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Morningstar | Mirvac’s Business Risk Reduces as it Reweights to Newly Built Office. FVE Increases 7% to AUD 2.40. See Updated Analyst Note from 30 Apr 2019

As part of its third quarter update Mirvac Group reiterated guidance for fiscal 2019 earnings per security, or EPS, of AUD 16.9 to 17.1 cents, up 3% to 4%. This solid growth is underpinned by standout performance of the office portfolio where headline rents (excluding payments for tenant incentives) for newly negotiated leases increased 14.3% on prior rents. Strong outcomes from lease renewals looks set to continue for a further two years, at which point new supply will enter the Sydney market, relieving an acute undersupply. For 2022, we forecast falls of about 10% in Sydney office effective rents (net of tenant incentives), and large falls of about 20% in Melbourne effective rents. The declines in Melbourne are expected to be significantly larger reflecting the large number of new offices scheduled to be delivered in Melbourne’s CBD and city fringe locations.

Mirvac’s future commercial property development pipeline of AUD 6.2 billion (when delivered), will see the firm complete AUD 5.3 billion of new offices and AUD 0.9 billion of new industrial warehouses. The portfolio weighting to office assets will significantly increase from the 59% at June 2018 and by extension, the 27% weighting to retail malls will gradually decline. We see this as reducing overall business risk given the newly built offices should benefit from high tenant demand reflecting their inner-city location and contemporary facilities.

We’ve slightly raised rental growth expectation for the AUD 6.4 billion office portfolio and also lowered the weighted average cost of capital, or WACC, implicit in our discounted cashflow valuation to 8.2%. The lowered WACC reflects reduced risk as portfolio quality improves, due to amongst other things a higher weighting to new CBD office towers. These revisions are behind the 7% increase in our fair value estimate to AUD 2.40 from AUD 2.25. No-moat-rated Mirvac continues to screen as overvalued, currently trading around AUD 2.80.

Mirvac’s AUD 3.4 billion portfolio of retail shopping malls faces the same tough trading conditions as other retail landlords, but for now, has been far less impacted by retail malaise. The reasons for the outperformance is the very high weighting of the portfolio to inner Sydney locations where economic conditions are far stronger than the broader Australian market. That said, we still expect a slow-down in long-term retail rent growth as structural changes in consumer spending patterns sees more sales occur online. Our long-term forecasts are for overall retail rents to grow at 2.7% annually, materially below the 4% to 5% fixed increases in most existing specialty leases.