Fortune REIT proposes acquisition and 1-for-1 rights issue; positive for ARA

ARA-managed REIT, Fortune REIT, has announced 1) the proposed acquisition of three suburban retail properties in Hong Kong for HK$2,039 mn (+23% to FRT’s AUM), 2) securing of debt facilities of HK$3.1 bn to refinance existing term loan facility due in June 2010, and 3) a 1-for-1 rights issue at HK$2.29/right to raise HK$1,889 mn (a 44% discount to the last trading price, a 28% discount to TERP of HK$3.2).

As the manager of the REIT, ARA stands to earn a one-off acquisition fee of HK$20.4 mn (S$3.8 mn, being 1% of the purchase consideration) and also HK$6.3 mn as Advisory Fee.

We leave our estimates unchanged for now as the deal is subject to EGM approval on 11 September and due to be completed around mid-October 2009. The acquisition could boost ARA’s AUM by 3% from S$12.6 bn, and its FY09E EPS by 10% (due to the one-off fees) and FY10-11E EPS by 3% (recurring AUM fees).

We continue to like ARA for its high cash generative and scaleable business model. With positive momentum at both REITs and private funds, it is on track to growing its AUM to S$20 bn from S$12.6 bn by 2012. Maintain OUTPERFORM.

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United Overseas Bank - hold with the results

Results review UOB reported a 21.8% decrease in core net earnings to S$470 mil (- 21.8%yoy, +15.0%qoq, 1Q09: S$409 mil) due to higher impairment charges but largely buffered by a steep decline in taxes. Effective tax rate for the quarter was 4.58% versus 20.1% in 2Q08.

Net interest income grew 3.9% to S$908 mil (+3.9%yoy, -4.3%qoq, 1Q09: S$949 mil) over the year as funding costs fell faster than asset yields. Net interest margin was higher at 2.35% as compared to 2.23% last year.

Non-interest income was unchanged at S$551mil as profit from other operating income, i.e. change in fair value of financial instruments, compensated for the lower fee and commission income.

Operating expenses were capped at S$520mil (+0.4 yoy, +5.9% qoq) as lower staff costs offset higher revenue related expenses. Cost to income ratio declined to 35.7%. Total impairment charges rose 158% over the year to S$465mil as collective impairment of S$321mil was set aside for loans, investments and foreclosed assets. Individual impairments more than doubled to S$151mil as Singapore impairments shot up to S$88mil as compared to a write-back of S$9mil last year.

Loans expansion slowed as gross loans expanded 0.1% in 2Q09 to S$100.3bil (+0.1% yoy, -1.7% qoq), driven by housing loans (+10.1% yoy) and professionals and private individual loans (+8.7%). However, the growth from these industries was negated by loans contraction in financial institutions, manufacturing and general commerce industries. Asset quality deteriorates as the Group recorded higher NPL of S$2.48bil and higher NPL ratio of 2.4% as compared to the 1.5% last year. Total cumulative allowances amounted to 100.0% of NPLs as compared to 128% last year.

Total CAR ratio increased to 17.5% with Tier 1 also higher at 12.6% from the issuance of Class E preference shares, higher retained earnings and lower riskweighted assets. The Bank also declared an interim dividend of 20 cents per share.

Macro economy improves The Ministry of Trade and Industry expects the Singapore’s GDP to contract by 4.0% to 6.0% in 2009, up from the previous estimate of –6.0% to –9.0%. This was largely due to an upward revision of the output estimate in 1Q09. Unemployment rate was also capped at 3.3% in June 2009 as Government introduced many initiatives for the employers to keep and retrain the workers. The two integrated resorts that are slated to open in 2010 will also provide employment opportunities and keep unemployment rate in check. With the property market heating up again and YTD consumer loans in Singapore growing at 3.81%, we are also revising our Singapore system loans growth in 2009 from –4% to 1%.

Recommendation As the economy improves in this Island state, we are lowering the market risk premium in our valuation to 6% from 6.5% we used during the financial crisis. Accordingly we adjust our target price to $17.00, peg to 1.61x FY09 NAV. However, this matrix valuation is a discount to the 5-year average P/B valuation of 1.64x NAV. Maintain HOLD rating.

OCBC - 2Q09 beats expectations

Following a 1.5% q-q decline, OCBC’s loanbook has contracted 2.6% YTD (sector: -0.5%) on a mix of weak credit demand and continuing repayments. Net interest margin was lacklustre, falling 13bps q-q to 2.29% as management moderated gapping activities despite a steepening yield curve (controls are slowly easing now).

Buoyant non-interest income (NII) (+22% q-q) was underpinned by a 25% q-q recovery in fee income (primarily capital market-related) and a doubling in life assurance profit, driven by valuation gains on 87%-owned life insurer GE’s non-par funds. Credit costs sharply undershot, at 76bps on an annualised basis (FY09F: 100bps) and with the bulk being for non-loan assets; gross NPL ratio inched higher (+30bps to 2.1%; mostly from manufacturing and transport in Singapore), while loan loss cover slipped below 100%, to 97%.

Apart from better-than-expected earnings momentum, OCBC should see a pick-up in book value from a S$640mn mark-tomarket gain on AFS securities – this equates to S$0.20/share and could expand over 3Q09F should equity and debt prices continue to rally. With insurance demand likely to gain traction over 2H09, and management indicating the inflow of new NPLs has slowed from 1Q09, our fee and credit cost assumptions are under review.

Our existing Gordon Growth-based price target (methodology unchanged, assuming 11% sustainable ROE, 9.5% cost of capital and 5% longterm growth) is S$8.10, implying 1.6x FY10F adjusted book value (1.4x stated book) and 12.5x FY10F earnings. Worsening credit conditions and another knock-on drop in property prices and demand would be a key earnings risk, given some 50% of the loan book consists of exposures to mortgages and building & construction loans. While we are relatively comfortable with the Singapore loan book (59% of total book) given the relative strength of domestic corporates and the broad lack of leverage in the system, the Malaysian book (19% of total) looks more vulnerable and could surprise negatively if execution of the sizeable fiscal stimulus measures aimed at cushioning the economy from the downturn is poor, or if commodity prices collapse.