Sunway REIT - earnings could see further downside risks

There are a myriad factors that would likely temper interest in REITS at least in the near to medium term.

Key among the issues is expectations of a gradual normalization of global interest rates from historic low levels as the US starts to roll back its aggressive monetary policies. Rising yields on risk free government bonds would render fixed income bonds and high yielding stocks less attractive.

Generally speaking, the latter category should fare comparatively better expectations that corporate earnings growth will translate into higher yields – and yields – over time. IN this respect, REITs could face some challenges.

High property prices make it difficult for REITs to expand via acquisition of quality, yield accretive assets. In the absence of new acquisitions, REITs would be dependent on organic rental increases to drive earnings.

For Sunway REIT, its earnings over the next two years from Aug 2013 will be affected by major asset enhancement initiative, currently (Aug 2013) ongoing for the Sunway Putra Mall. The trust acquired Sunway Medical Centre at end 2012 and income from the property will help partially offset the loss of earnings from Sunway Putra Mall.

Expect distribution per unit to drop in 2014 and 2015.

Occupancy and rental outlook for the office segments is downbeat on the back of forecasts of space over supply over the next few years from 2013. This will translate into limited income growth for many of the office focused trusts.

Office properties in Sunway REIT’s portfolio saw pressure in its last financial year ended June 2013. With a significant portion of leases up for renewal in FY2014 and FY2015, earnings could see further downside risks.

Sunway’s REIT’s hotel assets also fared poorly in FY2013 with revenue down on the back of lower occupancy. The trust is relying on its retail assets to be the primary driver for the growth.

Revenue from its four retail assets, combined was up 1.3% year on year contributing to 71% of Sunway REIT’s total revenue in FY2013.

Sunway REIT’s flagship Sunway Pyramid shopping mall registered 18.1% rental reversion for leases renewed in FY2013 which accounted for about a quarter of total net lettable area. The shopping mall alone contributed to 57% of total turnover for the trust.

With another 52.5% of its leases due in FY2014, Sunway REIT is banking on FY2014 rental, reversion to sustain earnings – partially offsetting the loss of income from Sunway Putra Mall which is close for two years from 2013 for extensive refurbishment. Refurbishment works are likely to affect occupancy at its adjoining hotel and office tower.

The trust has earmarked some rm500 million in capex over the FY2014 to FY2015 for various AEIs. Other than Sunway Putra Mall, it is also undertaking AEI at Sunway Pyramid which will see some 20362 sq ft of additional retail space.

Going forward, new retail space, with a number of sizeable shopping malls coming into the market amid slower consumption, could pressure overall occupancy and future rental increases.