Period  3Q14/9M14

Actual vs. Expectations 9M14 realised net income (RNI) of RM175.3m came in within expectations, making up 77% of the street consensus and 78% of our estimate.

Dividends  None, as expected.

Key Results Highlights QoQ, gross rental income (GRI) increased by 3% to RM101.4m possibly due to: (i) positive rental reversions on 14% of NLA up for expiry, and (ii) normalised occupancy (97% vs. 95% in 2Q14) as refurbishment near completion. On the flip side, operating cost decreased (-16%) due to reversal of (i) overprovision of assessment charges, and (ii) overcharging of electricity charges; increasing NPI by 11% to RM75.5m. As a result, RNI increased by 13% to RM63.0m.

 YoY, topline grew by 8% to RM301.3m from renewal of tenancies with strong rental reversions in Pavilion Shopping Mall (PSM). 9M14 is seeing the full impact of a major rental reversion year (71% of PSM’s NLA) which was implemented last year. This coupled with: (i) slight improvement in NPI margins (0.4ppt) from lower utility expenses due to similar reasons mentioned above, and (ii) higher interest income (+2%), allowed for RNI to increase by 10% to RM175.3m.

Outlook  CAPEX commitment to date is RM17.7m, which is mainly used for the refurbishment of PSM.

 We expect Pavilion Office Tower (POT)’s occupancy to remain relatively weak (est. 80% occupancy) due to the supply glut of office spaces in the Klang Valley.

 The asset acquisition environment remains challenging due to the low cap rate environment of 5%-6% at present and we believe PAVREIT is unlikely to make any acquisitions in the near term, despite their low gearing level of 0.16x.

Change to Forecasts We make no changes to our FY14E and FY15E RNIs.

Rating Downgrade to UP (from MP)

Valuation  PREIT’s share price has increased by 8.1% in 3Q14 and 15.6% YTD, as such, total returns to our TP is -0.3% at current levels. We downgrade our call to UP (from MP) as we have already factored in potential positive re-rating catalysts (i.e. European QE), while we believe the stock, and sector, does not warrant any further re-rating catalyst at this juncture. We believe our FY15E earnings is acceptable as PAVREITs organic growth of 4.2% is stretched as FY15 will see minimal area up for expiry (15% of NLA) on optimistic reversions of 6%. We maintain our TP at RM1.41 based on our target FY15E gross dividend yield of 5.6% (net: 5.0%) or a +1.8ppt spread to CY15E 10-year MGS of 3.80%.

Risks to Our Call (i) Bond yield expansion vs. our target 10-yr MGS yield and (ii) weakening rental income.

Source: Kenanga