• Downgrade to NEUTRAL from Buy, new MYR1.32 TP from MYR1.46, 9% upside and c.7% yield. The newly proposed 5-10% High-Value Goods Tax is expected to negatively impact tenant sales at Pavilion KL (PKL), the REIT’s flagship premium mall which is anticipated to contribute c.60% of Pavilion REIT’s total FY24F revenue. While the share price has dropped 8% in the past six months, we downgrade our call as we think the negative sentiment from the new tax will limit any potential re-rating catalysts.

• New High-Value Goods Tax. Prime Minister Dato’ Seri Anwar Ibrahim said the Government will enact new legislation to place a 5-10% tax on certain high-value goods, based on the threshold value of such items. While we need to wait for more details, the Prime Minister cited goods such as jewellery and watches as examples in his Budget 2024 speech. Previously, in the tabling of Budget 2023 in February, the Prime Minister also cited fashion goods as another example.

• Foreign tourists exempted. We think the tax exemption for foreign tourists, so as to not inhibit the recovery of the tourism industry, provides a relief. On that front, the Government is reinstating Visit Malaysia Year to 2026 with a target of 26.1m foreign tourist arrivals, equivalent to the arrivals recorded in 2019. We think this highlights the more gradual nature of the tourism recovery. For PKL, foreign tourists traditionally made up 30% of footfalls during the pre-pandemic period, and footfalls have yet to fully recover as China tourists had made up 50% of the foreign footfall.

• High share of luxury shoppers. Following the acquisition of Pavilion Bukit Jalil (PBJ), we expect the REIT’s dependency on PKL to reduce to 60% of total revenue in FY24F from 80% in FY22. Nevertheless, the contribution from PKL is still significant, and hence, we think sentiment on the stock will be hit until there is more clarity on the impact to its earnings.

• Potential re-rating catalysts. A clearer trend on PBJ’s performance will be the key, as one of the main thesis for the acquisition was higher growth opportunities for the almost 3-year old mall. A successful turnaround for Da Men Mall (loss-making since FY20) and the signing of new tenants for Pavilion Tower – which saw its occupancy drop to 66% from 73% this year – may help mitigate potential downside risks in earnings.

• Earnings change. We lower our FY23-25F earnings estimates by 3-7% after adjusting our interest rate and occupancy assumptions. 87% of the REITs borrowings are on a floating rate, and as such, it would benefit from potential interest rate cuts. Our DDM-derived TP (Ke: 8.2%) incorporates a 0% ESG premium/discount. Risks: Faster/slower-than-expected tourism industry recovery, and higher/lower-than-expected occupancy rates.

Source: RHB Securities Research - 16 Oct 2023