Investment Highlights

• We maintain BUY on Sunway REIT (SREIT) with an unchanged fair value (FV) of RM1.87/unit based on our dividend discount model (DDM), which incorporates a 4- star ESG rating (Exhibits 10 & 11). The FV implies a FY25F distribution yield of 6%, at parity to its 5-year median.

• We make no changes to earnings forecasts as SREIT’s FY23 distributable income of RM319mil came in within expectations, 2% above our FY23F earnings and 4% below street’s.

• In FY23, SREIT’s gross revenue grew 10% YoY while net property income (NPI) improved 5% YoY. This was mainly driven by the improved performance of its retail and hotel segments, particularly Sunway Carnival Mall, Sunway Pyramid Hotel and Sunway Resort Hotel.

• On QoQ comparison, SREIT’s 4QFY23 gross revenue rose 8% while NPI slid 1%. This was mainly attributed to higher hotel occupancy in Sunway City cluster hotels in 3QFY23, boosted by summer holidays in the Middle East. Meanwhile, its NPI was dragged by the absence of lease income from Sunway Medical Centre (Tower A & B) following their disposal at the end of August 2023, coupled with elevated marketing expenses for its retail segment.

• QoQ, average occupancy rate for overall segments rose slightly to 82% in 4QFY23 from 81% in 3QFY23 (Exhibits 4, 5 & 7).

• SREIT declared its gross distribution per unit (DPU) of 4.68 sen in 4QFY23, bringing FY23 DPU to 9.3 sen, which represents a distribution yield of 5.8%.

• For its retail malls, we foresee a positive rental reversion of 5% in FY24F. SREIT’s tenant sales in FY23 exceeded prepandemic level (2019) on the back of sustained growth momentum in retail sales. Stronger tenant sales are anticipated to provide the group with the opportunity to negotiate for higher rentals in subsequent years.

• With the gradual recovery in Malaysia’s domestic travelling and influx of foreign tourists, we expect the average occupancy rate of the group’s hotel properties to further improve in FY24F and fully recover to pre-Covid levels in FY25F (Exhibit 6).

• Here are the key takeaways from the analyst briefing:
  
  i. The acquisition of 6 freehold hypermarkets from Kwasa Properties has been postponed pending approval from the Economic Planning Unit. Barring any unforeseeen circumstances, the approval is anticipated to be granted by 1HFY24.
  
  ii. Sunway Pyramid Mall is currently undergoing a reconfiguration of the area previously occupied by AEON store, which constitutes 11% of net lettable area of the mall. The development is slated for completion in 4QFY24. As at December 2023, SREIT has secured tenants for 62% of this area with a positive rental reversion.
  
  iii. Sunway Carnival Mall is undergoing refurbishment for its existing wing (Phase 2). The refurbishment is slated to be completed in phases from early FY24 to the end of FY25. We expect an uplift in NPI upon its full completion. As at 31 December 2023, SREIT has secured 75% of committed tenants for the existing wing in Sunway Carnival Mall.
  
  iv. SREIT has achieved a 27% occupancy rate for its newly-acquired industrial property in Sungei Way. Additionally, SREIT anticipates that another 13% of the space will be occupied by June or July of FY24.

• Our in-house economist anticipates US Federal Reserve funds rate to peak at current levels of 5.25%-5.5%. Our economics team also expects the Federal Reserve to start cutting interest rates in mid-2024 by 75 bps to 100bps. This will eventually bring the Fed funds rate to 4.5%-4.75% by end-2024.

• As such, the 10-year MGS yield has been projected by our economic team to be lower at 3.63% in 4QCY24 from the current level of 3.78%. From FY24F onwards, we anticipate SREIT’s distribution yield spread against 10-year MGS to widen to 2.4% vs. a pre-pandemic (2017-2019) median of 1%. Hence, we expect SREIT to be appealing to yieldseeking investors with its higher distribution spread against 10-year MGS (Exhibit 9).

• We like SREIT for its well-diversified income base which could cushion potential downside risks from macro headwinds. Its portfolio encompasses retail malls, offices, hotels, universities and industrial properties across Malaysia. Also, the group is recognised for its environmental, social and governance (ESG) practices. Specifically, SREIT is the first amongst its local peers to incorporate sustainability financial considerations into its capital management strategies.

• SREIT currently trades at a compelling FY25F PE of 15x vs. its 4-year average PE of 20x. Meanwhile, FY25F distribution yield of 6.7% is attractive vs. current 10-year MGS yield of 3.78%.

Source: AmInvest Research - 31 Jan 2024