CLT – OCBC

Maiden acquisitions; first step to diversify from sponsor

Maiden acquisitions. Cache Logistics Trust (CLT) recently announced its maiden acquisitions of two Singapore properties for S$39.8m [6 Changi North Way (S$30.9m) and 4 Penjuru Lane (S$8.9m)]. The combined NPI yield is 8%, compared to the existing portfolio yield of 7.7% as at 31 Dec 2010. With the new additions, CLT’s total assets under management will increase to S$783.9m. Nonetheless, CLT remains the smallest among the eight Industrial S-REITs, pacing behind AAREIT and Sabana REIT, whose investment properties exceed S$800m. The acquisitions will be fully funded by debt, increasing CLT’s aggregate leverage from 23.7% (as at 31 Dec 2010) to 27.6%. The transactions are expected to complete within 1H11.

Diversification from sponsor. We applaud CLT’s efforts to diversify away from its sponsor with these third-party acquisitions. In our previous report, we noted that all CLT’s properties are on long-term master-leases (at least 5-years) to its sponsor (CWT) and CWT’s parent (C&P), which manifests as a counterparty risk. The multi-tenanted base of 6 Changi North Way and the sale and leaseback arrangement (S&L) with Kim Heng for 4 Penjuru Lane certainly help to spread out the lessees. We also like the shorter lease expiry period (~3 years) for both properties, which will better position CLT in a rising rental market. Nonetheless, the two properties constitute only about 5.3% of total portfolio value and 3.7% of gross rental income, according to our estimates. There is still much to be done, not only to diversify CLT’s tenant base, but also to reduce its concentration risk on a single asset (CWT Hub which still account for 47% of FY11 gross revenue following the acquisition).

Inflation risk remains a concern. The lease agreement for 4 Penjuru Lane provides for built-in rental escalation of 2% per annum for the next three years, with an option to extend for a further three years. While this provides a 50bp step-up vis-àvis the existing lease structures, we reiterate that it still pales in comparison with Singapore’s FY10 annual inflation rate of 2.8% and MAS FY11 forecast of 4%. If inflation continues above 2% without moderation, CLT’s rental income looks set to be eroded by inflation in real terms for at least the next three years.

Maintain BUY. With a gearing of 27.6%, CLT has debt headroom of S$89m for additional acquisitions before reaching the stipulated 35% limit (without a credit rating). Concentration (CWT Hub), counterparty and inflation risks remain our top concerns for the trust and we expect management to consciously address these as the REIT grows in asset size. Maintain BUY with an increased fair value estimate of S$1.04.