Scentre Group, the owner and manager of Westfield malls in Australia, does much better than its fellow retail landlords in generating returns from the investment it makes in developing and maintaining its $53 billion portfolio.
A careful analysis of that spend has prompted Goldman Sachs analysts to upgrade their recommendation from neutral to a buy.
At the same time Scentre’s largest rival, Vicinity Centres, has been downgraded to neutral from a buy as concerns linger over its redevelopment and divestment strategy.
The contrasting analysis comes as both ASX-listed landlords prepare to deliver their most recent financial results amid increased concern over how much retail property values could be hit by headwinds in the sector.
The bottom line for analysts Ian Randall and Jeffrey Pehl was “a significant outperformance” by Scentre, led by Peter Allen, as it generated a marginal return on its capital expenditure of 6.4 per cent compared with a peer average of 3.5 per cent.
“Marginal return on invested capital ultimately drives sustainable earnings growth and value creation, while cash generation assumes even greater importance when the real estate cap rate cycle turns,” they wrote.
Cap rates are an industry metric akin to investment yields and a guide to value. Rising cap rates typically signify a fall in values.
The higher returns achieved by Scentre come courtesy of lower tenant incentives, the result, in turn, of the productivity and scale of the Westfield portfolio and its landlord’s ability to extract stronger leasing outcomes.
They can also be attributed to “superior underlying development economics”, according to the analysts, as Scentre’s developments are almost always driven by an “opportunity to monetise existing sales rather than a need to fix problematic assets”.
Scentre’s better returns are also testament to its in-house construction capability and procurement advantages.
The analysis of return on invested capital contrasts with other metrics such as net operating income growth and specialty leasing spreads used to compare retail landlords.
“While Scentre’s peers are deploying higher levels of unproductive capital (maintenance capex and tenant incentives) in order to maintain face rental levels (and thereby boost reported operating metrics), Scentre is leveraging its scale, portfolio quality and internal construction capabilities to drive superior return on invested capital outcomes,” the analysts wrote.
It was a different story for Vicinity, led by Grant Kelley, whose shares underperformed the real estate investment trust index by 12.6 per cent over the last year as the retail sector softens and uncertainty remains around the landlord’s $1 billion strategy of redeveloping parts of its portfolio into mixed use.
“It still has many hurdles to clear before it can transform itself into the ‘New Vicinity’,” the analysts wrote.