• Rock Square (51% interest)

• CapitaMall Erqi

DPU and NPI Performance

The NPI and DPU has declined 1.0% and 5.2% respectively in 2016, mainly due to unfavourable change in Beijing tax regime and weaker RMB against SGD. 

With the exception of the 2016, the DPU and NPI of CRCT have seen general trends of steady increment over the years. 

In 2018, the NPI for 9M has fallen by 4.0% year-on-year ("y-o-y") mainly due to the lack of contribution from CapitaMall Anzhen that was divested in 2017. Conversely, the DPU for 9M has increased by 0.9%, contributed by the joint venture in Rock Square despite the enlarged unit base. 

Occupancy Rate

Lease Expiry Profile

Source: CRCT 3Q 2018 Investor Presentation

It is observed that bulk of the portfolio lease by gross rental income will expire in 2019 (25.3%) and 2020 (21.2%). Given the focus on multi-tenanted malls over master-leased malls, CRCT's WALE tends to be shorter at 5.4 years and 2.9 years by NLA and gross rental income respectively. 

Generally, longer lease structure is largely preferred due to the stability and predictability of rental income. However, I feel that there are certain advantages to having shorter WALE, especially with CRCT's positive rental reversion underpinned by China's shift towards a consumption-driven economy. 

Reversion to Mean

• Based on the 3Q 2018 Financial Results, CapitaMall Xinnan and Rock Square has achieved more than 20% rental reversion due to strong space demand between new and renewal opportunities. In general, the portfolio has seen positive rental reversion of 12.1% in the quarter. 
• China has shifted its focus and pushed towards a consumption-driven growth model. This is evident with the 19.6% increase in total shopper traffic for CRCT and 21.4% growth in total tenant sales y-o-y.  

• One of the greatest risks of this investment is the survivability of brick and mortar retailers in the face of the onslaught of e-commerce. This is especially relevant in the home territory to global e-commerce behemoths like Alibaba and JD.com. China's economy has also evolved digitally with the proliferation of mobile shopping and high penetration of cashless payment via platforms like Alipay and Wechat Pay. 

Despite the disruption by the emergence of e-commerce, I feel that the Online to Offline (O2O) business model can be incorporated into the retail industry in which online and offline channels can be treated as complementary instead of competitive. One good example of the O2O landscape would be Alibaba's Hema supermarket chain. Shoppers at the supermarket can use the Hema mobile app throughout the store to find out about the product information or order from the menu. Following Alibaba, JD.com has recently set up its technologically advanced supermarket, 7Fresh to blend the online and offline shopping experiences. 

Furthermore, one distinct advantage of retail REIT is that promotional and marketing initiatives can be carried out to drive shoppers traffic if necessary. 

• Yuan has seen volatility amid the escalating US-China trade war. Being a pure-play China retail REIT, CRCT derives its income mainly in RMB. As its distributable income is in SGD, depreciation of RMB against SGD may lead to lower DPU to its unitholders. I would think that this is an inconsiderable risk as CRCT has mitigated the foreign exchange exposure by hedging approximately 80% of the distributable income into SGD.
• Business operations in China are often subjected to policy risk in the respective cities. For instance, the Beijing State Government has moved to align its tax policy with the national practice of charging property tax based on rental income revenue from July 2016. This has resulted in higher property-related tax expenses and inevitably affecting the NPI of malls located in Beijing. 
• The retail landscape in China is decentralising with the creation of new retail zone to cater for developing residential districts. New mall supply in tier 1 and 2 cities in 2019 is likely to intensify competition among the retail malls. 
• China does not permit private ownership of land and the maximum duration for a land use right for commercial property is 40 years. The specifics of the provision for the renewal of commercial property, as well as the basis for renewal fees remained clouded under the Property Law. Whilst there have been precedents for residential properties in Qingdao, Wenzhou and Shenzhen, the policies for renewal have remained largely localised. 

The retail malls in CRCT portfolio have their land use right expire in the period between 2040 to 2045, which is approximately 22 years away. To my understanding, the likely scenario upon expiry is that CRCT would be expected to foot the renewal fees in order to extend the lease. Alternatively, CRCT could divest the older assets and acquire younger malls as with the case for CapitaMall Anzhen and Rock Square. Either way, charging exorbitant fees or refusing the right to renewal would be economically destructive.