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Morningstar | Corporate Action: Do Not Participate in Unit Purchase Plan as Charter Hall Buys Rockdale Plaza.

Charter Hall Retail is acquiring Rockdale Plaza, a subregional shopping centre in Southern Sydney for AUD 142 million plus AUD 12 million of transaction costs. Funding will come from an underwritten AUD 150 million institutional placement at AUD 4.51 per new unit and a non-underwritten unit purchase plan, or UPP, expected to raise a further AUD 10 million. The offer price represents a 3% discount to the last close of AUD 4.65, with the equity raise increasing units on issue by 8.8%.

Rockdale Plaza was acquired on a 6.25% capitalisation rate and effectively full occupancy. With settlement in late April, there will be negligible earnings accretion in fiscal 2019, accordingly guidance is unchanged for earnings growth of 2%.

Adjusting for the purchase of Rockdale Plaza, capital raise at a premium to fair value, AUD 15 million of costs to break debt hedge and incorporating a slightly lower weighted average cost of capital to 7.3%, results in a 5% increase in our fair value estimate to AUD 4.20 from AUD 4.00. With no-moat Charter Hall last trading at AUD 4.65, the stock screens as overvalued, and we do not recommend investors take up their entitlements under the UPP.

The UPP offer opens and the booklet is dispatched on April 8, the offer closes on May 2, and the allotment date for new units is May 9. Units issued under the institutional placement and UPP will be fully entitled to the estimated distribution of AUD 14.5 cents per unit for the half year ending June 30, 2019.

Separately, Charter Hall has taken advantage of plummeting Australian bond yields, breaking existing hedges and extending the term on all interest rate swaps and hedges. We see the breaking of interest rate swaps are largely window dressing, as earnings are buoyed by a decline in the weighted average cost of debt to 3.5% from 3.9%. The net value created is likely nil as the lower borrowing cost should be fully offset by the need to outlay AUD 15 million to break existing swaps. The debt restructure sees weighted average hedge maturity increase to 4.4 years from 3.7 years. The REIT has no debt maturing until fiscal 2022. Gearing remains moderately high at 35% on a look-through and pro forma basis. Nonetheless, with 40% of rent coming from major supermarket businesses of Woolworths (22.8), Coles (15.7%), and Aldi (1.6%), there is a strong and low risk rental stream supporting annual borrowing costs.

The purchase of Rockdale Plaza continues the firm’s gradual repositioning towards medium-size shopping centres, with a focus on customer convenience. Rockdale contains two supermarkets, Woolworths and Aldi, a Big W discount department store, seven mini-majors, and 46 specialty stores. There is an outside chance the Big W will close as parent Woolworths plans to shutter 30 stores, but the space should easily be released. We don’t see scope for major strategic change in the tenant composition for Rockdale as the asset has significant competition in the catchment. Nearby supermarkets include a Woolworths and Aldi at Kogarah train station, (1.4 km South) and Coles Brighton Le Sands (2.1 km East).

Redevelopment of the asset is likely to be constrained in the medium term by the small existing footprint. Outer year options to extend the trading hours by upscaling the dining precinct seem limited as there are two well-established full-service malls nearby that already meet this need. The closest is Westfield Hurstville (4 km West) that contains Coles and Woolworths supermarkets and a large array of speciality stores and dining options. The stylish, new Westfield Miranda (11 km South) is likely to remain the dominant after-hours entertainment precinct in Sydney’s South, with numerous restaurants, cinemas, and premium shops.