Champion REIT: Transfer Coverage With HKD 2.84 Fair Value; Excess Supply Drags on Office Performance

We transfer and resume coverage of Champion REIT 02778 with a fair value estimate of HKD 2.84, implying a price/book ratio of 0.4 and a fair distribution yield of 6%, in line with the 10-year historical average. We assign Champion REIT a no moat rating, down from narrow previously. This is due to Three Garden Road’s inferior location in the Hong Kong central business district, which has resulted in the asset underperforming the market during downturns and saw tenants leaving for more centrally located office buildings. This is evidenced by Three Garden Road’s occupancy rate of 82.2% as at June 2023 compared with the overall CBD Grade A office occupancy rate of 90.6%, according to JLL.

We forecast a 2.4% year-on-year decline in 2023 revenue with a weaker office market partly offset by a retail recovery at Langham Place Mall. We expect a bigger 12.6% year-on-year decline in distributable income as higher net operating expenses at Three Garden Road and Langham Place offices, as well as higher finance costs, drag on the bottom line. As such, we forecast a 2023 distribution per share of HKD 17.04 cents. While we think the 12% discount to our fair value estimate and the implied 6.8% 2023 distribution yield based on the Oct. 5 closing price is attractive, we think the shares lack a near-term catalyst because we believe weakness in the Hong Kong office market is likely to persist through 2024. We expect it will take time for the excess supply in Hong Kong Grade A offices to be absorbed before rents recover on improved demand from 2025.