Champion REITs - Upside priced in

According to management, Citibank Plaza’s spot rent has fallen to HK$90psf as of April/May 2009. Against an achieved rent of HK$87.5psf as of end-FY08, the gap between spot and achieved rental is converging quickly, which will kick-start negative rental reversion. Therefore, despite the attractive 9.6% yield that Champion currently trades at, we estimate that it will fall to 5.6% by FY11F, when we expect negative rental reversion to eventually reflect the 52% and 33% fall in FY09F office rents that we have assumed for Champion’s Citibank Plaza in Central and Langham Place in Mongkok, respectively. Based on our estimates, we expect to see a continuing declining trend in DPU from HK$0.320 in FY08 until FY14F, when DPU will trough at HK$0.075.


We do not expect the vacancy situation to provide any relief to rental growth in the near term, especially at Citibank Plaza. While vacancy at Langham’s office and retail properties has remained largely steady from end-FY08, Citibank Plaza’s vacancy has increased from 2% as of end-FY08 to 5% as of 2Q09, which management expects will rise to 10% by end-FY09F. With a large proportion of the office portfolio up for renewal over FY10-11F, ie, 40% and 27% over FY10F and FY11F, respectively, compared to 14% in FY09F, we see further risks of rising vacancy, which would likely dampen any recovery in rental growth over the next two years should the economy pick up.

Based on our sensitivity analysis, we estimate that Champion’s current share price of HK$2.51 has already factored in Central rents falling by 42-48% vs our assumed 52% drop, suggesting full valuation, in our view. Based on our estimates, for every HK$5psf change in Central office rent of HK$50-80psf, Champion’s DDM increases by an average 8%.

We have a REDUCE rating on Champion, which is based on our PT of HK$2.09, implying 17% downside. We value Champion REIT based on an 8% discount to our 10-year dividend discount model estimate of HK$2.27. The 8% discount represents potential dilution from a lower distribution from 100% to 90% should Champion lower its payout to preserve cash in light of the overhang from its Langham debt.

Champion’s debt associated with the Langham property saw its LTV ratio rise to 52.6% as of December 2008, leaving only a 12.4% devaluation buffer. We see such gearing and hence dilution risks (should Champion require a rights issue to raise cash to pay down debt) diminishing with the cap rate compression trend recently observed in the office strata title market. On the upside, Champion has received unitholders’ approval in its EGM held in early March 2009 to repurchase up to 10% of outstanding units. Any buyback of units by Champion could enhance unitholders’ returns, in our view.

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