ART – Macquarie

Extending its geographical footprint

Event

• ART announced the proposed acquisition of a S$1.39bn portfolio of 28 Asian and European assets from sponsor The Ascott Limited (Ascott), doubling its portfolio from S$1.59bn to S$2.85bn. With this transaction, ART transforms to an International REIT from a Pan-Asian one previously, becoming the sixth largest SREIT by asset size. Maintain Neutral.

Impact

• Divests Ascott Beijing to unlock value, part fund acquisition. ART will divest Ascott Beijing at S$301.8m (66% above June valuation) to Ascott, with net proceeds of S$168.7m to part fund the acquisition. The estimated gain from the divestment is ~S$106.2m. The balance consideration less assumed debt, minority interests and intra-group debt set-off, will be funded by an equity fund raising of~S$560.5m and S$116.3m in debt.

• Equity fund-raising; CapitaLand to maintain a 47.7% proportionate stake. ART is to issue 487.5m units (78.7% of current asset base) comprising a nonrenounceable preferential offering and a placement, with ultimate parent CapitaLand undertaking to maintain its 47.7% proportionate stake. ART’s free float will increase by 73% to S$665.3m, improving liquidity. Gearing post transaction is not expected to be higher than the current 40.7%.

• Income stability increases. The 26 European assets are subject to master lease or guaranteed income management agreements, and will increase ART’s proportion of EBITDA under such arrangements to 47.2% from 3.9%. The weighted average lease term (WALE) to expiry of these arrangements is about 8 years, and will extend portfolio WALE to 2 years, from 7 months previously.

• Key risks are credit and currency. In acquiring the European assets under their master lease/guaranteed income arrangements, ART is essentially taking on the credit risk of ultimate parent CapitaLand, which we view as very low given its strong financial position. A weakening of the EUR and GBP may impact ART negatively, though management could hedge partially the income from Europe to mitigate this risk. In the past, ART has managed its forex exposure well and earnings have not been significantly impacted by forex movements.

Earnings and target price revision

• No change. Based on our estimates, FY11 DPU accretion is ~2%. Our DCF valuation is estimated to rise marginally to S$1.22 from S$1.20 after the equity fund raising.

Price catalyst

• 12-month price target: S$1.20 based on a DCF methodology.

• Catalyst: The potential acquisition of more Pan-Asian assets in its sponsor’s pipeline of ~S$1.2bn under development.

Action and recommendation

• The negative initial reaction to the proposed transaction as proxied by the 5% fall in ART’s share price suggests investors are concerned by the increase in exposure to Europe. Given that the DPU accretion from the deal is not significant on our estimates, we remain Neutral and prefer parent CapitaLand or retail REITs such as CapitaMall Trust.