Pavilion REIT’s 1Q20 core net profit of RM34.6m (-41.5% QoQ, -50.0% YoY) was below ours and consensus expectations, accounting for 16% and 14%, respectively. The deviation was due to lower-than-expected rental income arising from 14 days rent-free period during MCO. We anticipate weaker 2Q earnings ahead with extended MCO and cautious consumer sentiment. We believe management will further grant rent-free period/ rebates to non-essential retailers beyond 31 Mar 2020 and earnings will be impacted even more . We slashed our earnings by 42% and 13% for FY20-21 to account for lower rental income contribution. We downgrade to SELL from Hold with a lower TP of RM1.45 (from RM1.73).

Below expectations. 1Q20 core net profit of RM34.6m (-41.5% QoQ, -50.0% YoY) was below ours and consensus expectations, accounting for 16% and 14%, respectively. The deviation was due to lower-than-expected rental income arising from 14 days rent-free period during the Movement Control Order (MCO).

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

QoQ. Revenue fell by -20.2% to RM116.4m, leading to decline in core net profit of RM34.6m (-41.5%); this was mainly due to lower revenue from the 14 days rent free period from 18-31 Mar 2020 given to tenants that are not providing essential services and supplies.

YoY. Top line plunged by -22.9% against the corresponding 1Q19 due to lower-than expected rental income arising from 14 days rent-free period during the MCO. Lower income was also recognised from (i) lower percentage rent and advertising revenue during this quarter and (ii) absence of income support to Intermark mall; final instalment was in 2019. Total operating expenses was higher by 3.8% owing to (i) contribution of face masks to Malaysian Government to support Malaysia’s fight against Covid-19 pandemic, and (ii) higher costs incurred for Chinese New Year promotional campaigns. These have resulted in lower NPI by -35.8% which in turn brought down core net profit by -50%.

Outlook. Covid-19 and MCO has indeed paralysed malls’ operation and PREIT is no exception. We anticipate weaker 2Q earnings ahead with MCO/CMCO/RMCO extended into the quarter along with cautious consumer sentiments. Management is in the midst of evaluating its tenants’ financial position to provide some degree of support; we reckon this will inevitably impact rental revenue. Post RMCO in 2H, consumer spending is likely to remain subdued from continued social distancing practices and cautious consumer sentiment from the negative ramifications of Covid- 19 to income.

Forecast. We slashed our earnings by 42% and 13% for FY20-21 to account for lower rental income contribution. FY22 projection is introduced.

Downgrade to SELL from Hold with a lower TP of RM1.45 (from RM1.73). To note, our valuation is based on FY21 forward DPU on targeted yield of 4.5% which is derived from 2 years historical average yield spread of Pavilion REIT and 10 year MGS. We reckon that PREIT near-term outlook remains bleak due to the negative repercussion of Covid-19 and MCO/CMCO which greatly affected the retail industry

Source: Hong Leong Investment Bank Research - 12 Jun 2020