Company Overview: Scentre Group Limited is the parent company of Scentre Group Trust 1 (SGT1), Scentre Group Trust 2 (SGT2) and Scentre Group Trust 3 (SGT3). The principal activities of the Company include the ownership, development, design, construction, asset management, leasing and marketing activities with respect to its Australian and New Zealand portfolio of retail properties. Its segments include Property investments segment, which includes net property income from shopping centers, and Property and project management segment, which includes external fee income from third parties, primarily property management and development fees, and associated business expenses. The Company manages, develops and has an ownership interest in Westfield branded shopping centers in Australia and New Zealand. It manages every aspect of its portfolio, including from design, construction and development to leasing, management and marketing.


SCG Details

Decent Customer Visits; Rise in Property Income Aided 1H 2018: Scentre Group (ASX: SCG), formerly known as Westfield Holdings Limited, is a retail landlord company, which changed its name to Scentre Group on 30 June 2014. It was founded in Blacktown (Greater Western Sydney) in July 1959 with 12 shops, 2 department stores, and a supermarket. It is a parent company as it has been managing Scentre Group Trust 1, Scentre Group Trust 2 and Scentre Group Trust 3. The company operates via two segments: Property Investments as well as Property and Project Management segment. The company’s portfolio is leased over 99.5% and it has witnessed over 530 million customer visits annually. In 1H 2018 which ended in June 2018, the company managed to generate net property income of $892.2 million. However, a favourable momentum was witnessed in the net operating income mainly because of the contracted annual rent escalations. In 1H 2018, the company’s profit after tax or PAT amounted to $1462.6 million which implies the YoY rise of 3.6%.

As per the management of Scentre Group, retail space which witnesses strong traffic has been experiencing robust demand and is evidenced by the company’s portfolio’s occupancy. The physical stores have been affecting the sales in all the channels and hence, and this highlights the importance of physical store with respect to the retail space. Keeping the view of positive outlook in the business backed by improving FFO growth of around 4% and distribution growth of around 2% for the full year, we have valued the stock using the Discounted Cash Flow method and 1 year Forward Price/FFO per securities multiple and have arrived at target price upside of about single high digit to low double digit.


Key Financial Metrics (Source: Company Reports, Thomson Reuters), NA - Not Available, HoH – Half Yearly Growth

Strong Developments Well-supported 1H 2018: Scentre Group witnessed significant developments activities in 1H 2018 thus, laying the foundation for robust growth in the long-term. The opening of $80 million, the company’s share being $40 million, redevelopment with respect to Westfield Plenty Valley was done in March 2018. In 1H 2018, the company has also started the redevelopment of the Westfield Newmarket in Auckland amounting to NZ$790 million with the company’s share being NZ$400 million. The management expects that this redevelopment might get completed by 2019 end. Other several developments have been progressing in the decent way. The developments which the company expects to complete in FY 2018 would be adding over 106,000 square meters with regards to the lettable area. The redevelopment at Westfield Coomera, Queensland has commenced in Q2 2017 and the anticipated completion time is Q4 2018 and the completion of redevelopment at Westfield Kotara, NSW is expected to occur in Q4 2018.

 
Westfield Coomera, QLD and Westfield Kotara, NSW (Source: Company Reports)

YoY Growth in Revenues Well-Supported by Line Items: Scentre Group ended 1H 2018 (six months ended June 30, 2018) with total revenues amounting to $1,282.2 million which implies a rise of 6.5% on YoY basis. This rise was aided by the rise in the individual line items. The substantial portion has been contributed by the property revenue which, in 1H 2018, stood at $1.04 billion.

Recently, the company has been more inclined towards increasing the market share as well as penetration. This strategy is evidenced by the company’s decision to open up Westfield Plenty Valley. Additionally, the company has acquired 50% of Westfield Eastgardens and, as a result, increased the penetration in the south-eastern suburbs of Sydney. The company has been generating the majority of the revenues from the Australian region and, as a result, any macroeconomic headwind would severely impact the company’s overall performance.

Fundraising Supported in Refinancing Activities, Efficient Capital Management: In 1H 2018, Scentre Group managed to issue 10-year bonds for the total consideration amounting to €500 million and it has deployed the proceeds towards the refinancing activities. The floating rate notes amounting to €400 million which got matured in July 2018 were largely refinanced with the help of the proceeds. As of June 30 2018, the company’s liquidity position stood around $3 billion. 

Amidst all the recent developments, the company has also maintained its focus on the disciplined management of the capital structure. In April 2018, Scentre Group has made an announcement regarding the on-market buy-back of the company’s securities which involved the consideration of up to $700 million. The decision to go for the buyback reflects its focus towards capital management. Moreover, the company has extended its present loan facilities which were $2.4 billion to $3.3 billion.


SCG’s debt metrics (Source: Company Reports)

Needle on Key Indicators

1. EBITDA and EBITDA Margin at Decent Zone: The Company has recorded EBITDA Y-o-Y growth of 1.2% in 1HCY18 due to decent growth of property revenue, property development & construction income, and management income during the same period. EBITDA margin contracted to 340 bps and recorded 65.1% in 1HCY18 against 68.5% in 1HCY17 as the same was mainly impacted by the higher Property development and construction cost incurred during the year. However, we presume that EBITDA margin would be revamped in the range of 64%-66% in the CY18E on the back of decent topline growth and focus on cost optimization strategy.


2. PAT and PAT Margin: Net profit attributable to members of Scentre Group for 1HCY18 was $1462.6 Mn including property revaluations of $883.2 Mn. These revaluations reflected the strong demand for premium centres resulting in the continued improvement in capitalisation rates across the portfolio, solid NOI growth, and the value creation from the completion of major redevelopments.
 


3. RoCE and NOI on the Rise: Return on contributed equity (ROCE) substantially improved from 11.80% to 12.28% in CY17 over the prior year. Moreover, there has been continuous improvement in ROCE over the period of CY14-17. ROCE is an important indicator which tells about the long-term measure of how the company generates returns on securityholder equity through a combination of improving earnings and capital management. On the other hand, comparable NOI growth came in at 2.75% in CY17 as compared to prior year which was at 2.90%. It was mildly down by 15 bps due to commenced major development project such as developing Westfield Carousel, Westfield Kotara and its new greenfield development at Coomera in 2017. Moreover, for CY18E, the company anticipates comparable NOI growth in the range of 2.5%-3% while its weighted average interest rate is expected to be at around 4.4%.



4. Healthy Dividend Payout Ratio: From the past few years, Scentre Group has consistently distributed stable dividends with healthy payout ratios in the range of 89% to 95%. Further, the group expects that in CY18E distributions might be 22.16 cents per share implying a rise of 2% as compared to prior year.  We believe that SCG is likely to continue to have a decent dividend payout policy in long run and reward dividends to its shareholder under regular circumstances.
 

What Scentre’s Management Expects Moving Forward: The performance of Scentre Group is primarily be assessed by its funds from operations or FFO which witnessed a rise on the YoY basis. In 1H 2018, the company’s FFO amounted to $657.2 million reflecting a YoY growth of 3%. The company’s management reflected favourable views about its expected performance as it believes that the company’s FFO is expected to witness a growth around 4% while distribution may be up by 2%.

The company has been maintaining its focus on 4 priorities - Retail Product and Customer Experience, Asset management, Capital management as well as Developments. However, the company is exposed to several risk factors and some of which are retail property specific risks, global risks, financial risks, global downturn as well as regulatory changes. As per the company’s management, it has been responding to the global downturn risk by focusing on the balance sheet and by strengthening it and also by utilizing diverse funding sources.   


Growing FFO and FFO per securities (Source: Company Reports)

Stock Recommendation: In the last three months, the stock has been down by around 6.35% and is trading close to its low levels. A technical indicator, Moving Average Convergence Divergence or MACD, has been applied on the daily chart of Scentre Group. For the purposes, we have considered the default values. After careful observation, we noticed that the MACD line has crossed the signal line and is moving upwards reflecting that it has been a bullish crossover. Further, efficient capital management, as well as new developments, bode well for the company.  Keeping the view of positive outlook in the business backed by improving FFO growth of around 4% and distribution growth of around 2% for full year, we value the stock (based on low single digit growth in cash flows and FFO per securities) to witness potential upside of around single high digit to low double digit upside (%) for forward 24 months and recommend a “Buy” on the stock at the current market price of $3.900.
 

SCG Daily Chart (Source: Thomson Reuters)

 
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