office REIT. I like that it has a lower gearing ratio and a larger proportion of its debt is hedged in fixed interest rates, meaning that its earnings and dividends would be resilient when the Fed decides to increase interest rates later this year. Hence, it is worth paying a slight premium of 1.7% over its NAV. Better still, buy more when on dips!

Super Group (SUPER SP)

Below is an equity research report on SUPER SP:

Super Group manufactures, packages and distributes instant beverages, cereal flakes and other convenience products. It operates in two key business segments, namely the branded consumer segment and food ingredients segment.

Industry outlook:

• Increasing urbanization in Asia will lead to changing lifestyles, encouraging the demand for instant food products. There has been an increase in urban population by 32% in the Asia Pacific over the past decade. More and more consumers, particularly in China & Indonesia are moving towards the cities, where modern retailing channels make packaged and branded products more accessible and popular. Busy lifestyles and lesser space will likely encourage increasing consumption of processed and semi cooked meals.

• Room for growth. Asia Pacific has one of the lowest per capita spending on hot drinks when compared to other developed markets in 2013. Furthermore, with increasing income in the region, there will be higher demand for packaged and branded beverages.

• Instant coffee is popular in Asia Pacific. Most of coffee volume growth in 2013 was due to the growth in instant coffee. Consumers, particularly in Philippines, South Korea and Thailand, prefer instant coffee is due to convenience and the cost. It is affordable to low-income consumers and varied enough due to its different formulations to be enjoyed by higher income consumers.

• Increasing consumer preference for natural ingredients. As consumers become more health conscious, they prefer products with natural ingredients because  they are considered safe and nutritious, hence products that have a “clean” or “natural” label are preferred over those with synthetic products. This group of consumers are willing to pay a premium for the extra value.

Company Analysis:

• Strategic expansion. Super's foray into the Botanical Herbal Extraction technology with the construction of the state-of-the-art manufacturing plant will help the company tap into demand created by "health conscious consumers". The new plant has just been completed and will be accretive.

• Good play on the urbanization trend. As there is increasing urbanization in developing countries, SUPER provides a good play on this trend as it will cater to increased demand in convenience foods as people living in urban areas have lesser time.

• Reputable brand offering. Super has a good track record in the consumer staple manufacturing business since the late 1980s and has created a good reputation for itself in the region, being ranked 31st in Singapore's Top 100 brands. Furthermore, with the food safety incidents in China and Taiwan over the past few years, consumers became more concerned with the source of food ingredients. Super would be well poised for this trend as it has a good track record and is based in Singapore, which has a tighter regulation and monitoring over the food manufacturing process.

Valuations:
Discounted cash flow. Several assumptions are made to forecast future free cash flow.

• Sales revenue growth is expected to be at 13.56%, which is SUPER's five year average revenue growth.
• The WACC of 6.23% is calculated using the CAPM model.

The implied price from the model gives a target price of $1.26

The sensitivity table is shown below. The terminal growth rate and WACC are varied by small step sizes of 0.2% . Assuming WACC stays constant, a reduction of 0.6% in terminal growth rate presents a downside risk of 12.7% to the target price. 

Relative valuation method.
Relative valuation tools such as Ln (P/B) – ROE model, P/E, EV/EBITDA and EV/EBIT have been used in the valuation of ST Engineering. These valuation tools take into account the Super Group’s competitors such as Yeo Hiap Seng, Dongsuh Companies, Lotte Chilsung and others. 

Based on the Ln (P/B) – ROE model shown below,  the relatively high R-square value of 0.83 suggests a well-fitted regression. Using the regression equation, the share price is computed to be $1.08.

Using other relative valuation models (P/E, EV/EBITDA and EV/EBIT), the fair share value of ST Engineering are computed to be $2.49, $1.42 and  $1.71. respectively. The summary of the share prices for each valuation model is shown below:

Risk Analysis:

While we remain optimistic of Super Group’s prospects, key downside risks that could affect the price target include: 1) Weaker than expected sales growth, 2) Economic slowdown in key markets such as Thailand, Myanmar and China, 3) Execution risk

• Weaker than expected sales growth. Super Group faces a major competitor, Nestle in almost all geographical markets it operates. Nestle has far more superior capabilities in terms of marketing and execution and dominates the market in China, where potential growth for demand in instant coffee is the highest. Nestle is also entering the Myanmar market, which is Super's second largest market for instant coffee.

• Economic slowdown in key markets such as Thailand and China. Economic slowdown in these countries, which are key markets for Super, would likely adversely affect its revenue.

• Demand for instant coffee is elastic with close substitutes. Super might have to compete with its other rivals on price due to the demand nature of instant coffee, which will lead to lower revenues. 

In conclusion, we recommend a BUY on SUPER SP with target price $1.43 as it is a good play on the trends in the beverages industry in the APAC region. However, we remain cautious due to the presence of strong headwinds which are strong competition from Nestle and economic slowdown in key markets.