Pavilion REIT’s 3Q20 core net profit of RM32.0m (+220.7% QoQ, -46.1% YoY) were below ours and consensus expectation due to higher costs incurred in light of regular hygiene practices. Overall, 3Q20’s earnings rebounded significantly as the company was no longer giving out rental rebates to their tenants. However, we remain cautious on their 4Q results as the resurgence of Covid-19 cases may put pressure on footfall and rental rebates may be accorded to help out. We cut our earnings by 8% in FY20 and 2.5% in FY21-22 to account for higher cost moving forward in light of cost from higher hygiene practices. We maintain our HOLD call with a lower of TP: RM1.49 (from RM1.53).

Below expectations. 3Q20 core net profit of RM32.0m (+220.7% QoQ, -46.1% YoY) brought the 9M20 sum to RM76.6m (-59.2% YoY). The results were below ours (65%) and consensus expectations (54%). The deviation was due to higher-than-expected cost incurred for regular sanitisation of malls and purchase of hygiene equipment. No dividend was declared as it usually payable semi-annually.

QoQ. Top line recovered significantly by 34.0% due to rental rebates given in 2Q. Management guided that no rebates were given in 3Q contributing to the increase in revenue. However, higher utilities (+9.8%) and maintenance cost (+43.8%) were incurred due to regular sanitisation of mall as well as higher consultancy costs booked for cooling tower system evaluation. Although higher costs were incurred, core net profit improved by 220.7% due to lower base in 2Q (from RM10m profit in 2Q to RM32m profit in 3Q).

YoY. Revenue tumbled by 19.5% mainly due to lower gross revenue from Pavilion KL Mall and Elite Pavilion Mall from lower occupancy as well as lower a dvertising income. Total operating expenses was higher by 3.9% due to regular sanitisation cost; however, this was mitigated by electricity saving and lesser marketing expenses. In turn, core net profit was lower by 46.1%.

YTD. Top line fell by 27.3% due to lower rental income arising from rental rebates during the restricted movement in 1Q and 2Q as well as lower occupancy due to nonrenewal tenancy. Total operating expenses remained flat (-0.7%) mainly due to electricity saving and lesser marketing expenses; however, this was off-set by cost incurred for regular sanitisation. Sequentially, core net profit showed a decrement of 59.2% following the relatively high operating leverage effect.

Outlook. Although we saw that PREIT recovered significantly in 3Q20 vs 2Q20, we remain cautious on 4Q20’s earnings given the latest resurgence of Covid-19 cases in the country as well as announcement of cases in some shopping malls has put a pressure on footfalls to the mall, which in turn will affect their tenants’ sales. Furthermore, we believe there could be risk of rental rebates offered in 4Q (to assist tenants during the low footfall CMCO period), although we reckon its magnitude won’t be as drastic compared to the first MCO.

Forecast. We cut our forecast by 8% in FY20 and 2.5% in FY21-22 to account for higher cost moving forward in light of cost associated with higher hygiene practices.

Maintain HOLD with a lower of TP: RM1.49 (from RM1.53) based on FY21 forward DPU on targeted yield of 4.2% which is derived from 2 years historical average yield spread of Pavilion REIT and 10 year MGS. Although the company has shown signs of recovery, we remain cautious on their 4Q results as the resurgence of Covid-19 cases may be a dampener.

Source: Hong Leong Investment Bank Research - 23 Oct 2020