We came away from AXREITs briefing feeling assured that the Group’s portfolio remains resilient despite the challenging macro environment. Occupancy improved to 94% on better-than-expected reversions (+5%). We like AXREIT’s focus on acquiring industrial assets given its earnings stability from long-term leases. However, even with generous valuations resulting in a higher TP of RM1.65, our call is at best MARKET PERFORM.

Results above expectations due to rental recognition from Axis Mega DC. To recap, FY18 CNP of RM113.4m came in above our and market expectations, at 114% and 108%, respectively. From the briefing, we understand that this was primarily due to Axis Mega DC, which recognised an additional RM6m revenue in 4Q18 due to requirements of accounting standards, including the rent-free period (refer overleaf). Additionally, occupancy improved to 94% on 5% reversions in FY18 (from 91% occupancy and 6% reversions in FY17), while we only expected 92% occupancy on 2% reversions. As a result, top-line increased by 21% YoY-Ytd.

We like the fact that AXREIT remains focused on acquiring industrial assets going forward, primarily Grade A logistics and manufacturing facilities with long-term leases (>10 years for recent acquisitions, and portfolio WALE of 6 years, vs. retail REITs of c. 2-3 years) which provides long-term earnings stability for the REIT. To date, AXREIT’s portfolio NLA consists of 71% single tenants, and 95% of NLA is dedicated to industrial/hypermarket assets which we believe this portfolio provides more stable rental and occupancy over the longer run vs. office assets. AXREIT’s exposure to pure office space is limited to only 5% of NLA, which is favourable given the current oversupply of office spaces.

Targeting RM200m worth of asset acquisitions in FY19. Potential acquisitions include a manufacturing facility in Bayan Lepas, Penang worth RM20.5m which is pending the letter of offer, with expected completion by 1H19. Further details are lacking pending the SPA, but we believe the Group will likely incur borrowings to finance bite-size acquisitions such as this, while larger acquisitions, may require a cash call (current gearing is 0.37x).

Asset disposals unlikely in the near term as AXREIT’s existing assets are commanding attractive net yields of 8.2%, while recent acquisitions only provide c.7.0-7.5% net yields at best. It is important to point out that even amidst the tough office market environment, its existing office assets are still commanding attractive net yields of 8.5% as most of them were acquired over 10 years ago, while current office assets cap rates are c.5.5-6.0%, making disposals untenable unless the assets are severely underperforming.

Maintain FY19-20E CNPs of RM115-116m (refer overleaf). Maintain MARKET PERFORM on a higher TP of RM1.65 (from RM1.50) on an unchanged FY19E GDPS/NDPS of 9.3 sen/8.4 sen but lower +1.5ppt spread (from +2.0ppt) to our 10-year MGS target of 4.20%. We lower our spread to the lower-end of prime retail MREITs’ spread under our coverage of (+1.4ppt to 2.1ppt) given that AXREIT’s strong top-line and DPU growth of 6% YoY (FY18) from inorganic growth is above MREITs under our coverage average of 2%, and better CNP margin of 54% (vs. MREIT peers’ average of 50%). Furthermore, we believe AXREIT should command a premium as one of the few Shariah-compliant MREITs, making it a favorite among institutional investors. We believe that under challenging macro conditions (i.e. space oversupply and tenant attrition), AXREIT warrants to trade at thinner spreads given its earnings resiliency from long-term leases, which is a preference vs. prime retail REITs’ shorter term leases as both asset classes are commanding low single-digit reversions. However, even with our very aggressive spread, upsides are limited at this juncture as AXREIT’s FY19 gross yield of 5.5% is lower than large cap MREIT peers’ average of 6.0%. Maintain MARKET PERFORM.

Source: Kenanga Research - 24 Jan 2019