Investment Highlights

• We maintain BUY on Sunway REIT (SREIT) with a higher fair value (FV) of RM1.84/unit (from RM1.76/unit) based on our revised dividend discount model (DDM), which incorporates a 4-star ESG rating (Exhibits 6 & 7).

• The FV implies a FY24F distribution yield of 6%, at parity to its 5-year median.

• RHB Trustee, the trustee of SREIT, has entered into a conditional sale and purchase agreement with Employees Provident Fund’s wholly-owned subsidiary, Kwasa Properties to acquire 6 freehold hypermarkets for RM520mil (Exhibit 2).

• The 6 hypermarkets are solely leased by GCH Retail, who operates Giant Hypermarket. 5 of the hypermarkets are in Klang Valley while 1 is situated in Johor (Exhibit 1).

• We lower our FY23F distributable income by 2% while raising our FY24F/FY25F estimation by 8% to factor in the earnings contribution from the 6 freehold hypermarkets as well as the higher manager’s fee in FY23F. We also take into account a greater finance cost with the group’s borrowings expected to be increased to fund the acquisition.

• The acquisition will be funded by a combination of internally generated funds (10%) and borrowings (90%). Post-acquisition, we expect the group’s FY23F gearing ratio to rise to 0.41x from 0.37x (Exhibit 5).

• The acquisition price is at a 12% discount to the properties’ aggregate market value of RM593mil, valued by Knight Frank Malaysia. Hence, SREIT is expected to recognise a net unrealised fair value gain on the properties of RM66mil upon the completion of acquisition in 4QFY23 (Exhibit 4).

• The assets are backed by triple-net-lease arrangements with step-up basis, which provide SREIT with fixed rental payments whilst the lessee is responsible for property-related expenses such as quit rent, assessment, insurance, and upkeep and maintenance.

• GCH Retail intends to cease its operations at the USJ Property before the expiration date of August 2028. According to the agreement, the lessee may terminate the USJ Property Lease Agreement before the expiry of the lease tenure only upon meeting either of the following condition: (i) the lessee pays the rent for the remaining unexpired term of the USJ Property Lease Agreement; or (ii) lessee has to procure a new lessee to lease the USJ Property upon the same terms of the USJ Property Lease Agreement (if the lessee is unable to obtain, renew or maintain the necessary approvals or licenses for its business).

• As such, we are not concerned about short-term loss of income stream from an early termination as both conditions have safeguarded the owner’s claim on the asset’s rental income until the expiry of the lease tenure.

• Overall, we are positive on the acquisition as the assets offer an attractive average net property income (NPI) yield of 8% vs. its current NPI yield of 6% (Exhibit 3). Meanwhile, the assets provide a stable recurring rental income with minimal occupancy risk under the long-term triple-net-lease master agreement.

• We like SREIT for its well-diversified income base which could cushion potential downside risks. Its portfolio encompasses retail malls, offices, hotels, universities, essentials & services and industrial properties across Malaysia. Also, the group is recognised for its environmental, social and governance (ESG) practices. Specifically, SREIT is the first amongst its local peers to incorporate sustainability financial considerations into its capital management strategies.

• SREIT currently trades at a compelling FY24F PE of 16x vs. its 4-year average PE of 20x. Meanwhile, distribution yield for FY24F of 6% is attractive vs. current 10-year MGS yield of 3.9%.

Source: AmInvest Research - 17 Mar 2023