Author: tfwee
MI-REIT – BT
MI-Reit sees organic growth driving returns
Fresh acquisitions limited in a weak capital market
A SERIES of acquisitions boosted fourth-quarter results for MacarthurCook Industrial Reit (MI-Reit), but weak capital market conditions will limit fresh opportunities in the short term.
MI-Reit purchased nine properties in FY2008, five of them in Q4 alone.
‘Since MI-Reit’s listing in April 2007 we have successfully executed our strategy to grow MI-Reit through yield-accretive acquisitions,’ said acting CEO of MacarthurCook Investment Managers Craig Dunstan.
Rental contributions from the acquisitions translated to distributable income of $5.8 million for Q4 ended March 31, 2008 – 19.9 per cent higher than the forecast $4.8 million.
Going forward though, MI-Reit expects economic growth in Asia to moderate, and says organic growth may soon become the bigger driver of returns.
On the trust’s outlook for FY2009, Mr Dunstan said: ‘We will focus on optimising yield from MI-Reit’s existing portfolio through active asset management.’
He added that ‘we expect to resume our active acquisition growth strategy once capital market conditions improve’.
Weak markets have hampered MI-Reit’s plans to issue equity.
In January it postponed a $200 million equity fund-raising exercise and said yesterday it is unlikely to revisit this plan until early next year.
As part of the strategy to extract greater value from its existing portfolio, MI-Reit has identified properties with built-up plot ratios below the maximum allowable plot ratio of up to 2.5 per cent under the Urban Redevelopment Authority’s Master Plan.
The trust said at a media briefing yesterday: ‘Returns from such additional space additions are likely to provide higher than normal property yields, as they are not subject to land costs.’
The manager of MI-Reit has also been searching for a CEO since the previous CEO, Chris Calvert, left in March.
According to Mr Dunstan, it has been challenging finding a high-quality candidate who knows how to run a Reit and knows about real estate in Asia.
Nevertheless, the temporary absence of a CEO has not evolved into a worrying issue, as MI-Reit has no plans to undertake strategic initiatives in a weak market.
HWT – CS
China Water Congress 2008 – key takeaways and implications for Singapore water companies
● We attended the second China Water Congress in Beijing last week (15-16 May). Below are key takeaways and comments from the conference. Overall, we reaffirmed our bullish view of the water demand outlook, driven by government-backed initiatives. We reiterate our OUTPERFORM ratings on HWT, AENV, and EPUR, and our NEUTRAL rating on HYF.
● Presentations by the Chinese ministries reiterated the governments focus on addressing water difficulties. Whilst there are clear opportunities, it appears to us that the existing framework is still at its infancy whilst reforms are underway.
● While the IRR is in the 8-12% range, key investment criteria in determining risk-reward also include location, size, type, etc. Owing to prior success, PPP is a preferred investment option as evident in the active participation amongst the Sing water plays.
● Whilst considerable improvement in desalination technology and on membrane has been made, China has bigger ambitions to be on par with world’s standards. Also, it targets raising its capacity to 0.8-1 mn tons/day by 2010 from today’s 0.2 mn tons/day.
We re-affirmed our bullish view on China’s water demand
We attended the second China Water Congress in Beijing last week (15-16 May). Below are key takeaways and our comments from the conference. Overall, we re-affirmed our bullish view of the water demand outlook, driven by government-backed initiatives. To re-cap, the Chinese government in the 11th Five-Year Plan (2006-10) has allocated a total of RMB1 tn to address water issues, such as supply, waste-water treatment, water reuse, sewage, and environmental protection. Among the Singapore water companies, most have significant exposure to the China water and waste-water market. We continue to believe companies with good track records in China and differentiated capabilities are well-positioned to capitalise on the strong growth potential. We reiterate our OUTPERFORM ratings on Hyflux Water Trust, Asia Environment, and Epure, and our NEUTRAL rating on Hyflux. We remain OVERWEIGHT the sector.
Water reform developments/updates
The first theme of the conference focused on the severity of water difficulties in China and water industry reforms there. The presentation made by the Ministry of Water Resources reaffirmed our positive view of the robust water outlook in China. Whilst there are clear opportunities for investment in China driven by scarcity, climate change, industrialisation, and reforms, the existing industry framework is still in its infancy, with best practices to be explored further and
leveraged across companies and countries. In addition to the mainstream areas/sectors, there were market-driven proposals on opportunities in smaller cities and in various technologies.
Investing in and financing water projects
The second theme was managing investing and financing risks, from the viewpoint of both water companies and financiers. While the internal rate of return with foreign participation is in the 8-12% range, key investment criteria in determining risk-reward also include asset location, portfolio size and type, and governmental involvement, among others. Owing to the success of public-private partnerships in Chinas energy and transport sectors using the greenfield (BOT)model, this model is generally accepted in the water sector as well. This is evident amongst the Singapore water companies, many of which have moved to participate in BOT (and brownfield – TOT) water and waste-water projects.
Forging ahead with desalination
The third theme was seawater desalination (SWD). With the governments support in developing desalination capacity and technologies, China has made considerable advances, especially in technology, since the late 1950s/early 1960s. Through the years, there seems to be an increasing emphasis on membrane-based SWD (~60% of installed capacity). Whilst playing catch-up, China aims to strengthen its technological competitiveness to be on par with world standards and to raise its installed capacity to 0.8-1 mn tons per day by 2010 from todays established capacity of about 0.2 mn tons per day. At present, there are approximately 19 desalination plants planned or under construction, including Hyfluxs 100,000 cu m/day desalination plant in Tianjin Dagang (valued at S$154 mn), which is scheduled for completion in 2009.
CMT – CS
Acquisition of Atrium@Orchard
● CMT announced the proposed acquisition of Atrium@Orchard for S$839.8 mn (total acquisition cost S$850 mn) or S$2,249/sq ft. The acquisition is expected to be completed by end Aug 08, and will be integrated with Plaza Singapura (PS) to provide ~170m of prime retail frontage and a combined c.600,000 sq ft NLA of retail space.
● The acquisition is to be funded by S$650 mn CB issuance and MTN proceeds, implying a cash cost of debt of ~1.6% (using 1% coupon rate) to justify the low asset yield of 2.1% for a marginal yield accretion of +1.0% to our 08E DPU at injection. The average cost of debt of 2.75% (using assumed YTM 2.5%), however, implies a potential dilution of 3.0%. Despite that, the acquisition is for strategic reasons, in our view, both geographically and also to lift the yields of the two properties in synergy.
● We believe the attractiveness of the acquisition will pivot on the AEI pending announcement on details. Upon completion, CMT’s gearing will be lifted to 45% and is likely to raise equity for the acquisition of ION orchard in FY09, although ION will draw a greater appeal, we believe. For now, we maintain our estimates. We believe the acquisition will strategically enable CMT to have key presence in downtown core along four adjoining MRT stations (incl. ION Orchard), with Dhoby Ghaut station serving 3 MRT lines by 2010.
Office REITs – UOBKH
Positive news from MBFC
There are several positive developments for the office market. Just last month, Commerz Real, subsidiary of Germany-based Commerzbank, bought 71 Robinson Road for a record S$743.8m or S$3,125psf. The latest positive news relates to the new downtown and Marina Bay Financial Centre (MBFC).
Office space at MBFC is well taken up. The strength of the office leasing market can be seen from healthy take-ups at MBFC. Phase 1 with 1.6m sf and Phase 2 with 1.3m sf of office space will be completed in 2010 and 2012 respectively. Both phases are more than 50% pre-committed by major financial institutions. Standard Chartered has signed a 12-year lease for 508,300sf at MBFC Tower 1 with an option to extend for another eight years. DBS Bank has signed a 12-year lease for 700,000sf occupying 22 floors at MBFC Tower 3 (Phase 2). Other notable financial institutions include Wellington Investment Management, American Express, Barclays and Pictet.
More leases likely to be signed soon. According to industry sources, Standard Chartered and DBS signed at S$8 to S$10psf pm. This is a discounted rental rate due to the huge space taken and the long duration of lease terms exceeding 10 years. Most other tenants signed at between S$12 to S$15psf pm for 3-year leases. Smaller plots were even signed at S$18psf pm. According to industry source, an additional 15% of space at MBFC is in advance stage of negotiation. We see this as an important development. If successfully closed, this will bring the level of commitment at MBFC above 70%, bringing a boost to confidence in the office market. We estimate MBFC accounts for 34% of office supply coming on stream over the next four years.
CapitaCommercial Trust (BUY/S$2.39/Target: S$2.63)
• CCT is well positioned to benefit from positive rental reversion with 29.4% of its leases for office space up for renewal in 2008 and 2009.
• We estimate that the lease for HSBC Building was renewed at an average rental of S$8.50psf pm in early May, much higher than existing passing rent of S$3.63psf pm.
• CCT is the largest office REIT and provides a diversified exposure to the Singapore office market. It provides FY09 distribution yield of 5.66%.
K-REIT Asia (BUY/S$1.45/Target: S$1.81)
• K-REIT achieved average gross rent increase of 14% qoq to S$6.86psf pm in 1Q08 due to positive rental reversion from existing properties and full-quarter contribution from ORQ. It is well positioned to ride the upswing in office rentals with 24.2% of net lettable area (NLA) due for expiry and another 15.5% of NLA due for rent review in 2008 and 2009.
• K-REIT provides attractive 2009 distribution yield of 6.05%. This assumes that the balance of the bridging loan from Kephinance Investment is refinanced at a steep interest rate of 4.2%.
Suntec REIT (BUY/S$1.64/Target: S$2.10)
• Suntec Office Towers achieved committed occupancy of 100% with recent new leases signed at between S$11.50 and S$13.50psf pm. It is well positioned to benefit from positive rental reversion with 9.5% and 44.1% of its leases for office space up for renewal in 2HFY08 and FY09.
• Suntec REIT provides FY09 distribution yield of 6.16%.
CMT – UOBKH
Putting on the acquisition hat
CapitaMall Trust (CMT) has entered into a sale and purchase agreement with the Singapore Government to acquire The Atrium@Orchard at S$839.8m or S$2,249psf. The Atrium comprises two Grade A office towers of seven and ten storeys with ground floor retail space. It is zoned as a commercial development. It is located above the Dhoby Ghaut MRT interchange station and adjacent to Plaza Singapura, which is part of CMT’s portfolio. Dhoby Ghaut MRT station is served by North South Line, North East Line and Circle Line (ready in 2010). The acquisition is expected to complete by end-Aug 08.
Value creation through asset enhancement initiative (AEI). The Atrium will be amalgamated with Plaza Singapura to create an integrated development with 170m of prime retail frontage along Orchard Road and NLA of over 900,000sf. About 100,000sf of prime retail NLA on Levels 1 and 2 of The Atrium will be created by decanting lower yielding spaces. Management plans to utilise some of the additional retail space for duplex flagship stores fronting Orchard Road. Renovation works will be carried out progressively from 2009 to 2010. State land between the two buildings will be covered by shelters to create an “open plaza” concept. The AEI will also benefit Plaza Singapura by improving traffic flows from the MRT station.
Upside from positive rental reversion. Average office rental for The Atrium is expected to double from existing S$5.87psf pm to S$10 to S$12psf pm by 2010 and 2011. This is not surprising given that an office lease at the premises was recently renewed at S$13psf pm. Management estimated that The Atrium will provide property yield of 4.5% assuming all leases are renewed at S$10psf pm.
Has secured financing for the acquisition. Total acquisition cost of S$850m will largely be funded by 5-year S$650m convertible bonds fully underwritten by Goldman Sachs. The convertible bonds carry coupon of 1% with yield-tomaturity at 2% to 3%. Conversion premium is 20% to 35%. The balance of S$395m will be funded by its Medium Notes programme, which was already issued over the past two months.
High gearing a concern. CMT has grown its asset size from S$6b to S$6.9b via this acquisition and has revised its local target asset size from S$8b to S$9b by 2010. Gearing has increased from 35.3% to 45%. Management appears eager to move on to acquire Clark Quay (NLA: 262,230sf) and Orchard Ion (NLA: 660,000sf). CapitaLand is likely to monetise its investment in Orchard Ion once it is able to demonstrate stability of rental income. The injection of the two abovementioned assets will likely put a strain on financial resources given aggregate price tag exceeding S$3b. There may be some concerns that CMT has sidetracked from its focus on retail malls but management plans to progressively convert more office space into retail space.
Impact on earnings. We have revised our FY09 DPU forecast by 5.1% to 16.5 cents. We have factored in contribution of The Atrium as an office building and the impact of positive rental reversion. We are not able to assess impact of AEI as management did not provide guidance on construction costs involved. There may be government approval required to convert office space into retail space. CMT provides FY09 distribution yield of 4.71%. We have fine-tuned our dividend discount model to reflect risk of more fund raising exercises for the pipeline of acquisitions when both the equity and debt markets are fairly weak. Our new target price for CMT is S$3.72. Downgrade to HOLD due to limited upside.