MACARTHURCOOK Industrial Reit is the smallest industrial S-Reit with 12 quality Singapore properties set for steady contractual rental growth. We expect a re-rating once the manager demonstrates its ability to execute on acquisitions, which should amplify distribution per unit (DPU) growth on a small asset base and low gearing.

We initiate coverage with an Overweight (V) rating and target price of $1.57, implying 30.7 per cent total return potential.

Expect amplified DPU growth via acquisitions on a small asset base and low gearing. With a visible pipeline of over $150 million, MI-Reit aims to grow its assets by up to $500 million per annum over the next three years, implying a CAGR (compounded annual growth rate) of 79 per cent to end-FY10. We believe this target is achievable, given the asset-light trend in a fragmented industrial real estate environment and the company’s ability to tap into the networks of its parent and strategic partner.

With an initial gearing of 8.7 per cent and the ability to gear up to 60 per cent of gross assets (on receiving a credit rating from Moody’s), we estimate MI-Reit could acquire some $400 million of assets purely by debt, which could add 46 per cent to its FY08f DPU.

The portfolio has a weighted lease term to expiry of 6.7 years and occupancy of 100 per cent as at April 2007, with built-in weighted average rental escalation of 3.4 per cent per annum for the first four years. We believe MI-Reit could benefit from potential industry consolidation, in the event that the S-Reit takeover code is formalised in the medium term.

Target price of $1.57 including acquisition premium: We see this as an undervalued S-Reit trading at a large discount to its peers. Our target price comprises a base case DDM value of $1.22 on its existing portfolio, on an 8.0 per cent cost of equity and an acquisition premium of $0.35 assuming $500 million of acquisitions over FY08-09 (March) at 7.0 per cent average yield.

With a total return potential of 30.7 per cent (including 5.9 per cent FY08f yield), we initiate coverage of MI-Reit stock with an Overweight (V) rating.

Risks: The manager’s inability to execute on growth strategies, default risks by tenants or subtenants, competition for assets and interest rate risks.

OVERWEIGHT