Sasseur REIT: Attractive 8.33% Yield Supported By Top-Notch Outlet Malls

We recently attended a property tour hosted by Sasseur REIT, during which we caught up with the management and had a first-hand look into its outlet malls in Chongqing, Hefei and Xi'an.

Sasseur REIT's properties are mainly in strategic Tier-2 cities, where it has a first-mover advantage, enabling it to secure favourable locations ahead of its competitors.

With an attractive distribution yield of about 8.33% in 2018, we believe that Sasseur REIT is a strong proxy to the fast-growing outlet industry in China.

Sasseur REIT (SGX.CRPU), which made its debut on the SGX in March as the first major IPO in 2018, is a Shanghai-based operator of outlet malls in China. Its portfolio of four outlets malls gives investors direct exposure to China's thriving outlet mall industry that still has immense room for further market expansion. We recently attended a property tour hosted by Sasseur, during which we caught up with the management and had a first-hand look into its outlet malls in Chongqing, Hefei and Xi'an. Here are some of our takeaways.

(Related Article: Sasseur REIT: Participate In China's Thriving Outlet Mall Industry With This IPO)

First-Mover Advantage In Strategic Cities

Sasseur's outlet malls are strategically located in fast-growing Tier-2 cities that have strong economic potential and expanding middle class populations. It also has a first-mover advantage in these cities, where Sasseur has been able to secure favourable locations ahead of its competitors. Its outlet malls are mainly located near high-end residential properties, and are also well-supported by the transportation infrastructure in their respective cities.

While Tier-1 cities like Shanghai and Beijing have a much larger addressable market compared to Tier-2 cities, we understand from the management that the level of competition in Tier-1 cities is relatively intense and a large portion of the market has already been captured by incumbents. Moreover, the steep rental costs in Tier-1 cities are a real challenge faced by mall operators – Guangzhou, Shanghai and Beijing are some of the most expensive locations to lease premium retail properties in China (Figure 1).

Figure 1: Expensive To Lease Premium Retail Malls In Tier-1 Cities

The portfolio currently has a healthy average occupancy rate of 95.1% (as of 23 February 2018), with its leases mainly short-term in nature and primarily sales-driven, whereby the rent is determined based on an agreed percentage of tenants' turnover. Its tenants focus mainly on apparel, bags and accessories, with international brands, such as Salvatore Ferragamo, as anchor tenants to help draw the crowd in.

Domestic luxury brands still occupy the majority of storefronts, but the management has reiterated that these brands are popular amongst locals, and they usually have to meet a minimum revenue requirement (which translates into a minimum guaranteed rental income for Sasseur), failing which the tenants will have to top up the shortfall in rental payments. Consistent underperformers will also receive help from Sasseur on areas such as retail strategy and inventory management to help them drive sales.

1. Chongqing Outlet

Sasseur's Chongqing outlet opened its doors in September 2008, and is currently the longest-operating outlet mall in the portfolio. With about RMB 1.9 billion in annual turnover, the Chongqing outlet is also one of the top three outlet malls in China in terms of sales revenue. It is located near several residential clusters where a number of high-end residential properties have been developed (Figure 2), putting the mall within easy reach of approximately one million middle class families in the area.

Figure 2: Chongqing Outlet Located Near Residential Clusters

The outlet mall is also within walking distance of the nearest metro line, which runs through several core commercial areas (Nanping, Guanyinqiao, Shapingba, Jiefangbei and Yangjiaping), bringing consumers from the main urban areas to the outlet mall. Moreover, the mall is a 15-minutes' drive away from the Chongqing Jiangbei International Airport, and tourists heading to the city centre will certainly pass by the outlet mall (Figure 3).

Figure 3: Favourable Location Near Airport And Core Commercial Areas

The mall has 414 tenants and an occupancy rate of about 96.0%. Due to its popularity and favourable location, the management has highlighted that many brands are keen to open stores in the Chongqing outlet, so much so that the mall has set up temporary store fronts to house prospective tenants, who have to undergo a probationary period during which Sasseur will assess the brands before bringing them on-board (Figure 4). As such, the management leases its shop space only to the best brands.

Interestingly, the Chongqing outlet mall was established at a time when there were no commercial facilities in the area, but it has been so successful at drawing in large crowds that retailers such as IKEA started to open their stores near Sasseur in order to benefit from its customer footfall.

Figure 4: Temporary Stores For Prospective Tenants To Undergo 'Probation'

Chongqing is one of China's most populous and prosperous cities, with a GDP growth of 9.3% that is way above the national average of 6.9% in 2017. As one of the municipalities that is directly controlled by the central government, Chongqing is also expected to receive prioritised support in boosting economic growth. With disposable income and retail consumption expected to gain further growth momentum over the next few years, we believe that this bodes well for Sasseur's Chongqing outlet.

2. Hefei Outlet

Hefei, whose economy has traditionally been built around its agriculture and manufacturing industries, is fast transforming into a high-tech hub and is expected to play a major role in China's drive to develop its own technology base. The city is also home to the High-Tech Industrial Development Zone (HTIDZ), an area designated by the government to develop high-tech industries, and will be supported by a robust transportation infrastructure, high-end residential properties, academic institutions and commercial facilities.

The good news? Sasseur's Hefei outlet is located within the HTIDZ, right smack in the middle of high-end residential properties. The new campus of University of Science and Technology of China, one of China's top-tier universities, is also located near the mall. The management has revealed that there are currently about 200,000 consumers staying within the immediate vicinity of the outlet mall, and the area is expected to attract over 2 million people as the government continues to attract talent to the area and develop Hefei into the next Silicon Valley.

Figure 5: Crowd On A Weekday Afternoon

With a large collection of well-known brands, the mall has managed to attract huge crowds, especially during weekends when customer footfall is more than three times that of a typical weekday. It also houses the largest cinema in east China, with 17 showrooms that can seat up to 2,500 people (Figure 6). While the nearest metro station is about 1.2km away, the completion of two additional metro lines by year-end will connect the Hefei outlet directly to the city centre, further increasing its accessibility.

Figure 6: Hefei Outlet Houses The Largest Cinema In East China

3. Xi'An Outlet

The Xi'An outlet is one of the five outlet malls in the sponsor pipeline that could potentially be injected into Sasseur. Having commenced operations only in September last year, it is relatively new and its customer footfall is also visibly lower than that of the Chongqing and Hefei outlets on weekday afternoons (Figure 7), although the management assured us that the mall is typically packed during weekends.

Figure 7: Footfall At Xi'An Outlet Visibly Lower Than The Other Outlets

As Xi'An is a culturally-rich location, the make-up of the mall is also slightly different from the other two outlets that we visited, with a book store, calligraphy classes, culturally-themed food outlets and a traditional Chinese teahouse offering tea appreciation sessions. The mall also organises frequent kid-friendly activities, such as kids' photography, costume competitions and family cookouts to draw in families. The third floor also has an indoor car circuit for kids, an attraction which is particularly popular, with kids having to wait for as long as two hours before getting their chance to 'drive' around the circuit.

While it will take a while before the Xi'An outlet matures, things are starting to look up. For a start, Xi'An lies at the heart of the One Belt One Road trade route and its economy is powered by hi-tech manufacturing, attributes that will help support its future economic growth. As a famous historic and cultural city, Xi'An is also a popular tourist destination. The Xi'An outlet is about a 40-minutes' drive from the airport and is directly connected to the city's metro line.

Attractive Return Potential

For a country with China's population and spending power, there are relatively few factory outlet malls, and that suggests immense room for further market expansion. A rising middle class and an increasing preference for well-known luxury brands amongst Chinese consumers are also trends that will likely boost future demand for luxury products.

While its share price has lost about -10% since IPO due to the heightened market volatility in recent times, we believe that its fundamentals remain intact. With its outlet malls strategically located in fast-growing Tier-2 cities that have strong economic potential and expanding middle class populations, Sasseur will certainly be one of the main beneficiaries of China's thriving outlet mall industry.

At its current share price of SGD 0.72 (as of 29 June 2018), Sasseur offers investors an attractive distribution yield of about 8.33% in 2018 (8.67% in 2019), higher than most of its other listed peers in the China retail space (Table 1). The distribution yields for 2018 and 2019 are also guaranteed due to the presence of the minimum rent condition.

Sasseur is currently trading at a slight discount to its net asset value per share of about SGD 0.78. While its current valuations are on the upper end of the value scale compared to its peers, it is worth noting that the fundamentals of the outlet mall industry is vastly different from traditional retail, which is currently on a decline, and a higher valuation is perhaps justified due to the strong growth potential of China's outlet mall industry.

Table 1: Valuations of China Retail REITs And Business Trusts

Rise In E-Commerce A Threat To Sasseur?

Since its advent, online shopping has provided consumers with a convenient way to purchase virtually all types of goods, an absolute life saviour for the time-starved and the couch potatoes. As such, it is not surprising that the rise in e-commerce has disrupted brick-and-mortar retailers worldwide. However, Sasseur's management remains unfazed. In fact, its main focus on apparel may put it in a good stead to withstand competition from its online peers, given that the bulk of online purchases are typically concentrated in consumer electronics (Table 2).

Table 2: Tmall's Top-Selling Brands On Singles' Day 2017

When it comes to apparel, however, it seems that the in-store experience matters too. For many shoppers, online images simply can't replace the physical look, feel and actual fit of the clothes, especially if they are forking out hundreds, if not thousands, of dollars for their purchases. Some of them may also end up purchasing counterfeit goods from unscrupulous online merchants. By making the trip down to outlet malls, consumers are guaranteed authentic and quality branded goods, and this is what continues to make Sasseur tick even in the face of the rising e-commerce threat.

Declaration:

For specific disclosure, at the time of publication of this report, IFPL (via its connected and associated entities) holds a NIL position in the abovementioned securities. The analyst who produced this report has a position in Sasseur REIT.

The Research Team is part of iFAST Financial Pte Ltd.