Settlement Risk Still Live For Mirvac

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Mirvac has signalled a strong performance across its business segments but brokers disagree as to the extent of income risk from apartment settlement defaults.

-Strong exposure to NSW, the state with the best fundamentals across asset classes
-Rising trend in defaults and longer settlement periods from foreign buyers
-Slowing pre-sales momentum observed in projects such as Yarra's Edge Tower 10
 

By Eva Brocklehurst

Mirvac ((MGR)) has maintained FY17 guidance and signalled its business is performing solidly with little income risk. The company has re-affirmed FY17 earnings of 14.0-14.4c and distributions of 10.2-10.4c per security. A target of over 15% return on invested capital is maintained.

Mirvac settled 667 residential lots in the September quarter, around 20% of its FY17 target and 17% above the prior corresponding quarter. Apartment pre-sales reached another record high, at $3.0bn, which is attributed to strong sales at its St Leonards apartment project in Sydney. Valuations at Melbourne's Docklands are coming in around 3–5% below sale price while valuations have been largely in line at Newstead in Brisbane. Both these projects are due for settlement in FY17 and will remain a key focus for brokers.

UBS considers the stock is cheap, upgrading to Buy on valuation and designating Mirvac as a preferred A-REIT (Australian Real Estate Investment Trust) exposure. The business is set for multi-year growth in the broker's opinion, as it has the greatest exposure to NSW, the state with the best fundamentals across asset classes, namely retail, office, residential and industrial.

Moreover, the company has high exposure to the Sydney office market where vacancies are trending below 5%, and a blue-chip apartment pipeline where profitability is now emerging. The company does have the highest cost base in the sector, the broker acknowledges, lacking scale in its retail portfolio and this is expected to be difficult to overcome quickly without a large acquisition.

Apartment settlements are forecast to peak in FY20 while the recycling program of non-core retail and office assets is coming to an end. UBS believes the impact of apartment cancellations is small, even when assuming unprecedented settlement risks exists in problem markets like Brisbane and Melbourne.

Ord Minnett maintains doubts about settlements in the wake of tougher rules on lending and foreign ownership and prefers a Hold rating. The company did flag the fact that default rates sit slightly above historical averages of 1% but also highlighted that all defaulted lots marketed for sale have been re-sold. Mirvac acknowledged it continues to experience settlement delays from foreign buyers.

To Ord Minnett, the company's comments neither confirm nor deny a major settlement problem but rather suggest it is too early to be confident the issue has passed. Foreign purchases are envisaged taking longer to settle, as obtaining finance remains a major problem, while domestic purchases become an issue for settlement if bank valuations come in below purchase prices.

Morgan Stanley also queries whether the settlement risk has passed. While the re-selling of the apartments could provide some investors with the confidence they need, others may focus on the rising trend in defaults and longer settlement periods from foreign buyers. Furthermore, slowing pre-sales momentum in some projects are a concern, such as Yarra's Edge Tower 10, which recorded zero sales in the first quarter, although downside risk to guidance appears limited at this point, the broker asserts.

The rest of the Mirvac’s business is envisaged performing solidly with minimal income risk. Occupancy in the office portfolio has edged down to 95.2% in September and Macquarie suspects there is room to capture upside from improving office markets without being too exposed. In retail, occupancy has increased slightly in the quarter to 99.7% while occupancy in the industrial portfolio remains high at 99.7%.

Macquarie expects earnings in FY17 will be underpinned by the settlement of some high- margin projects such as Tullamore, Harold Park precinct 4A, Bondi and Green Square and believes the stock continues to offer exposure to a resilient residential market and an improving Sydney office market. With earnings growth of 10% marked out for the next two years, Macquarie retains an Outperform rating.

FNArena's database has three Buy and three Hold for Mirvac. The consensus target is $2.26, suggesting 8.2% upside to the last share price. Targets range from $2.20 (Morgan Stanley) to $2.30 (Credit Suisse). The distribution yield on FY17 and FY18 forecasts is 5.1% and 5.2% respectively.
 

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