(July 8): On June 27, Will Butler-Adams, CEO of Brompton Bikes, could be seen around Funan, where -Brompton Bikes was readying its flagship store in Southeast Asia called Brompton Junction. One of the bikes is a Lion City Special Edition bike. On June 29, Butler-Adams led a group of some 300 local Brompton bike owners for a cycle ride from Labrador Park to Funan, where there are end-of-trip facilities. For a free shower, the QR code on the CapitaStar app can be used to enter the shower/changing rooms.

“With a view to [supporting] the nation’s car-lite movement and [serving] the office community in and around Funan who cycle to work, Funan is also the first commercial development in Singapore to allow cycling through its building, complemented by a dedicated Bicycle Hub with end-of-trip amenities,” CapitaLand says in a press release.

Funan, a mixed-use development on North Bridge Road, is one of 15 properties owned by CapitaLand Mall Trust, Singapore’s first listed real estate investment trust. It was the largest REIT by assets and market capitalisation until it was overtaken by Ascendas REIT, which, as at July 1, also counts CapitaLand as sponsor and major unitholder. CMT’s assets under management (AUM) are likely to be boosted by Funan this year.

Other than Brompton Junction in Funan, Alibaba Group Holding’s Taobao opened its new offline-and-online store in Singapore; and consumer tech company Dyson launched the world’s first Dyson Demo Store – Beauty Lab for its hairdryer.

More than just new-to-market stores, Funan is a new economy space. Take KOPItech by Kopitiam, which is in the basement. Patrons can place their orders at any of the 17 self-service kiosks in the outlet or through the new Facebook messaging app. KOPItech will also accept cryptocurrencies as payment for food.

Climb Central, a rock climbing wall, stands in the middle of the atrium. An unmanned futsal facility and a farm are on the rooftop terrace. And if visitors are keen on exercise, they can undertake one round of rock climbing, then climb the stairs of the Tree of Life, a giant  ‘tree’ at the centre of the mall, after which they can continue up to the terrace, where they can take a tour of the urban farm. Following that, they can use the shower facilities.

CapitaLand’s management says Funan is for the millennial-minded, which includes older generations such as baby boomers who are comfortable with cycling, rock climbing and technology.

“This district will have its own draw,” says Tony Tan, CEO of CMT’s manager, when asked whether there would be competition between Raffles City (RCS) and Funan. “There is a little overlap, but the offerings are distinct. RCS has its own internal economy. Funan is close to the Supreme Court and Ministry of Finance and will have its own internal economy.”

Tan hopes the whole area between Raffles Hotel and Parliament will be revived when Raffles Hotel reopens after renovation in 2H2019. In FY2020, Funan will be connected to the City Hall MRT station via an underpass that bypasses Peninsula Plaza and this could boost traffic to the mall.

Enlarged CMT remains top-rated REIT

Funan is an integrated development comprising a six-storey retail mall, two six-storey office blocks and a Lyf-branded serviced residence, which was divested to Ascott-Qatar Investment Authority Serviced Residence Global Fund for $90.5 million in 2017. The retail portion comprises 507,000 sq ft of gross floor area and 320,000 sq ft of net lettable area, and the office component consists of 260,000 sq ft of GFA and around 210,000 sq ft of NLA.

As a project under development, the valuation of Funan as at Dec 31, 2018 was $360 million. The total cost of the project was $560 million, but the unfinished serviced residence was divested to the Ascott fund.

Funan’s approximate valuation, based on the conservative capital values of CMT’s own properties such as Clarke Quay, would price the mall space at around $437 million, and the office space at around $300 million. CMT’s portfolio, excluding Funan, was valued at $10.77 billion as at March 31, and its total AUM stood at $11.6 billion. With Funan’s opening, CMT’s portfolio will be valued at around $11.5 billion, while AUM will cross $12 billion for the first time. As a result, gearing could ease to the 33%-to-34% range from 34.4%.

At its current debt-to-Ebitda (earnings before interest, taxes, depreciation and amortisation) ratio of 6.5 times and interest cover of 4.9 times, CMT is rated A2 by Moody’s Investor Service, the highest rating for an S-REIT. Among CMT’s conservative capital management strategies is its average term to maturity of 4.2 years and average cost of debt of 3.2%. The average term to maturity could probably be lengthened this year, following the issuance of US$300 million ($406.6 million) of bonds due in April 2029.

A new leasing strategy for Funan

Unlike other retail REITs, CMT is not solely focused on positive rental reversions. “We will be competitive, but you have to look at the general market. It’s all about curating content. This is a very mature market. We may have strong concepts and products, but we cannot price ourselves out of the market,” Tan explains.

The whole point of the asset and property manager is to help the tenant do well and get a ripple effect for the entire mall than to set a high spot rent, Tan rationalises. New supply has tapered off, but retail remains competitive, he maintains.

The flexible leases are at the Tree of Life. It houses 20 “retail pods” that can offer flexible leases for tenants to update concepts and merchandise. In most retail leases, merchandising is locked down, Tan says. When landlords sign leases, the retail operator has to describe the goods and services it plans to market and sell. For instance, F&B cannot be sold at an outlet that has been tenanted for the sale of, say, beauty and fashion products.

Lease tenures, at three years, remain about the same as those in CMT’s other malls. “Lease structures are now about being commercial-minded. We may want to stipulate closer collaboration with the tenant,” Tan says. In that event, the landlord is likely to take a cut of tenant revenues rather than stick to prescribed rents, to help the tenant along.

“If the tenant goes to an untested market and isn’t keen to take on the risk of a new market, it may agree to pay a percentage of turnover as rent. Some tenants just want to plug and play. In the first year, we would test the concept and subsequently, we would renew on a case-by-case basis,” Tan says.

REIT managers need to protect the downside for investors and ensure a stable revenue stream. “Still, for a very good tenant, we would be prepared to take a higher risk,” Tan says. In a portfolio, over time, these different lease types could evolve, he notes.

Funan is still an experiment. “When the trading numbers crystallise, we will know which tenants will do well or need to catch up,” Tan says.

For CMT’s portfolio as a whole, gross turnover (GTO) rent is 5% to 7% of total rental revenue. “It’s not gone beyond 7% [of total rental revenue], but we have certain malls with a higher GTO component. Some [GTO rents] are as low as 4%, and 7% is at the high end of the spectrum,” Tan says.

Different malls have different attributes. For instance, the fixed component in suburban stabilised malls tends to be larger than that in downtown malls. GTO rents for outlet malls are larger than the fixed component. “Outlet malls are destination malls. The sales-to-shopper ratio is higher than other malls to make the trip worthwhile,” Tan says. Outlet malls are generally in outlying locations. CMT owns one outlet mall: IMM. In 1QFY2019, IMM’s net property income (NPI) rose marginally y-o-y to $15.7 million.

“The GTO component of 5% to 7% is an outcome rather than how the lease is structured. The relationship between landlord and tenant will [also] evolve. The landlord must take on more risk because consumer tastes are evolving and the life cycle of a product is getting shorter,” Tan says.

Funan to start contributing ‘soon’

Funan will start contributing sooner than next year. “The difference between a greenfield development and an operating mall is that you have a pre-operational period to set up in the greenfield mall. We handed over the space to the anchor tenant —the cinema operator — quite early such that the rent-free period would be very short. I would rather incentivise tenants to open early,” Tan says of Funan. “For malls that are already operational, the rent-free period can be a little longer.” 

Another mall in which CMT has experimented with different concepts is JCube, but it continues to face challenges. “We need to get its market position right. It’s not easy because the market size is not big,” Tan says. Moreover, the Kuala Lumpur-Singapore High Speed Rail, which was scheduled to have a terminal station in Jurong, has been postponed for the time being.

CMT’s Westgate and JEM, which is owned by a fund managed by Lendlease Group, are connected directly to the Jurong MRT station, while JCube is across the road. “We’ve tried a few different formats. We wanted to reach out to a younger crowd and there is no point in going head to head with Westgate and JEM,” Tan says. “The skating rink was one major pull, but it hasn’t gained a lot of traction. It could have been bigger if the ecosystem is supportive. [There is] still not a big following. We need to work out a marketing plan to boost JCube, and with that, we hope to pull in more activity.”

At one point, CMT considered a rock climbing wall at JCube, but the design would have been a challenge. Cycling could be another activity, but there needs to be ancillary offerings.

Elsewhere, CMT’s Bedok Mall has recovered. “We feel some impact from the opening of Jewel Changi Airport, which has a novelty impact,” Tan says cautiously. In 1QFY2019, Bedok Mall’s NPI rose 5.9% y-o-y to $10.7 million.

The NPI of CMT’s Tampines Mall in 1Q2019 rose 1% y-o-y to $15.9 million. “Last year, Century Mall reopened. The link between the two malls is better. The Tampines cluster has strong appeal, although the overall footfall has seen some decline after Jewel’s opening,” Tan says. All in, CMT’s NPI increased 11.5% y-o-y to $140.1 million, boosted by Westgate’s full-quarter contribution.

When Funan closed for asset enhancement initiatives in 2016, CMT had announced that the incremental NPI would be $36.6 million when the AEIs were completed. The incremental NPI is only likely to add to FY2020’s NPI. CMT’s NPI for FY2018 was $493.7 million, and the annualised NPI for this year is $540 million.

In 1QFY2019, distributions per unit rose 3.6% y-o-y to 2.88 cents, representing a total of 11.52 cents for the current year and translating into a DPU yield of 4.23%. The first quarter DPU excludes the $9.2 million of distributable income that CMT has retained and the $5.9 million from CMT’s investment in CapitaLand Retail China Trust. DPU yields are compressed because local interest rates and risk-free rates have eased. In addition, CMT is trading at a 35% premium to its latest net asset value of $2.01. NAV is likely to rise when Funan’s new valuation is announced later this month, and the price-to-book ratio would fall.

Will shoppers return?

CMT’s portfolio is large enough for the manager to take some risk and experiment with new concepts, although Funan is a lot larger than JCube, which was valued at $288 million as at March 31.

Would CMT be interested in expanding into the more defensive suburban sector? “[For] suburban [malls], you can either acquire, develop or expand existing space. We will look into this. At Lot 1, we are going to expand the library and reformat the cinema. We are going to expand it. The market has changed and the preference is for smaller screens and more variety,” Tan says.

He is also studying the possibility of AEIs for other malls in the portfolio, based on URA’s Draft Master Plan 2019. “Chua Chu Kang has some [potential] going forward with the new residential precinct in Tengah. [The Land Transport Authority] will add the new Jurong Regional Line and Chua Chu Kang will be [an] interchange,” Tan points out.

Some analysts wonder how Funan will perform after its first lease cycle. They do not expect the crowds on the opening weekend to persist once the novelty wears off. Furthermore, the mall’s concept is more a revolution than an evolution. How many Brompton bikes can people buy, they ask? Brompton Junction is more than a shop; it is a service centre. Some cyclists — possibly many — are tempted by accessories, and all bikes need to be serviced, so visitors would probably continue to patronise that store, and the rock climbing wall. After a bike ride and workout, what better way to relax than to enjoy an iced coffee? The choices at Funan are Tiong Bahru Bakery, KOPItech and Expresso Bar. 

Investors waiting to buy into CMT may want to wait out the current yield and price-to-book compressions and enter at more reasonable valuations.

This story appears in The Edge Singapore (Issue 889, week of July 8) which is on sale now. Subscribe here