CapitaCommercial Trust: Outlook Remains Challenging

2QFY09 results in-line with expectations. CCT reported a (pre-rights adjusted) 31.5% YoY increase (+5.6% QoQ) in 2Q09 DPU to 3.42¢, in-line with ours and consensus estimates. Adjusted for the rights units, 2Q09 DPU would have been 1.71¢, with an annualised DPU of 6.86¢. Revenue was up 34.4% due to positive rental reversion. CCT will trade ex-2Q09 distribution on 31 Jul 2009. We are reviewing our Neutral Rating on CCT (with a view to downgrade). Our TP of S$0.71 may be adjusted.

Cautious on office sector. CCT share price has almost doubled since Mar 09, and now trades at a forward 420bps above risk-free instruments, providing a mere 110bps cushion over its historical 310bps average. Premising on our forecast FY10 DPU of 6.24¢, our bull-case scenario implies a 28% upside with a fair-value of S$1.11 (~5.6% yield at fair-value) should the current market rally continue. In contrast, our bear-case scenario could see the stock retracing 43% to the S$0.50 level, with the stock yielding at 12.5% (1,000bps spread over 10-year bonds yields). From current levels, we view risk-returns on the counter as unfavourable and recommend investors not to accumulate on the stock.

Refinancing concerns lifted; CCT now boasts sturdier financial credit metrics. Post the equity fund raising in Jun 09, management intends to utilize 80% of its S$828m proceeds (or S$664m) to repay loans comprising the two-year secured term loan maturing in Jun 10 and the bridge loan facility maturing in Aug 09. With that, the next maturing debt of S$150m (8% of total debt) comes due in Mar 10 and S$85m (4%) in Aug 10. Following the EFR, CCT’s gearing is projected to fall to 32% (from 43%) and interest cover to improve to 3.5x (from 2.4x). On the back of these improvements, Moody’s has recently upgraded CCT’s debt rating to stable whilemaintaining its corporate rating at Baa2.

Further rent declines expected in coming quarters. According to CBRE, prime office rents averaged S$8.60/sqft in 2Q09, reflecting a 18.2% QoQ decline (1Q09: S$12.90/sqft). Despite the economy being technically out of a recession, it is clearly still a tenants’ market and the focus on tenant retention remains paramount for all landlords including CCT. In our view, most office landlords will likely shift their focus on occupancy optimisation at the expense of rental rates. This will likely put further downward pressure on rents in the coming quarters. Our channel checks indicate that some landlords in prime areas are currently negotiating rents at between S$6-7/sqft, 20% lower than 2Q09 figures.

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