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Morningstar | Vicinity Offloads a Further AUD 631 Million of Smaller Malls. FVE Unchanged at AUD 2.85

Consistent with Vicinity’s strategy to divest AUD 1.0 billion of subregional and neighbourhood shopping centres, the firm has agreed to the sale of 11 malls for AUD 631 million. Transaction evidence implies the market yield for Vicinity’s shopping malls has weakened significantly as the 11 malls sold were executed at a 5.1% discount to the June 2018 book values, whereas the 24 malls Vicinity sold for AUD 1.9 billion over the previous three years were sold at a 2.1% premium to book value. The 11 properties were sold on a slightly higher than anticipated yield of 6.9%, making their sale more dilutive than expected. The effect on our fair value estimate is immaterial at this point, with our fair value estimate remaining at AUD 2.85.

Our earnings forecasts are largely unchanged as we were already incorporating earnings dilution from the sale of malls to the value of AUD 1.0 billion over the 12 months to June 2019. Similarly, Vicinity has retained fiscal 2019 guidance for funds from operations of AUD 18.0 to AUD 18.2 cents per security.

The challenge for Vicinity is to focus investment in a manner to extract value from numerous disparate assets. New CEO Grant Kelley, is focused on reinvigorating the remaining malls to create assets with superior retail, dining, and entertainment offerings. The theory is this will attract shoppers with high disposable income and have them spend extended periods at the mall. By extension this should enable Vicinity to attract high rent-paying specialty tenants and generate solid rental growth. The problem is all the major landlords are adopting similar strategies, so it is difficult to see retail landlords as a whole generating annual rental growth above 3% for the foreseeable future.

Separately, Vicinity is still progressing plans to establish a wholesale property fund with Keppel Capital, seeded with a further AUD 1.0 billion of Vicinity’s assets. As Vicinity plans to initially hold up to 10% in the Vicinity Keppel Australian Retail Fund, or VKF, the net disposal is AUD 0.9 billion. Combined with the AUD 1 billion divestment program, Vicinity will be selling AUD 1.9 billion of malls equivalent to 11.5% of the portfolio by value. We support this strategy on a number of fronts. First, we think many of the sold assets will deliver inferior rental growth compared with the balance of Vicinity's portfolio. Second, we think management of Vicinity is probably spread too thinly and the major acquirer, SCA Property Group, is likely to have greater expertise in extracting value from the smaller shopping malls.