1H19 realised net income (RNI) of RM35.9m came in below our and consensus expectations at 42.6% and 43.3%, respectively, on lower-than-expected margins caused by a weakening top-line. 1H19 dividend of 3.43 sen is also slightly below at 44.5%. FY19-20 will see 19-18% of NLA expiring on flattish reversions. We lower FY19-20E CNP by 10-9%. Downgrade to MP (from OP) on a lower TP of RM1.05 (from RM1.15).

1H19 realised net income (RNI) of RM35.9m came in slightly below our and consensus expectations at 42.6% and 43.3%, respectively. The reason for the deviation in our and consensus estimates was mostly due to weak margins as top-line only came in at 46% of both estimates on ongoing weakness possibly due to tenant movement at Platinum Sentral, QB5 and Wisma Technip, which resulted in RNI margin compressions to 44.7% (vs. our FY19E of 48.4%). 1H19 GDPU of 3.43 sen per unit (which includes a non-taxable portion of 0.12 sen) was also slightly below at 44.5% of our FY19E GDPU of 7.7 sen (7.2% gross yield).

Results’ highlights. YoY-Ytd, top-line was down by 8% mainly from lower contributions at Platinum Sentral, QB5 and Wisma Technip likely due to tenant movements, which resulted in lower portfolio occupancy of 89% (vs. 96%), as well as loss of revenue from the disposal of QB8 - DHL XPJ, which was completed in 2Q18. All in, bottom-line decreased by 15% on slightly lower NPI margins (-1.1ppt) due to the weak top-line, while financing cost remained flattish. QoQ, top-line was down by 6% due to lower contributions from Platinum Sentral, QB5 and Wisma Technip likely due to similar reasons mentioned above. This coupled with slightly higher property expenses caused NPI margins to lower by 2.4ppt, resulting in RNI declining by 15%.

Outlook. FY19-20E will see 19-18% of net lettable assets (NLA) up for expiry, which is not overly significant given the tough office market conditions due to the oversupply of office spaces in KL and the overall Klang Valley, and risk of tenant attrition. Going forward, we are expecting flattish reversions for MQREIT’s assets, and expect minimal capex of RM12-10m, mostly for maintenance.

Trimming FY19-20E CNP by 10-9% to RM76-77m (from RM84-84m). We lower our earnings on marginally lower top-line on weaker portfolio occupancy to 90-92% (from 92-95% in FY19-20E) as well as lower RNI margin assumptions closer to current levels of 45% (from 48%). As a result, we lower our FY19-20E GDPU to 7.0-7.0 sen (NDPU of 6.3-6.3 sen), from GDPU 7.7-7.7 sen, (NDPU of 7.0-7.0 sen) suggesting gross yield of 6.5-6.5% (net yield of 5.9-5.9%), respectively.

Downgrade to MARKET PERFORM (from OUTPERFORM) on a lower Target Price of RM1.05 (from RM1.15). Our new TP is based on lowering our earnings and post rolling valuation forward to FY20E GDPU of 7.0 sen on an unchanged +3.1ppt spread to the 10-year MGS target of 3.70%. We are comfortable with our applied spread on MQREIT as it is the highest compared to other sizeable MREITs under our coverage (+1.3ppt to +3.1ppt) due to tough market conditions on concerns of oversupply in the office space. MQREIT is commanding decent gross yield of 6.5%, which is above its peers’ average gross yield of 5.5%, but we believe this is justifiable given the abovementioned concerns for office assets. However, we are comfortable with our call as we believe we have priced in most downside risks into MQREIT’s valuations and earnings.

Source: Kenanga Research - 8 Aug 2019