EUR 850.00 For Business Accounts Only

Morningstar | Sales and Rents Across Kiwi's Retail Portfolio Continue to Disappoint. FVE Cut to NZD 1.35

Kiwi Property Group’s first-half fiscal 2019 earnings on a funds from operations, or FFO, basis were marginally below expectations at NZD 3.67 cents per security mainly due to greater than expected rent loss as space is vacated for redevelopment projects. However, rent outcomes across the retail portfolio was disappointing, with multiple shopping centres reporting weak growth over the past 12 months. We were expecting the favourable economic conditions would result in stronger rental uplift than the 3.5% reported for the 21% of the retail portfolio that was subject to a new lease or rental review. We’ve trimmed rental growth assumptions for the retail assets resulting in a small decline in our fair value to NZD 1.35 from NZD 1.40. At current levels, narrow-moat-rated Kiwi Property Group screens as fairly valued.

Our forecast for fiscal 2019 distributions align with Kiwi's reiterated guidance of NZD 6.95 cents per security.

Retail sales across the shopping centre assets were up 2.7% on a like-for-like basis, softer than we’d been expecting, especially given the strong New Zealand economic fundamentals. Major tailwinds that would ordinarily support retail sales and rents are falling unemployment, rising household income and high capital investment. All are positive, especially employment, with the New Zealand unemployment rate recently dropping to 3.9% in the September quarter from 4.4% previously. Part of the softness in like-for-like sales is due to sales leakage to competing assets that have recently been upgraded. This risk will not abate, as major competitors like Westfield Newmarket will continue to upgrade their competing assets.

Separately, we see sustained pressure on retail rents due to fast evolving consumer spending patterns. The large and traditionally strong fashion category (17% of total mall sales) continues to struggle, with sales up just 0.9% over the past year. The headline sales number indicates consumers are still spending in malls, but more of those sales are going through the tills of tenants (consumer electronics, travel agents) whose rents as a percentage of sales are materially below that of traditional specialty retailers. Continuation of recent trends will see high rent paying specialty in apparel being replaced by larger retailers (examples include H&M) who source product significantly cheaper that smaller retailers. This cost advantage in sourcing is why we foresee more cannibalisation of the smaller retailers by larger retailers going forward. Overall we forecast rents across the retail portfolio growing at just 2.6% over the longer term.

The office assets remain the strongest performing part of the business, with rents rising strongly, particularly in Auckland. Unfortunately, Kiwi will not fully benefit from this rental growth as the major tenant at ASB North Wharf (25% of total office assets) has a long-term lease where rents rise by just 1.5% per year.