Highlights

• Grade-A Office. With Menara Shell, a grade-A green building and MSC status with high occupancy rate of 99% in prime KL Sent ral hub, the asset size of MQREIT now stands at RM2.27bn. We project additional rental income of RM47.2m (net yield of 6.1%) for FY17.

• Funded via Placements/Debt. Based on the announcement earlier, the acquisition of Menara Shell for the amount of RM656m (including exercise expenses RM16m) is expected to be funded via proposed placements up to 406.7m units at an issue price to be determined via book building. Using illustrative price of RM1.05, the equity/debt ratio is about 65/35 with up to RM152m (23%) to be taken up by MRCB and EPF has expressed interest to take up to 7% of the enlarged share base.

• Greater efficiency with scale. As we gather more info from the management and factor in the income from Menara Shell with the enlarged share base, our FY17 DPU forecast remains unchanged with an expected increase in payout ratio. The new assets (Menara Shell and Platinum Sentral) have allowed management to enjoy greater operating efficiency arising from scale. Besides, distributable income will also be lifted with the proposed payment of management via units up to 32m new unit generated from the new assets to be paid in unit for the next three years.

• Potential accretive. Given the illustrative pricing is at a discount of 13.2% from current price, the placement price could be potentially higher and it will be yield accretive to existing shareholders as the discount can only be up to 10%.

• Sustainability. We are less concerned on the office spaces owned by MQREIT given its strategic location and long lease term (WALE >5 years) shielding from the otherwise lacklustre office market. Its NLA expiry is well-spread with circa 10% and 18% to expire in FY17 and FY18; while sustainable high yield of ~7% will provide a bottom cushion.

• Improved gearing. Gearing ratio would improve to around 40% (industry average circa. 30%) from present level of 42%. With the asset size now stands at RM2.27bn, there is some headroom (up to RM227m) for debt financing.

Risks

• Slow rental reversion rate.

• High gearing compare to industry.

Forecasts

• Cont ribution of Menara Shell and enlarged share base based on the indicative price assumption are imputed; payout ratio is raised to 99% and management fee via unit from FY17 onwards are also imputed.

Rating

• BUY, TP: RM1.34

• Positives: (1) Huge pipeline of asset injections from MRCB, Quill and EPF; (2) Resilient earnings with sustainable DPU.

• Negatives: (1) High gearing; (2) Major assets in challenging office market.

Valuation

• Maintain BUY recommendation with unchanged TP of RM1.34 based on targeted yield of 6.5% (2SD below 1 year historical average yield spread of MRCB-Quill REIT and 10- year government bond).

Source: Hong Leong Investment Bank Research - 28 Jul 2016