MQREIT’s 1Q19 core net profit RM19.4m (-1.0% QoQ, -7.6% YoY) was below both ours and consensus expectations. The decline was driven by lower revenue contribution, but slightly mitigated by lower property operating expenses and other expenses. We reduce our FY19-21 earnings forecasts by -1.7%, -1.6% and -1.8% respectively after factoring in lower interest income. We maintain BUY call with lower TP of RM1.16 (from RM1.17) based on targeted yield of 6.7%. We continue to like MQREIT given its attractive dividend yield of 7.0% (highest among REITs in our universe), stable assets in prime location of KL Sentral with stable occupancy rate.

Below expectations. 1Q19 gross revenue of RM41.4m (-3.0% QoQ, -6.0% YoY) translated into core net profit of RM19.4m (-1.0% QoQ, -7.6% YoY). The results were below both ours and consensus, accounting for 23.2% and 23.3%, respectively. The deviation was due to lower than expected interest income.

Dividend. None as dividend is usually payable semi-annually.

QoQ. Total gross revenue dipped by 3.0% to RM41.4m (from RM44.0m in 4Q18), followed by a decrease in core net profit at RM19.4m. The cutback was caused by poorer revenue contribution by Platinum Sentral, Wisma Technip and QB5. However, this was slightly cushioned by the decrease in property operating expenses (-6.5%) and other expenses (-8.8%).

YoY. Core net profit fell by 7.6% at RM19.4m. The decline was driven by lower revenue contribution; mainly from lower revenue from Platinum Sentral, Wisma Technip and QB5, as well as the loss of revenue after the disposal of QB8 back in April 2018. Nevertheless, the fall was marginally mitigated by the reduction in property operating expense attributed to lower expenses incurred by some properties.

Occupancy and gearing. Occupancy rate fell to 89% (FY18: 93%), relatively stable considering the average occupancy rate in Kuala Lumpur city stood at 78.7% in FY18 (Knight Frank). Average debt to maturity has decreased slightly from 2.47 years to 2.32 years, while average cost of debt was maintained at 4.5%. The gearing level decreased slightly to 37.5% (FY18: 37.7%), comfortably below the 50% limit, with a majority of its total borrowings being charged a fixed interest rate (76%).

Outlook. Despite the lacklustre overall office market, MQREIT’s office space will remain relatively stable and well-guarded by its long weighted average term to expiry with well-spread NLA expiry. Going forward, management will be focusing on cost management as well as tenant retention over reversion growth. Also, with the expectations of a challenging office market, some properties will be scheduled for enhancement works; namely; Wisma Technip (washrooms and external façade), Quill Building 5 – IBM (air conditioning system), Platinum Sentral (several common area facilities upgrades) and Menara Shell (lift systems).

Forecast. We reduce our FY19-21 earnings forecasts by -1.7%, -1.6% and -1.8% respectively after factoring in lower interest income

Maintain BUY, TP: RM1.16. We maintain BUY with lower TP of RM1.16 (from RM1.17) based on targeted yield of 6.7%. To note, our valuation model is based on the targeted yield of 2-year historical average yield spread between dividend yield and 10-year MGS yield.

Source: Hong Leong Investment Bank Research - 10 May 2019