Results

• Below expectations. 3QFY17 net profit of RM55.4m (qoq: +1.9%; yoy: -6.7%) brought 9MFY17 net profit to RM166.8m (-7.5% yoy) which is below expectations, accounting for 67.9% of our and 65.7% of consensus estimates.

Deviations

• Higher maintenance expenses and higher marketing cost incurred.

Dividends

• None as it is usually declared on semi-annual basis.

Highlights

• YoY: Normalized net profit decreased by 6.7% due to higher maintenance cost incurred at Pavilion Kuala Lumpur Mall (Pavilion KL) as well as sponsorship of 2017 Sea Games. This was partially offset by higher rental income from Pavilion KL’s tenants after the repositioning exercise.
• QoQ: Normalized net profit increased by 1.9% mainly due to higher contribution from Pavilion KL.
• YTD: Net profit decreased by 7.5% due to (i) routine operating expenses incurred for the new properties, (ii) higher maintenance cost incurred at Pavilion KL and (iii) higher marketing cost incurred due to sponsorship of Sea Games. This was partially offset by higher rental income from Pavilion’s tenants after the repositioning exercise.
• Tenant sales growth and rental reversion: We understand that tenant sales in Pavilion KL grew at 5% YTD and rental reversion rate of 5-6% was achieved.
• Outlook: We expect performance of Pavilion REIT to normalize in FY18 due to completion of tenant’s renovation and upgrading works in Pavilion KL. Moreover, we expect the near-term performance of the REIT to be boosted by the injection of Elite Pavilion (Elite) which is expected to be completed in 4Q17.

Risks

• Intensifying competition on retail space.
• Higher sensitive to downturn in consumer spending.

Forecasts

• We cut our FY17-19 forecast by 6.3%, 1.7% and 1.8% respectively after incorporating higher operating expenses. However, we expect normalization of performance in FY18 due to completion of tenant’s renovation and upgrading works in Pavilion KL. As such, forecasts for FY18-19 remain largely intact. Note that we have not factored in contribution from Elite which is still pending completion.

Rating

HOLD ↔ , TP: RM1.80 ↓

• While we continue to like Pavilion REIT due to Pavilion KL’s prime location and strong footfalls, we are of the view that it takes time for the two new properties to mature and hence may drag the near- term performance of the REIT. Nevertheless, near-term potential injection of Elite is expected to be favourable.

Valuation

• Maintain HOLD recommendation with lower TP of RM1.80 (from RM1.83) based on unchanged targeted yield of 5.2%.

Source: Hong Leong Investment Bank Research - 27 Oct 2017