Yield and Growth from a Top Andean Mall Operator; Initiate at OW

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1 November 25, 2015 Parque Arauco Yield and Growth from a Top Andean Mall Operator; Initiate at OW Industry View NA Stock Rating Overweight Price Target Ch$1, Initiating coverage of Parque Arauco, a leading mall operator in Chile that is expanding into Colombia and Peru, at OW with a C$1,500 PT. Our analysis suggests almost a free option on a multiyear external growth story that is being ignored. Parque Arauco has best-in-class mall operations in Chile and important growth expansions in Peru and Colombia. The company has two of the oldest and best malls in Chile and operates some of the most productive malls in the region. Portfolio occupancy costs are at ~11.5% in Chile, among the highest in the region and in line with the best US malls. Productivity is among the highest in the region, especially in Chile, the tenant base is diversified, and Parque Arauco ranks well on governance. Chile is the region's most mature mall market, and Parque Arauco has the ability to use best practices learned at home in expansion markets MORGAN STANLEY MÉXICO, CASA DE BOLSA, S.A. DE C.V.+ Nikolaj Lippmann MORGAN STANLEY C.T.V.M. S.A.+ Jorel Guilloty MORGAN STANLEY & CO. INTERNATIONAL PLC+ Lillian Starke Parque Arauco SA ( PAR.SN, NA ) NA / Chile Stock Rating Industry View Price target Shr price, close (Nov 24, 2015) Mkt cap, curr (mm) 52-Week Range Overweight NA Ch$1, Ch$1, Ch$914,565 Ch$1, , Fiscal Year Ending 12/14 12/15e 12/16e 12/17e EBITDA (Ch$ mm)** 85,554 99, , ,952 Div yld (%) ModelWare EPS (Ch$) Unless otherwise noted, all metrics are based on Morgan Stanley ModelWare framework ** = Based on consensus methodology e = Morgan Stanley Research estimates Growth through expansion and higher margins... We forecast GLA growing 22% in , with margins set to expand by ~200bps as SG&A gets diluted into more operations and malls mature. We expect additional margin expansion beyond 2017 driven by consolidation. We forecast ~50% NOI and EBITDA growth in , positive cash flow, and a dividend yield of ~3%. We expect negative FCFE in due to the growth, but positive FCFE equivalent to 6% yield in at a reasonable price. We see a 4:1 bull:bear skew and 2:1 base:bear skew. Parque Arauco is trading at an 11% implied cap rate (adjusted for development and landbank); this is in line with mall operators in Brazil, a market with much higher risk than Chile, and a 300bp discount to Fibras, to which the company is akin. At our price target, the stock would trade at ~14x 2016e EBITDA, a small premium to the industry that we think is warranted by higher growth. Parque Arauco carries a heavy load of SG&A that we expect will be diluted as new malls open up. Parque Arauco is not a REIT but a C-Corp that pays an effective tax rate of ~25% and thus should not trade in line with mall Fibras in Mexico. At our PT, Parque Arauco shares would trade at a conservative 8.5% cap rate, north of mall REITs in Mexico and the US at 7% and 5%, respectively. This implies an expected return of 35%. Where could we be wrong? The expansion outside of the core market carries risks. Colombia is a market with little tradition in the rental mall model. We could be underestimating the difficulty in transitioning from owning to renting. We could also be too bullish on the Colombian consumer. Morgan Stanley does and seeks to do business with companies covered in Morgan Stanley Research. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of Morgan Stanley Research. Investors should consider Morgan Stanley Research as only a single factor in making their investment decision. For analyst certification and other important disclosures, refer to the Disclosure Section, located at the end of this report. += Analysts employed by non -U.S. affiliates are not registered w ith FINRA, may n ot be associated person s of th e member an d may n ot be su bject to NASD/NYSE restrictions on communications w ith a subject company, public appearances and trading securities held by a research analyst account. 1

2 Risk Reward - Parque Arauco Exposure to Top Andean Assets with Growth for Free Source: Thomson Reuters, Morgan Stanley Research Price Target CLP$1500 Bull CLP$1900 8% Terminal Value Cap Rate Base CLP$ % Terminal Value Cap Rate Based on a DCF model and an NAV analysis. We use a 9.4% WACC in nominal CLP$ derived from a 6.0% pretax cost of debt and a 11% cost of equity. For the Ke we assume a beta of 1.0, a risk-free rate of 5% and a risk premium of 6%. For the NAV analysis, we assume a blended 8.5% cap rate for the portfolio and a 11% ROIC for developments using a 9% exit cap rate. Faster than expected lease-up, NOI margins reach Brazilian mall levels. Development assets stabilize in 3 years, hitting 95% occupancy. The NOI margin gap closes to ~90% in-line with Brazilian mall peers, driven by improvements in tenant makeup in Peru and sales improvements in existing Colombian assets. Steady growth for current assets, developments drive growth in Peru and Colombia. Total GLA grows +40% from 2014 through 2017, with most of the growth coming from Peru and Colombia. Rents grow at a 1% spread to inflation. EBITDA margins steadily improve as assets are delivered and stabilized, settling at 71% by 2020, as occupancies etch towards +95% by then. Investment Thesis Parque Arauco is a diversified retail real estate owner/operator focused on the Andean region Current revenues come mostly from their home country, Chile, yet they have operations in Peru and Colombia. The company currently has an ambitions US$590 mm development program through which they seek to further their footprint in Peru and Colombia and diversify more into smaller concepts such as neighborhood centers and stripcenters/outlets. The company also has a US$183 mm landbank, mostly focused on Peru and Chile. We believe the growth is warranted, given low penetrations levels in Peru and the transition from a tenant-owned to investor-owned rental model in Colombia Assuming a 8.5% weighted average cap rate for the stabilized properties, we believe that current valuations assign zero value to developments and the landbank. Key Value Drivers Improvements in operating margins, particularly in Colombia and Peru Accelerating consumption in Peru and Chile Improvements in tenant makeup for malls Transition in Colombia to a professionally run, rental model Potential Catalysts Acquisition of partner stakes Inclusion in MSCI Chile Index Bear CLP$900 10% Terminal Value Cap Rate Margin expansion never materializes as development lease up is delayed and growth slows down in the Andean region. NOI margins remain depressed. SG&A/revenues does not improve driven in part by delays. Developments go 10% over budget, with 9% ROIC rather than 11%. Risks to Achieving Price Target Inability to improve operation in Colombia and Peru Delays in construction or increases in construction costs Oversupply in Peru and Colombia, resulting from developments, leads to weak rents Exchange rate volatility 2

3 Yield from Top Andean Assets, with Growth for Free Yield from top Andean assets, with growth for free. We initiate coverage of Arauco at OW, with a CPL 1,500 PT, implying +35% upside. Parque Arauco's retail portfolio is diversified across Andean countries (Chile, Peru, and Colombia) and concepts (malls, strip centers, outlets), with some of the top malls in the region. The company has plans to diversify even further through a US$590 mm development plan. Our bullish view on Parque Arauco stands on 3 pillars: development, internal growth, and current yield. 1) Development : Arauco has US$590 mm in capex set to increase its footprint by 40%/50% from 2014 on a total/owned GLA basis. We believe the growth makes sense, given Peru's low level of penetration and Colombia's shift from a tenant owned to an investorowned model. Of key importance, our conservative NAV analysis, which assumes, a 11% ROIC and a 9% exit cap rate, shows that the market completely discounts growth. In other words, investors are getting the growth for free. We analyze the drivers behind the development pipeline in the Investor Debate. Exhibit 1: Current price points to a free development pipeline Exhibit 2: Margins are to improve, driven by consolidation in Peru and Colombia estimates estimates 2) Internal Growth: The rest of Arauco's portfolio consists of newer assets, still to be consolidated. We believe the NOI and EBITDA margin expansion story is a potent earnings driver, particularly for Peru and Colombia. NOI margins in Peru and Colombia lag Chile, driven by lack of consolidation. G&A margins are high in Colombia, driven by high overhead and a low asset base, which is to be remedied through the delivery of Parque La Colina, which we expect to be +10% of Arauco's revenue when stabilized. We explore these margin expansion opportunities in Investor Question #1. 3) Current Yield: +50% of Parque Arauco's current NOI comes from three stabilized, older assets in Chile, which have ~90% NOI margins : Parque Arauco Kennedy, Arauco Maipu and Paseo Arauco Estacion. Fully owned by the company, these assets represent best in class performers, who we expect will continue to extract high rent as a percentage of sales from tenants. We further discuss Parque Arauco's ability to extract high rents from sales in Investor Question #2. Exhibit 3: +50% of current NOI comes from three assets, with ~90% NOI margins Source: Morgan Stanley Research, Company Documents 3

4 Development track record shows both success and lessons learned. Arauco's goal for developments is to have assets stabilize 3-5 years after opening, with NOI yields hitting 11-12%. On that basis the track record looks mixed, with Colombian assets in particular lagging. We believe though these lower yields/margins are part of growing pains as the company transitions from being an important mall operator in Chile with a small number of easy to understand assets to a regional player. Exhibit 4: Select Parque Arauco Recent Development NOI Yields Parque Arauco November 25, 2015 Opening CAPEX YR 3 NOI 3Q15 LTM Project Country Quarter (USD mn) (LOC mn) (LOC mm) Yield Margin Occ. Arauco Quilicura Chile 2Q ,433 3, % 84% 99% Arauco San Antonio Chile 2Q ,595 2, % 61% 94% Mega Plaza Chimbote Peru 2Q % 83% 99% Mega Express Villa El Salvador Peru 2Q % 76% 98% Parque Caracoli Colombia 2Q ,741 13, % 70% 88% Parque Arboleda Colombia 4Q ,116 14, % 78% 93% Average 11.5% 75.2% 95.3% We believe margin expansion happens for 3 reasons: 1) NOI margin improvement from maturity of assets: Malls take time to mature; the most productive malls are often older malls such as Kennedy and Maipu. We think that maturity will be a continuous driver of NOI expansion for years, as we have seen in other mall developers in the region in recent years. Exhibit 5: We expect owned GLA to increase+50% from , with NOI margins improving as assets become stabilized 2) Dilution of SG&A as new GLA becomes operational: The easy part is simply that you have a new revenue stream but in some cases development can be very labor intensive on several departments of a mall operator including finance, legal and commercial. In some cases you actually need less people after development. estimates 3) Economies of scale & the Parque Arauco Way: We think that Arauco has grown out of its puberty, so to speak. The company is expanding into new markets and segments and as such it will eventually see the benefits of standardization. We think management will increasingly be moving towards a scientific or standardized approach to mall management and that it will ultimately result in better economics. Where could we be wrong? We believe among the bigger risks for Parque Arauco is the inability to improve operational costs in Colombia and Peru and the risk of cost overruns in development projects. For Chile, we believe the biggest risk is macroeconomic. 4

5 Parque Arauco Valuation & Financial Summary We derive our CLP 1,500 PT primarily through a combination of DCF and NAV, anchoring our valuation with DDM and FCFE. We perform a DCF analysis and consider operating properties as well as those under development and those pending to be acquired. For this methodology we use a 9.4% WACC in nominal CLP, which assumes a 11.0% cost of equity (1.1 beta, 5.0% risk free rate, and 6.0% market risk premium) and 6.0% cost of debt. Based on our DCF we derive a terminal cap rate of 9.0%. Based on an NAV analysis we derive CLP 1,513/sh. For all valuation methodologies we assume fully diluted shares. DDM assumes a 90% payout ratio in the terminal years. The dividend is similar to the FFO in those years. At our price target, Parque Arauco shares would trade at trade at a 8.5% cap rate, higher than Mexican peers due to the taxable structure. Mexican Fibras are exempt from income tax while PA has an effective tax rate of 25%. At 8.5% Parque Arauco would trade BP tighter than Brazil, which we regard as fair due to the lower country risk, FX risk and cyclical risk in PA. On a P/FFO basis,we think Parque Arauco appear particular attractive at ~16.5x 2016e and 12.8X ffo FOR Despite the superior growth and a dividend yield similar to the US (in different FX), the stock trades at a discount the US peers at 20.4x and in-line with Brazilian peers at 16.5 P/FFO 2016e. While only limited data are available with regard to consensus for FFO, and NOI, our estimates are slightly (mid single digits) ahead of consensus on the revenue and EBITDA level for both 2015 and In terms of free cash flow and funding we see the company as having negative FCFF for and to equity it will remain marginally negative until Beyond 2017 we see a strong cash flow generation. We see a FFO yield of 7.8 % for 2017 and a FCFE % yield of 6% already in 2018, as investments come down after the international expansion. Balancing growth and valuation. Current multiples do not capture the growth in the Parque Arauco story. On a current FFO multiple basis, the stock is in-line to Brazilian peers (16.5x). However, looking outwards, we see that the multiple compresses to 12.8x by 2016, at the low end of the spectrum, driven by external growth and margin improvement. The indexed EBITDA charts below show this growth more succintly; only Danhos and GICSA have more growth, yet at the same time trade at a higher multiple, even in Exhibit 6: 2017 P/FFO Multiples estimates Exhibit 7: EBITDA Growth - Arauco & Brazil Exhibit 8: EBITDA Growth - Arauco & Mexico estimates estimates 5

6 NAV Analysis Explained Exhibit 9: NAV Valuation Summary Explaining our NAV analysis. Our NAV analysis is based on ownership, based on owned GLA, in order to determine the proportional NOI, assets and liabilities (which excludes minorities). Our NOI weighted cap rates ends up at 8.5% for the stabilized assets. We net out the cash used for recent acquisitions. For external growth, we take into account the added value from developments in our analysis as we as the value of the landbank. Our analysis leaves is with a CLP$1511 NAV, implying a current ~27% discount for the shares relative to NAV. Parque Arauco November 25, 2015 Parque Arauco trades at a material discount to NAV, on an absolute and relative basis. Our NAV analysis shows that Parque Arauco's stock is trading at levels that imply a free development pipeline and landbank. Comparing to peers in LatAm and the US, the discount is even more striking at ~27%. Interestingly, the next two stocks with major discounts to NAV are development stories : Mexican developer GICSA (which will more than double in owned GLA over the next 4 years) and US REIT Taubman Centers (which has major developments in China/Korea). We believe the discounts are unwarranted for Parque Arauco, given that, as we explain in the Investor Debate, Parque Arauco which can capitalize on cyclical/secular shifts in Peru and Colombia given their experience operating in these countries already and their ability to bring best practices learned in Chile to these markets. Source: estimates Exhibit 10: Current prices imply a free development pipeline Exhibit 11: Parque Arauco trades at a material discount to NAV, when compared to peers Source: Company Data, Thomson Reuters, Morgan Stanley Research estimates Source: Company Data, Thomson Reuters, Morgan Stanley Research 6

7 Valuation Summaries and Comparison to Consensus Parque Arauco November 25, 2015 Exhibit 12: Parque Arauco: DCF Valuation Summary estimates Exhibit 13: Parque Arauco: FCFE Valuation Summary estimates Exhibit 14: Parque Arauco: DDM Valuation Summary estimates Exhibit 15: MS vs. Consensus 7

8 Parque Arauco Real Estate Comparables Exhibit 16: Real Estate Comparables Note: EV nets out capitalized value of JV. EV/sqm for IRSA is calculated using IRCP Enterprise Value. Source: Company Data, Thomson O ne, Morgan Stanley Research estimates. Please note that all important disclosures including personal holdings disclosures and Morgan Stanley disclosures appear on the Morgan Stanley public w ebsite at w w w.morganstanley.com/researchdisclosures. 8

9 LatAm Economic & Real Estate Cycle: Parque Arauco Markets Are in the "Sweet Spot" Exhibit 17: We expect flattish rents across the Andean region in USD terms Source: Morgan Stanley Research Exhibit 18: Chile, Peru GDP growth is to speed up Exhibit 19: Consumption is healthier in Peru and Chile vs peers GDP COL Consumer Peaking Falling Peaking BRA Falling MEX Rising CHI PER Bottoming ARG BRA MEX Rising CHI ARG Bottoming COL PER Exhibit 20: Rates are rising in Andean markets Exhibit 21: Andean Rents will grow at inflation ARG Interest rates BRA Peaking Falling Rents BRA Peaking Falling COL PER Rising Bottoming Rising COL PER Bottoming 1 ARG CHI MEX MEX CHI 9

10 Investment Debates Summary 10

11 Investor Debate: Does Parque Arauco's Expansion Add Value? Market view: Development in Colombia and Peru is growing at a torrid pace while Chile is an oversaturated market. Parque Arauco's strategy might seem like growth at all costs and the company should consider pulling back and focusing on consolidating their existing asset base. Our view: Parque Arauco's strategy adds value for distinct reasons. Strategically, we think the Andean expansion makes sense due to the move to an investor-owned rental model from tenant-owned in Colombia and low levels of retail penetration in Peru. The strategy in Chile is focused more on consolidation, with modest growth near-term focused on strip centers and neighborhood malls. We estimate pipeline development yield of 11%, likely to be hit on year three after delivery. Growth is warranted. For some, mall GLA growth in the Andean region might be too much, particularly when one considers the overbuilding hangover currently being felt in Brazil as a case study. We would argue that the growth is warranted for a number of structural reasons, particularly as it pertains to Arauco's development pipeline: the transition to a investorowned rental model in Colombia and low-levels of retail penetration in Peru. Arauco's strategy in Chile is more focused on consolidation, which we consider appropriate considering where Chile is in market cycle. From a cyclical perspective, GDP growth is expected to remain higher in the Andean region vs the larger countries in the region. Of course not all developers can be winners, yet we believe that Arauco's experience will prove relevant in such high-growth environments. Exhibit 22: Colombia and Peru are experiencing some of the largest shopping center growth in LatAm... Source: Colliers, Morgan Stanley Research Exhibit 23:...at the same time though, both Peru and Colombia are under-retailed, particularly when one considers... Exhibit 24:...the amount of retail sales growth that has taken place there Annual consumption per capita (US$, 000s) 10 Chile 8 Argentina Brazil Mexico 6 Colombia Peru Shopping Center GLA (sqm) per 1000 inhabitants N ote: Figures as of Source: World Bank, Company Documents, Morgan Stanley Research Source: DANE, INEI, INE, IBGE, ANTAD, Morgan Stanley Research 11

12 A better outlook (and fundamentals) for the Andean region. Our retail team recently published a report pointing to a better outlook for the consumer in Peru and Chile (The Last Resort for LatAm Consumer?) relative to the rest of the region. Among the key metrics they looked at were low consumer credit penetration in Peru, the continuing material wage mass growth in the Andean region vs. peers and the expectation of GDP growth in the Andean region outpacing the big three LatAm markets. Parque Arauco November 25, 2015 Exhibit 25: We expect Andean growth to outpace... Exhibit 26:...growth in the region's big three economies Source: Morgan Stanley Research Source: Morgan Stanley Research We are optimistic on Parque Arauco's pipeline economics. Parque Arauco projects target 11-12% ROIC upon stabilization, which occurs 3-5 years after the asset has opened. Projects usually are delivered at 70% occupancy; after three years occupancy is expected to have reached 90%. At that point variable rent, which ultimately accounts for 15% of total rent on average, kicks in. Looking at six Parque Arauco developments across the region, we found that the company has mostly delivered with a bit of a lag on their Colombian assets. The performance for these however is expected to be slower, given their locations (non-core cities) and the current low productivity of these markets (monthly sales per sqm in Colombia were US$195 in 2014, vs. US$326 in Chile and US$255 in Peru). We note that for Peru and Chile, Arauco has been more successful and that the current major project in Colombia (La Colina) is Exhibit 27: We believe Parque Arauco developments, such as La Colina in Colombia to reach ROIC targets after the third year of operation Source: Morgan Stanley Research, Company Documents focused on Bogota, a major market which we would expect to have much higher sales per sqm than current assets. Exhibit 28: Select Parque Arauco Recent Development NOI Yields Opening CAPEX YR 3 NOI 3Q15 LTM Project Country Quarter (USD mn) (LOC mn) (LOC mm) Yield Margin Occ. Arauco Quilicura Chile 2Q ,433 3, % 84% 99% Arauco San Antonio Chile 2Q ,595 2, % 61% 94% Mega Plaza Chimbote Peru 2Q % 83% 99% Mega Express Villa El Salvador Peru 2Q % 76% 98% Parque Caracoli Colombia 2Q ,741 13, % 70% 88% Parque Arboleda Colombia 4Q ,116 14, % 78% 93% Average 11.5% 75.2% 95.3% 12

13 Analyzing External Growth Drivers by Country Parque Arauco November 25, 2015 Chile Still a Chilean company. We expect +50% of Parque Arauco's revenue (by owned GLA) to still be derived from Chile after pipeline delivery. Growth in Chile is limited to 6% of owned GLA, focused on outlets/strip centers outside of Santiago (60% of the 20k to be developed). We believe this is the right approach considering that Chile is in the closing segment of AT Kearney's "Window of Opportunity." This means that a) GLA per capita is high and thus any subsequent development would probably not have as much bang for the buck and b) consumers are more sophisticated, demanding more services and higher quality retailers. We believe that PA has a distinct advantage given that the Chile portfolio is at least 17 years old (GLA weighted), meaning well consolidated, and has been able to attract key international tenants in Parque Arauco Kennedy (~50% of Chilean rental revenues). Case in point, 74% of Kennedy's GLA leased in the past 5 years has been to international brands. Exhibit 29: +50% of revenues will still come from Chile Exhibit 30: Growth is focused on assets ex- Santiago Arauco Antofagasta Arauco Premium Outlet Coquimbo Arauco San Antonio Arauco Premium Outlet Curauma Projects Arauco Express: Recoleta and Ciudad Empresarial Santiago Parque Arauco Kennedy Arauco Maipu Arauco Estacion Arauco Quilicura Arauco Premium Outlet Buenaventura Arauco Express (Stripcenters Chile) Parque Arauco Kennedy Luxury District Arauco Chillan Arauco Premium Outlet Concepcion estimates Current Asset Development Projects Expansions Exhibit 31: Chile is a mature market where consolidation, not necessarily GLA growth, is of importance Sou rce: AT Kearn ey 13

14 Peru Peru: under-retailed from a cyclical and structural perspective. Peru's mall footprint has seen meaningful GLA growth since 2012, with GLA expected to be 47% higher by YE15. Interestingly, however, vacancy rates have declined during this period, showing demand for the product. Peru is the most under-retailed market among the ones under coverage, with 69 sqm per every 1,000 inhabitants. At the same time, we believe it's one of the markets with the most potential given current levels of leverage (among the lowest in LatAm), informality (the highest in LatAm) and expected economic growth. Arauco's concepts are mostly focused on neighborhood/strip center concepts vs. the more regional mall approach in Chile. We believe however that this is appropriate given current levels of economic development (consumption per capita is growing quicker vs. peers yet still is lower). Exhibit 32: The Peru portfolio is mostly focused on smaller concepts including outlets and neighborhood malls Lima MegaPlaza Norte MegaPlaza Express Villa Chorrillos Larcomar MegaPlaza Express Villa El Salvador InOutlet Faucett Viamix Chorrillos Viamix Colonial Outlet Lurin Viamix Las Malvinas Current Asset Development Projects Expansions MegaPlaza Express Jaen MegaPlaza Lambayeque Cajamarca MegaPlaza Chimbote MegaPlaza Barranca Other projects SCP MegaPlaza Cañete MegaPlaza Chincha MegaPlaza Pisco ICA Parque Lambramani Parque Arauco November 25, 2015 Exhibit 33: Despite marked growth in recent years, Peruvian shopping center vacancy rates have declined Exhibit 34: Peru has the largest informal sector in LatAm, providing upside Source: ACCEP Note: As of 2007 Source: World Bank, Morgan Stanley Research 14

15 Colombia Parque Arauco November 25, 2015 Colombia: focused on structural change. 83% of shopping centers GLA in Colombia is tenant-owned, unlike the rental model prevalent in the rest of Latin America. We believe there is a structural shift occurring in Colombia, as investor-owned, professionally run assets come into the forefront. We believe the professionally run models can lead to a more optimal tenant mix, a coherent marketing plan and more professionally run services. We note per the Shopping Center Association of Colombia there are 4.3 mm sqm of shopping center GLA, split in almost equal parts between large (+40k sqm of GLA), medium (20k to 40k sqm) and small (sub 20k). We note that the amount of small shopping centers in Colombia has nearly quadrupled since 1999, while the amount of large shopping centers has merely grown 150%. Of particular note, we note that Parque Arauco's new development is mostly focused on the 64k Parque La Colina mall in Bogota. Exhibit 35: Most of the growth in Colombian shopping centers has been in small and medium sized malls Exhibit 36: Arauco's current developments are focused on Bogota, with the largest being the +64k regional mall Parque La Colina Premium Outlet Bogota Parque Caracoli Parque La Colina Source: Acecolombia Parque Arboleda Current Asset Development Projects Expansions 15

16 Investor Question #1: Why Is There a Wide Dispersion in Margins? Our view: Parque Arauco's 80% portfolio NOI margins hide a wide dispersion at the country level, as Chile margins are at 90% yet Peru and Colombia are at 70%. We believe the wide dispersion is due to less small shop exposure in Peru and lower productivity levels in Colombia. We think the solution includes stake buyouts in Peru as well as re-tenanting the portfolio with small shops when possible. Colombia productivity will likely rise once the Bogota assets open, thus aiding NOI and EBITDA margins. Parque Arauco's NOI margins hide a wide dispersion within the portfolio. Parque Arauco's portfolio NOI margin (80%) places it in the middle of the pack when compared to LatAm peers, that is, in-line with Mexico yet lower than Argentina and Brazil. Digging through, however, we note that this is driven by Chile (+90% NOI margin) as Peru and Colombia NOI margins are ~70%. Exhibit 37: Parque Arauco NOI margins are generally below Argentina and Brazil... Exhibit 38:...yet closer in-line with Mexico Chile NOI Margins Explained Higher NOI margins in Chile the result of a consolidated portfolio. Driving the higher NOI margins in Chile are the two oldest and biggest assets in the Chile portfolio - Parque Arauco Kennedy and Arauco Maipu - which both have +90% NOI margins and together account for nearly ⅔ of country NOI. Both assets are well-consolidated and dominate their surrounding trade area. Sales per sqm for Kennedy is the highest for the whole portfolio (US$481/ sqm/month in 2014), while Maipu registers US$338/ sqm. We note that the Chile portfolio is 92% owned by the company. Exhibit 39: Parque Arauco's NOI margins have a wide dispersion, with Chile materially above Peru and Colombia 16

17 Exhibit 40: Parque Arauco`s NOI margins for Chile are high, particularly for the older malls Parque Arauco November 25, 2015 Peru NOI Margins Explained Exhibit 41: Peru has less rental revenues coming from small tenants relative to Chile and Colombia Low margins in Peru are tied to lower exposure to small shops and ownership fragmentation. Peruvian margins (~70%), hide an even wider dispersion, with margins ranging from 57% to 83%. Curiously, the JV assets have better average margins (75%) vs. the fully owned ones (+64%). We believe that overall the lower exposure to higher-paying small shop tenants is the reason for the lower margins, as Parque Arauco likely has to bear more of the operating cost. We believe that the solution to this issue is optimizing the tenant profile of Peru, increasing exposure to smallshop tenants. We believe Arauco has a comparative advantage to peers given that it has been able to attract international tenants in Chile. We also believe that margins could be further aided in Peru through ownership consolidation as operating costs in Peru is higher than it should be given that they pay for both Parque Arauco and its JV partner's personnel. Exhibit 42: Peruvian NOI margins show a wide dispersion 17

18 Colombia NOI Margins Explained Parque Arauco November 25, 2015 Low Colombia margins are tied to lower mall productivity. Colombia's rent as a percentage of sales is the highest in the portfolio at 12%, 200 and 400 bps higher than Chile and Peru respectively. However, this ratio is high not necessarily because of Parque Arauco's better bargaining position, rather because of low productivity in the Colombian portfolio. Monthly sales per sqm in Colombia is 35% and 50% lower than Peru and Chile respectively on a USD basis. As it pertains to these assets, we don't believe that productivity will dramatically increase in the near term as they are both in second-tier cities in Colombia. As it pertains to the Colombian portfolio, we believe that productivity could increase dramatically in the medium term, thus helping margins, with the opening of the Bogota assets in : Arauco Premium Outlet ( 13k sqm ) and Parque La Colina (63.5k sqm). Both assets - which will expand Arauco's portfolio to the more dense, high income capital region - will more than double the size of the Colombia portfolio. Exhibit 43: Colombia rents as a percentage of sales are higher than Chile and Peru... Exhibit 44:...yet this is due more to low productivity Exhibit 45: The difference between Colombia NOI and EBITDA margins reflect a current high G&A load 18

19 Colombia's High G&A Load Explained Parque Arauco November 25, 2015 High Colombian G&A will be reduced with more GLA. Colombia currently has both the lowest EBITDA margins in the Parque Arauco portfolio at 40% and the widest gap between NOI and EBITDA margins (25%). G&A per sqm is equal to Chile though NOI per sqm is equal to Peru, despite the higher occupancy cost. We believe the high G&A load will be ameliorated with the aforementioned opening of the Bogota assets which should double the footprint, increase NOI productivity and halve the G&A load, assuming the same corporate base is used. Exhibit 46: Colombian EBITDA margins are the lowest in the portfolio... Exhibit 47:...while the gap between NOI and EBITDA is the largest Exhibit 48: Colombian G&A per sqm is on par with Chile... Exhibit 49:...yet NOI per sqm is on par with Peru, despite materially higher occupancy costs 19

20 Investor Question #2: Where Does Parque Arauco Stack Up on the Tenant/Landlord Bargaining Power Spectrum? Our view: At first glance Parque Arauco occupancy cost might seem at the lower end of the spectrum relative to the LatAm peer set. Occupancy cost for Parque Arauco is ~90% rent however, vs ⅔ for the rest of the peer-set, meaning the company extracts more rent as a percent of sales than peers. We believe that Parque Arauco's bargaining position in Chile is second only to IRSA in Argentina, followed by Peru. Colombia is next to last, right by Mexico. Chile second to Argentina in landlord bargaining power. We believe that Parque Arauco's bargaining strength is second to IRSA's in Argentina. Driving our rationale is Parque Arauco's tenant rent as a percent of sales (among the highest in the region, as discussed below), Arauco's ability to draw quality tenants (fully +30% of tenants by store count are international) who don't account for a significant part of Parque Arauco's rental revenues and Arauco's leverage as one of the top three players in the country (we believe IRSA/Argentina ranks higher in the Bargometer given their higher ownership concentration in Buenos Aires). We note that these three aspects are true for Arauco's presence in both Peru and Colombia but to lesser degrees, as Peru is still in rapid development mode and thus not as consolidated as Chile, and Colombia is still transitioning from a tenantownership model (83% of mall GLA in Colombia is owned by tenants) to a owner/operator rental model. Another key factor for Arauco's malls, and which also explains our positioning Peru and Chile in front of Brazil is the fact that landlords have the right to not renew tenant contracts at maturity, unlike Brazil where tenants are allowed to stay as long as they are compliant. Exhibit 50: Who has the upper hand in the tenant-landlord relationship? Source: Morgan Stanley Research Parque Arauco's occupancy cost is high where it matters: rent as a percent of sales. Occupancy cost is a key metric to look at when analyzing bargaining power, as it represents the leverage a landlord has in extracting payment (rent+ common area fees) from tenants. At first blush, Parque Arauco's might seem at the lower end of the spectrum compared to peers. Yet the occupancy cost for Arauco is not exactly apples to apples as it compares to peers. Whereas, as a rule of thumb rent usually accounts for ~2/3 of the occupancy cost for the peer-set, Arauco's portfolio occupancy cost is ~90% rent. Making the adjustment to just show rent, as shown in the exhibits below, we note that Arauco's rent as a percentage of sales is materially higher than peers, with an almost 200 bps spread for the portfolio relative to Multiplan. We note that occupancy costs for the Colombian assets are particularly high, yet this has more to do with the productivity and age of the assets, rather than systemically higher occupancy costs for the country. Management expects this 12% figure to eventually settle closer to 10-11%. 20

21 Exhibit 51: Parque Arauco's portfolio occupancy cost is misleadingly lower than peers as Arauco's occupancy cost is almost all rent and peers includes ⅓ condo fees Exhibit 52: Looking at rent as percent of sales, we see that Parque Arauco is materially higher than peers Parque Arauco November 25, 2015 Low tenant concentration with quality tenants in good assets can lead to high rents. Parque Arauco's Chile assets, at current exchange rates, has among the highest rent per sqm in USD, second to US malls themselves. We note that on average tenant concentration for Arauco malls is only higher next to the Brazilian mall peers, meaning that they have more fragmentation - and presumably more bargaining power - relative to Mexican mall peers. It is interesting to note that despite the fragmentation, there is a significant amount of international tenants in Arauco malls (~30%, by store count), higher relative to Argentine and Brazilian peers; such tenants can be a benefit to Arauco given their ability to induce foot traffic and thus higher rents from domestic satellite stores. Exhibit 53: Parque Arauco's Portfolio (by store count) has a higher number of international stores than IRSA and the Brazilian mall companies, more on par with Mexican retail Exhibit 54: Arauco's Chilean malls (+60% of current revenue) have the highest rent per sqm in USD terms in LatAm Exhibit 55: Parque Arauco's tenant concentration is higher than Brazilian peers yet lower than the Mexican and American comp set Note: Uses the latest exchange rates; IRSA exchange rate is ARS parallel. 21

22 Lower tenant concentration yet high ownership concentration leads to favorable bargaining dynamics. Parque Arauco's owns 16% and 12% of shopping center GLA in Peru and Chile, respectively. Their high ownership concentration in these countries, leads us to believe that their bargaining power is strong relative to tenants. We, however, think that IRSA has more bargaining power relative to Arauco in Chile and Peru given that they are the owner of premier malls in Argentina, with a 60% share of the key City of Buenos Aires market. Exhibit 56: Parque Arauco has among the highest ownership concentration in LatAm in both Peru and Chile, compared to peers Parque Arauco November 25,

23 A Look at the Parque Arauco Portfolio Exhibit 57: Parque Arauco Current Portfolio Exhibit 58: Parque Arauco Development Pipeline 23

24 Exhibit 59: Expansion plans will lessen dependence on Chile... Parque Arauco November 25, 2015 Owned GLA Colombia 8% Current: 668k sqm Colombia 16% 2017: 815k sqm Peru 36% Chile 56% Peru 36% Chile 48% Note: For current, includes purchases of stakes in Colombia for Parque Arboleda, Parque Caracoli and Centro Jesus Maria in Peru. For development pipeline, includes purchase of Parque La Colina in Colombia. Source:Company Documents, Morgan Stanley Research Exhibit 60:...and further diversify across concepts Owned GLA Neighborhood 10% Outlet/ Stripcenters 8% Current: 668k sqm Neighborhood 11% Outlet/ Stripcenters 12% 2017: 815k sqm Regional Malls 82% Regional Malls 77% Note : For current, includes purchases of stakes in Colombia for Parque Arboleda, Parque Caracoli and Centro Jesus Maria in Peru. For development pipeline, includes purchase of Parque La Colina in Colombia. Exhibit 61: Parque Arauco has a US$183 mm landbank (88% owned by the company)... Exhibit 62:...which by area is almost equally distributed between Chile and Peru Note: Does not include the amount spent on Valledupar 45% stake buyout since this was not broken out. Source: Company Documents, Morgan Stanley Research 24

25 Parque Arauco Financial Summary Exhibit 63: Parque Arauco Model Summary Tables Note: Adjusted Cap rate takes into account consolidated NOI and adjusts Enterprise Value for the NPV of the JV assets, Other Assets and Other Debt, w ith the latter in -line w ith the definitions for NAV. Source: Morgan Stanley Research estimates, Company Data 25

26 Appendix Exhibit 64: Parque Arauco's ~35% owned by insiders and the control group Exhibit 65: Parque Arauco is the third largest owner of GLA in Chile Note: As of Source: Company Documents, Morgan Stanley Research Exhibit 66: Parque Arauco is the second largest owner of shopping centers in Peru Exhibit 67: The Colombian shopping center market is very fragmented, with Arauco currently being one of the smallest players Note: As of Source: ACCEP, ICSC, Morgan Stanley Research Note: As of From Diario Financiero - Portafolio Retail (April 2014) Source: Morgan Stanley Research, Company Documents 26

27 Exhibit 68: Key Money is not a key element in the Andean region Parque Arauco November 25, 2015 Source: Morgan Stanley Research Exhibit 69: General Corporate Governance Scorecard among LatAm commercial property companies Source: Company Data, Morgan Stanley Research Exhibit 70: Fibras Corporate Governance among LatAm commercial property companies 8 7 8) reports EBITDA and provides transaction costs? 6 7) absence of "golden parachute" to remove manager? 5 6) fees to management since IPO less than 10% of NOI? 4 5) inside ownership > 20%? ) fee based on stock performance? 3) majority of members in technical committee independent? 0 TERRA13 MULT3 BRML3 PARAUCO FIBRAMQ12 IGTA3 BRPR3 IRS DANHOS13 GICSAB FUNO11 2) investors can buy >10% of shares without approval? 1) approval of < 66% of shareholders required to remove manager? Source: Company Data, Morgan Stanley Research 27

28 Disclosure Section The information and opinions in Morgan Stanley Research were prepared by Morgan Stanley & Co. LLC, and/or Morgan Stanley C.T.V.M. S.A., and/or Morgan Stanley Mexico, Casa de Bolsa, S.A. de C.V., and/or Morgan Stanley Canada Limited. As used in this disclosure section, "Morgan Stanley" includes Morgan Stanley & Co. LLC, Morgan Stanley C.T.V.M. S.A., Morgan Stanley Mexico, Casa de Bolsa, S.A. de C.V., Morgan Stanley Canada Limited and their affiliates as necessary. For important disclosures, stock price charts and equity rating histories regarding companies that are the subject of this report, please see the Morgan Stanley Research Disclosure Website at or contact your investment representative or Morgan Stanley Research at 1585 Broadway, (Attention: Research Management), New York, NY, USA. 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