Capital values

Let's say you bought some units in CapitaMall Trust (CMT) and are wondering whether the asset values will keep appreciating the way they have mostly done since the Reit was listed in 2002. If the Reit's assets appreciate in value, that would increase CMT's book value and thus its unit price. The question then is what factors would make CMT's portfolio of suburban malls worth more in the next 10 years.

There are several factors that need to be in place for the malls to appreciate in value. A key factor is whether the trend of suburban shopping will continue since this is what has driven strong demand from retailers for mall space. It was the high occupancies and rentals at suburban malls that drove up capital values in the past decade.

Is it likely that this trend would diminish in the years to come? No one can answer this with certainty, so the investor needs to form his own opinion.

On the supply side, the investor would need to form a view on the potential for new supply and the government policy regarding releasing land for malls in the suburbs.

This question can be answered with a good degree of conviction if an investor does his homework, ie, studying the potential land marked for commercial development in the suburbs, and history and pattern of commercial land released in the past. Were there cases of over-supply in the suburbs in the past? If so, what led to it? Was the catchment area not large enough? Can this happen in the future?

Another factor is replacement cost. Can a new mall be built in the future at a cheaper rate? Unlike the high-tech industry where new technology has historically led to lower costs for components and gadgets, real estate is a fairly staid industry where construction costs usually trend upwards, driven by the increasing cost of labour and materials. So the cost element is unlikely to lead to big surprises in the future.

This is not an exhaustive list and there might be several other factors depending on the specific Reit. However, the general principle is the same: Understand the factors that lead to capital appreciation and you will gain good insight into the valuation of a Reit.

It also makes sense for an investor to keep tabs on transacted values of properties not only in Singapore but globally at different stages of the economic cycle. When comparing valuations keep in mind that the specific nature of the transaction - whether a competitive bid or a forced sale, etc - will have a major impact on the transacted values.