KLCCSS’s 1Q20 core net profit of RM176.9m (+40.4% QoQ, -3.8% YoY) were slightly below ours and consensus expectations; this was mainly due to poor hotel segment performance but slightly cushioned by the better showing in management services and flattish growth at its office and retail segment. We cut earnings by 10% in FY20 and 4% in FY21-22, in view of weaker hotel and retail segment arising from Covid-19 and MCO. We downgrade the stock to HOLD with a lower TP of RM8.05 (from RM8.17) based on FY21 forward DPS on targeted yield of 4.3%.

A tad below expectations. 1Q20 core net profit of RM176.9m (+40.4% QoQ, -3.8% YoY) was slightly below ours and consensus expectations, accounting for 27% and 24%, respectively. While 1Q made up 27% of our full year forecast, we still deem this to be slightly below expectations in anticipation of weaker 2Q earnings from a more profound Movement Control Order (MCO) impact.

Dividend. Declared 1st interim dividend of 8.30 sen per share (KLCC REIT: 5.84 sen, KLCC Property: 2.46 sen) going on ex on the 21st May 2020 (1Q19: 8.80 sen).

QoQ. Revenue dipped by 2.8% to RM354.6m mainly due to poor performance in hotel operations (-42.8%) as its hotel, Mandarin Oriental (MO), was severely impacted by the Covid-19 from cancellation of events and MCO. However, it was slightly mitigated by improved showing from management services (+15.6%), mostly due to the new business approach in the facility management services. Office segment remained stable (+0.8%), backed by their long-term triple net lease agreement. Whereas for retail, revenue inched up by 1.5% mainly as a result of improved occupancy from the partial completion of its reconfiguration exercise. Nonetheless, core PATAMI improved by 40.4% to RM176.9m coming off a lower base in 4Q19 from high MI (i.e. MO and Suria KLCC, which are not KLCCSS’s wholly subsidiaries).

YoY. Top-line stayed flat (+0.3%) due to low performance in hotel segment (-33.8%), however, it was slightly cushioned by better showing in management services (+23.7%) and flattish growth at office (+0.4%) and retail segments (3.0%). Overall, property expenses increased by 8.4% which in turn, brought down core PATAMI by 3.8%.

Outlook. We remain cautious on KLCCSS’ near-term outlook, especially seeing that its hotel segment has started to decline and may further deteriorate from the Covid-19 crisis and MCO; MO has started to register losses after 1 quarter of profit in 4Q19 and its turnaround may not be anytime soon due to the bleak hotel outlook. We anticipate weaker 2Q earnings ahead from roughly 1.5 months impact of MCO. Furthermore, retail industry is facing a challenging time ahead, amid potential changes in consumer behaviour and sentiment upon the uplift of MCO. Hence, we believe KLCCSS’s retail segment will be affected as well given that their anchor-to-specialty reconfiguration exercise (from the exit of Parkson) may be impacted due to Covid-19 and MCO coupled with rental pressure from its retailers.

Forecast. We cut earnings by 10% in FY20 and 4% in FY21-22 in expectation of weaker hotel and retail segments arising from the Covid-19 and MCO.

Downgrade to HOLD, TP: RM8.05. We downgrade the stock to HOLD from Buy with a lower TP of RM8.05 (from RM8.17) based on FY21 forward DPS on targeted yield of 4.3%, derived from 2 years historical average yield spread of KLCCSS and 10 year MGS. Although we like KLCCCS given its resilient office segment, prime location retail and Shariah compliant scarcity amongst REITs, we reckon that its short-term earnings will likely be impacted from Covid-19 and MCO.

Source: Hong Leong Investment Bank Research - 6 May 2020