We are initiating coverage on MRCB-Quill REIT (MQREIT)’s with an OUTPERFORM call and TP of RM1.41. MQREIT’s earnings prospect appears solid with a stable asset profile on mostly fully-tenanted assets with long-term leases (average: 5 years). Occupancy remains healthy at >97% with minimal lease expiries, while MQREIT is backed by two sponsors for future acquisitions. Our TP is based on FY17E GDPS of 8.4 sen and a +2.40 ppt spread to our 10- year MGS target.

Graduating to a big cap MREIT. Post the placement by 4Q16, MQREIT will move into the large cap MREIT space (>RM1b), increasing its market cap to c.RM1.4b (from RM850m). This implies better trading liquidity and added institutional shareholding from placements to EPF. However, we believe the stock is still trading at a discount to large cap MREITs, at 6.6% on FY17E gross yields vs. 5.1- 5.8% for large cap MREITs under our coverage, albeit its stable earnings profile.

Portfolio occupancy remains healthy at 97% backed by long-term tenants. The Group has a strong portfolio occupancy rate of 97% and had maintained this above 90% historically, which is higher than its small-mid-cap office-based peers of between 65%-96% occupancy rates. This is on the back of minimal lease expiries in FY16, 17-18E

at 6.7, 13.0- 26.0% of net lettable assets (NLA) vs. most MREITs under our coverage with 27-69.0% in FY16, and 16-39% in FY17, save for KLCC, which is preferable in current times when the office space market is in an oversupply situation.

Visible acquisition pipeline secured from MRCB and Quill Group. MQREIT is backed by two sponsors for acquisitions namely Malaysian Resources Corporation Berhad (MRCB) which owns 31.2% of MQREIT since the injection of Platinum Sentral, and Quill Group owning a 17.7% stake, allowing opportunities for yield accretive acquisitions in the future. MQREIT has the right of first refusal (ROFR) for acquisition of MRCB and Quill Groups investment properties. MRCB targets to dispose at least one asset per year with potential assets being Menara Celcom (est. value RM428m), while other assets include Ascott Sentral (service residence apartment; est. value RM120m), Kompleks Sentral (industrial; NBV: RM29.1m) and Plaza Alam Sentral (7-storey shopping complex; NBV: RM72.3m).

Expecting earnings of RM58.9, 92.0 - 95.5m for FY16, 17-18E,

implying core earnings growth of 9%, 56% - 4% in FY16, 17-18E mainly from contributions from Menara Shell, which is expected to fully contribute in FY17 onwards, and Platinum Sentra, and GDPU of 8.4 sen each in FY16, 17-18E suggesting gross yields of 6.6%.

Initiating coverage on MRCB-Quill REIT (MQREIT) with an OUTPERFORM recommendation and TP of RM1.41 based on FY17E GDPS of 8.4 sen, suggesting a 15.7% total returns. Our TP is based on target gross yield of 6.0% on a +2.4ppt spread to our 10- year MGS target of 3.60%. Our applied spread is slightly above large cap MREITs (>RM1b) under our coverage (between +0.8ppt to +2.10ppt) as MQREIT is slightly smaller than large cap REITs, while the office segment may not be perceived as well as retail and industrial due to oversupply issue.

Source: Kenanga Research - 8 Nov 2016