We upgrade Pavilion REIT (PREIT) to BUY (from HOLD) with a higher DDM-derived price target of RM1.84 (from RM1.54) following the release of its strong 6M18 results and positive business updates. PREIT’s 6M18 realised net profit grew by 13% on higher occupancy, positive rental revisions and maiden contribution from Elite Pavilion Mall. Also, management has turned positive on its business outlook due to stronger consumer sentiment. In view of the popularity of Pavilion KL and limited competition in the premium mall segment, we expect Pavilion KL to achieve annual rental revisions between 3-5%, supporting 2019-20E earnings growth. At 5.9% 2019E distribution yield, valuations looks attractive.

6M18 Realised Net Profit Grew 13% to RM126m, Higher DPU

PREIT’s 6M18 realised net profit grew by 13% yoy on the back of higher revenue (+11% yoy) and firmer NPI margin of 67.4% (+2.3ppt yoy). The strong revenue was driven by: (i) higher occupancy at Pavilion KL Mall (99%, from 95%) and Intermark Mall (92%, from 81%); (ii) positive rental revisions at Pavilion KL and Intermark (+3% to +5%); and (iii) maiden rental contributions from Elite Pavilion Mall of RM11.9m (acquisition completed on 27th April 2018). In tandem, PREIT has declared a higher 6M18 distribution of 4.34 sen, 10% growth from 3.96 sen in 6M17.

The Results Are Above Our Expectations But Within Street Estimates

PREIT’s 6M18 profit accounts for 48% of consensus and 51% of our full year earnings forecasts. The results beat our expectations on higher than expected rental growth. Moving forward, we expect PREIT to report higher earnings in 2H18, driven by higher turnover rent in 3Q18, seasonally stronger 4Q18 and full quarterly contributions from Elite Pavilion.

Sequentially 2Q18 Earnings Were Weaker Due to Lower Turnover Rent

PREIT’s 2Q18 realised net profit of RM60.8m was 7% weaker qoq, in spite of positive net property income (NPI) from the newly acquired Elite Pavilion (RM8.2m). The sequential decline in Pavilion KL’s NPI (-6% qoq to RM75m) was due to lower turnover rent. In 1Q18, the tenants’ sales were boosted by festive seasons before weakening in Apr-May18 due to Malaysia’s General Election. While the tenants’ sales picked up strongly in Jun18, it was not enough to make up for the shortfall in Apr-May.

Source: Affin Hwang Research - 27 Jul 2018