AEON Co (M) Bhd (June 7, RM2.21)

Maintain hold with an unchanged target price of RM2.16: Despite dwindling contributions from its department stores (due mainly to an increasing shift in consumer preference to more trendy options such as Uniqlo, Topshop and Zara), revenue at the retail segment grew 5% in the financial year ended Dec 31, 2016 (FY16). This was attributed to the opening of new outlets (two new supermarkets, nine new pharmacies and three new Daiso flat-price shops in FY16).

Moving forward, we believe the retail segment (in terms of top and bottom lines) will continue to grow moderately, underpinned by expansion of new stores and the relaxation of the Price Control and Anti-Profiteering Regulations (since early 2017, which allows AEON to raise prices of certain products gradually).

Currently, AEON operates 33 supermarkets, and three MaxValue, 48 Wellness (pharmacy) and 39 Daiso stores.

AEON registered an average occupancy rate of more than 90% across its 26 shopping malls. It is worth noting that AEON Shah Alam and AEON Kota Bharu (which were launched in 2016) registered occupancy rates of over 93%.

Management guided that a number of tenants have renewed rental agreements to variable agreements from a conventional fixed-rate agreement, given the vast supply of retail space in Malaysia.

While such a move allows AEON to maintain its high occupancy rates amid a vast supply of retail space in the market, we believe the high occupancy rates are achieved at the expense of lower rental, which accounts for the shrink in property management operating profit margin from 38% in the first quarter ended March 31, 2016 (1QFY16) to 33% in 1QFY17.

AEON will continue its long-term plan of opening stores in Malaysia (albeit at a slower pace of one shopping mall a year instead of two) to capitalise on the growing urban, middle-class population in Malaysia.

The group is scheduled to open AEON Mall Kempas, Johor Bharu, by the third quarter of this year  (3Q17) and its first mall in Kuching, Sarawak by 1Q18.

We like AEON for its potential to capitalise on the growing urban, middle-class population in Malaysia that we believe will slowly begin switching its retail preferences from more traditional wet markets to all-in-one retailers such as AEON.

The group is still in an expansionary phase, hence a margin pressure should be expected. We foresee margins to improve gradually in line with the recovery of consumer sentiment and the slowdown of aggressive expansion. — Hong Leong Investment Bank Research, June 7

This article first appeared in The Edge Financial Daily, on June 8, 2017.

For more stories, download TheEdgeProperty.com pullout here for free.

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