KrisAssets Holdings Berhad – the name may not ring a bell.

But mention Mid Valley Megamall and who hasn’t heard of it? Such is the disparity in branding.

KrisAssets owns Mid Valley Megamall. And yes, you can buy a piece of it on Bursa Malaysia. Which was what I did earlier today. Previously an old manufacturing company, KrisAssets was brought to life a few years back by IGB Corporation Berhad. Basically it owns Mid Valley Megamall – the shopping centre, car parks and all. But IGB still holds on to The Gardens, Cititel and some other parts of Mid Valley City.

Earnings Details

KrisAssets (KASSETS) is not a potential 2 or 3 bagger share but it does have defensive characteristics which I value quite a bit in the current market.

Hardly anyone in the investment community would say that KrisAssets is expensive. At RM2.59, it is around 17% below its NTA of RM3.12 and trades at under 9x PE Ratio. It has been a total laggard in the recent market rally.

The key issue is whether management wants to unlock the value in this company.

First let’s look at the NEGATIVES:

1. Thinly traded – Hardly any shares change hands each day and the Buy-Sell spread is usually wider than other companies its size. IGB holds 74.9% of KrisAssets, add to this all the other insitutions and the result: retail investors have to make do with less than 10%. In fact, there were some issues that KrisAssets was not meeting the Bumiputra Equity conditions imposed by the SC. Although this issue was resolved only a few days ago.

2. Low Dividends – KrisAssets has been paying out 15 sen per share for the past few years. Earnings have been growing but dividends have not followed suit. This notwithstanding, KASSETS dividend yield is still pretty decent compared to most other mid-large cap stocks.

3. Inefficient Structure – if KASSETS was a REIT, it would save a lot in taxes and would be paying out 28-29 sen in distribution. Most likely it will trade at a premium to all the other REITs because of its asset quality, which means its unit price should be around RM3.50 – RM4.00. Check out an article by TheEdge 2 years back entitled Looking at KrisAssets as a REIT (around 1MB to download).

4. Low Transparency – Read through the company’s Annual Report and website and you’ll soon figure out that management is holding the cards close to its chest. I’ve got no idea how big is Mid Valley Megamall, how many tenants they have, what is the rental income breakdown, what is their strategy and so on.

But I’m only a small investor…. so I don’t need to know.

5. Acquisitions – Market talk has been that there will be acquisitions to come – there is speculation that perhaps The Gardens might go into KrisAssets. Given that the assets will most likely come from IGB, I hope we minority shareholders are not taken for a ride when it comes to pricing.

OK now let’s look at the POSITVES:

1. Top Asset – Mid Valley Megamall (along with 1-Utama) is probably the best shopping centre in Malaysia. It dominates a huge catchment area to the credit of IGB team which had an early foresight, vision and guts to execute their plan. It was the project that almost sunk IGB 11 years ago but has since paid off handsomely and become the Jewel in their Crown.

(Mid Valley Megamall is an integral part of the overall Mid Valley City, Kuala Lumpur’s “City within the City”)

I don’t think that any significant competition would appear any time soon. Even Westfield would be proud to own this asset. Every time I get stuck in the car park on Saturday, I’ll just try to remember that I own some shares in this thing… if you see that person smiling in the car parking jam, you know who that is

2. Pure Play – KrisAssets is a single asset company, but because it is a top class asset, it offers pure un-adulterated exposure to Kuala Lumpur’s retail property sector. There is no office block, industrial warehouse or some fancy hotel to dilute this. If I wanted to invest in other asset classes, I know who to go to. Let’s not have all the other stuff in Kris Assets… keep it pure. But somehow I don’t think it will stay this way for long.

3. Conservative – So far there are no wild acquisitions by the company. Earnings is consistently used to pay down its borrowings. This is prudent and I hope that it does not gear up excessively to buy assets from IGB Corp at inflated prices, or even worse, buy unwanted assets from IGB.

For the past 2 years, KrisAssets has beeen a sideways performer at best (see below chart).

I believe that the downside for this counter is quite limited even if the stockmarket crashes, as we saw last year. On the other hand, it’s not hard to see a 10%+ price appreciation within a 2-year timeframe. Mid Valley Megamall is a bread-and-butter shopping center. It is resilient – one of those rare properties that can continue to command growing rental income in this climate.

Whether KrisAssets can grow its asset base, acquire more top quality shopping centres and add value to shareholders remains to be seen. It certainly has the firepower. But what is needed is that good ol’ IGB vision, guts and resolve that have made Mid Valley Megamall a household name to so many in KL.

If management decides to unlock value through a REIT structure or higher dividend payout, then I should be in for some windfall. But this will be a bonus.

A model of the Mid Valley City Masterplan. Some RM250 million alone has been invested in roads and traffic flow around Mid Valley City.

It seems KLCCP has included the increase in its property value into its profit figure.

OK basically I’m not in favour of such reporting.

Traditionally if property assets go up in value, companies would treat this as an asset revaluation. The increased property value goes into the balance sheet – OK fine. But the corresponding credit should go into an Asset Revaluation Reserve and not into the company’s operating profit.

The company should not be allowed to pay dividends out of the Asset Revaluation Reserve.

We have restated the Fair Value Adjustment as an Unusual Item in our database. It is excluded from our EBIT calculation and as a result KLCCP’s Interest Cover is only 4.0x which is not fantastic. I usually like to see at least 7x Interest Cover in companies I invest in, or in the case of passive property vehicles perhaps 6x. Then again, Petronas is the major shareholder in KLCCP. They are big enough to buy up the lenders.

Back to my point…. it’s great that the property has gone up in value. But they haven’t sold it yet which means they haven’t made a cent profit. Hmmm…. am I missing something here? Why should it be treated as profit and not unrealised gain?

The Australian Property Trust Experience

This reminds me of the recent Australian experience with some of their top REITs. The industry was expanding nicely for a good 10 years since 1995. Investors had a fantastic choice of top quality properties, returns were good and earnings were real.

Sometime from around 2004, the testosterone level of property fund managers began to increase at a rapid and uncontrollable rate. Fund managers were competing to buy properties, often overpaying for them and relying on financial wizardry (eg. income support mechanisms) to justify the high prices paid. To boost their equity returns, they stuck in some debt funding. Here’s a simple illustration:

Total Return = Income Return + Capital Growth

So if your net rental return is 6% and the property goes up in value by 4% – your total return is 10%. Simple enough.

OK let’s stick in some debt funding. Say your borrowing cost is 7%. Hmmm…more than your rental income but never mind, report the profit as 10% and since the funding cost is only 7%, you’re still ahead by 3% right?

Well yes… so long as you can keep increasing your rents return to justify the higher property value. But sooner or later reality catches up and we saw some violent wake-up calls for even the largest property trusts in Australia.

Fair Value Adjustment was the name of the game. Look at GPT, at its peak market cap was more than A$10 billion. Today it is A$1.9 billion.

Here’s another one, a familiar household name synonymous with quality houses in Australia – Mirvac. From a high of A$6.30 its security price is now A$1.30.

I’m not saying KLCCP is headed towards this direction. All I’m saying is that the recognition of “Fair Value Adjustment” as “Profit” in the Income Statement is misleading and shame on the auditor for its unqualified sign off.

Our REIT industry in Malaysia will take many many years to reach the kind of bubble seen in Australia.

And when it does, please remember the “Fair Value Adjustment” bubble!

What’s the catch? Well you don’t get to manage it yourself but will need to rely on professional managers to manage your property portfolio.

Well if you are looking for hassle-free exposure to prime industrial properties in Malaysia, then Atrium Real Estate Investment Trust is a worthwhile consideration.

Atrium REIT is focused on Industrial real estate comprising of Warehouse-Office type properties. It was listed on 2 April 2007 on Bursa Malaysia Main Board and currently owns these properties with the corresponding Net Book Values:

• Atrium Shah Alam 1 (NLA: 311,736 sq ft) – RM57.2 million
• Atrium Shah Alam 2 (NLA: 258,702 sq ff) – RM49.1 million
• Atrium Puchong (NLA: 203,994 sq ft) – RM38.5 million
• Atrium Rawang (NLA: 35,236 sq ft) – RM10.0 million

Photo of Atrium Shah Alam 1 (Source: atriumreit.com.my)

In October 2007, Atrium entered into an agreement to purchase another property Senai Industrial Park Johor (NLA: 125,173 sq ft) for RM12.5 million but announced in June 2008 that it had declined to proceed with the purchase due to certain conditions not met.

Atrium’s policy is to distribute at least 90% of its distributable income. Since listing so far, its distributions have been as follows:

28/8/07 – 2.0 sen
28/11/07 – 2.2 sen
29/2/08 – 2.3 sen
29/8/08 – 2.1 sen

This brings the annual distribution to 8.6 sen implying a gross yield of 12.8% on the current unit price of RM0.67. As at 31-Dec-07, Atirum’s net debt position was RM27 million against total property value of RM155 million meaning that it is reasonably geared.

The key risk with all REITs is that the managers will at some stage get over-enthusiastic with growing fund size (higher management fees for them) and end up over-gearing the fund and buying lower quality properties like what we have witnessed in many of Australia’s property trusts recently. Centro Properties has gone belly up due to aggressive acquisitions and gearing while large trusts such as GPT has seen their unit prices go from around A$5.00 to A$1.00 recently.

With Atrium, additional factors to consider include the relatively low level of tenant diversification which you will otherwise find in larger REITs. Also its small market cap means that many institutions will shy away due to low liquidity and trading volume. Having said this, you should not have to worry so much if you are a small investor – you still get better diversification compared to buying a single house or condo to rent out, and you don’t have to worry about collecting rent

2008 Q3 Results Announcement on 21-Oct-08
Atrium REIT Net Profit came in at RM2.68 million for the quarter, translating into EPS of 2.2 sen. Here are key extracts of its report:

Atrium REIT, after considering the strength of its existing industrial real estate portfolio which is 100% leased to multi-national corporations and its growth strategy to actively pursue quality acquisitions, is confident in achieving the expected performance for financial year ending 31 December 2008 as disclosed in the prospectus dated 28 February 2007.

The Board of Atrium Reit Managers Sdn Bhd has declared an interim income distribution of 2.10 sen of the profit after taxation (realised) for the quarter ended 30 September 2008, to be paid on 28 November 2008 to the unitholders registered in the Record of Depositors on 7 November 2008.

Withholding tax will be deducted for distribution made to the following types of unitholders :

- Resident individual (withholding tax at 15%)
- Non Resident individual (withholding tax at 15%)
- Resident institutional investors (withholding tax at 15%)
- Non-resident institutional investors (withholding tax at 20%)
- Resident companies (No withholding tax. Subject to corporate tax at prevailing rate of 26%)
- Non-resident companies (withholding tax at 26% for Year of Assessment 2008)

Other Items to note
1. Net Debt was relatively unchanged at RM26 million as at 30-Sep-08.
2. A new CEO, Mr Lim Pang Kiam (age 44) was appointed on 2-Sep-08 (work experience in senior management position in several financial Institutions, and previously sat on the Board of Pantai Holdings Bhd and SYF Resources Bhd).

Disclosure: The blog author/owner does not own any securities in ATRIUM Reit at the time of writing.