Transformational acquisition

• Maintain Outperform. ART is acquiring 28 serviced-residence properties primarily in Europe at an enterprise value of S$1,394.7m from its sponsor, Ascott Group. Separately, it will be divesting Ascott Beijing for S$301.8m. With this, ART’s asset size will almost double to S$2.85bn and its Asian asset allocation will shrink to 55% from 100%. The acquisition will be funded by divestment proceeds, equity fundraising and debt financing. We anticipate moderate DPU dilution of 2-4% for FY11, to be compensated by increased stability for rental income and higher investor interest as the free float would increase by about 73%. However, we are neutral on the acquisitions due to increased forex risks in Europe and uncertainties in the degree of dilution for minority shareholders from the private placement. We maintain our DPU estimates, DDM-based target price of S$1.35 (discount rate 8.3%) and Outperform rating pending an EGM on 9 Sep. More clarity on a hedging of cash flows from Europe and unit issuance could provide catalysts for the stock, in our opinion.

• Expect stable contributions from Europe. Management will be taking on a triple net master lease or minimum rent lease structure for its European portfolio to counter risks of shorter stays in Europe, which are typically under one month. The lease tenures of the acquisitions will range between six and 19 years with the master tenant being ART’s sponsor, the Ascott Group.

A Leaf From FCT / CDLHT

• Comments by analysts after Friday’s acquisitions / divestment announcement and picked up by the press, have been neutral at worst, eg ART should have bought more Asian assets (only 2 out of 28 are in Singapore and Hanoi, Vietnam) than European ones (4 in London, 17 in France, and 5 elsewhere in Belgium, Germany and Spain).

• Yet, after the recent euro crisis, that saw the euro drop sharply against major currencies (to a low of S$1.69 on June 7th vs S$2.01 at the start of 2010), we believe buying European assets at this time would appear to be a better bet.

• As noted in our report on Friday, there could be some short term uncertainty, as had been seen at CDL Hospitality and Fraser Centrepoint , which placed out new units after acquiring hotels in Australia; Northpoint and Yew Tee shopping malls respectively.

• These placements had also hit the 2 reits in the short period after the acquisitions / placements, only to rebound after the completion of the capital raising exercises.

• We would expect the same for ART, especially given that the proportion of ART’s ebitda from master leases and guaranteed income management agreements will rise from 4% currently to 47% after the acquisitions.

ART buys 28 properties from The Ascott

The $969.6m purchase will boost assets by 1.8 times; analysts surprised by size of transaction

ASCOTT Residence Trust (ART) is buying 28 properties from its sponsor, The Ascott Limited, for $969.6 million, and selling one to the latter for $214 million.

With the purchase, ART’s asset size will grow 1.8 times and its reach will stretch past Asia to Europe. But it will be borrowing more and issuing new units – possibly more than half the existing number in issue – to raise over $560 million for the deal.

The sales proceeds will help Ascott, CapitaLand’s service residence arm, in further expansion. The divestment will bring it a net gain of about $52.1 million.

Analysts had mixed reactions to the announcements yesterday morning, made after CapitaLand and ART asked to halt trading in their counters. Many expected ART to buy assets from Ascott, but not so much at a go. ‘What came as a surprise to us was the size and scale of the transaction,’ said OCBC Investment Research analyst Meenal Kumar.

Several also felt that the acquisition, while good for raising ART’s profile, had little impact on its portfolio yield. The purchase is ‘marginally accretive’ but the equity fund-raising will raise ART’s market capitalisation and put it on the radar of more institutional investors, said CIMB analyst Janice Ding.

According to ART, the assets it is buying have an annualised earnings before interest, taxes, depreciation and amortisation yield of 5.7 per cent, exceeding its existing portfolio’s 5.5 per cent.

For CapitaLand, the sale of the assets could be ‘motivated more by desire to grow ART than maximising profit’, according to Standard Chartered’s Regina Lim and Wong Yan Ling in a note.

With the acquisition, ART’s portfolio will grow to $2.85 billion from $1.59 billion, with properties in 23 cities across 12 countries. The trust will gain exposure to Europe – the region will account for some 45 per cent of its total asset value, up from zero.

Of the 28 service residence properties it is buying, 26 are in Europe, across France, the UK, Germany, Belgium and Spain. Just two are in Asia – Somerset Hoa Binh in Vietnam and Citadines Singapore Mount Sophia. Ascott will continue to manage all these assets.

The performance of service residences in key European cities has been stable, said Chong Kee Hiong, CEO of ART’s manager, at a briefing. He noted that occupancy rates reached 95-97 per cent in the last few years even during the financial crisis.

It has been challenging finding a large chain of properties to buy and future purchases are likely to be piecemeal, he added.

ART will hold an extraordinary general meeting on Sept 9 to seek shareholders’ approval for the acquisition, divestment and issue of new units.

The equity fund-raising – comprising a non-renounceable preferential offering to existing unitholders and a private placement – should be completed by year-end. Ascott will subscribe for new units to maintain its 47.7 per cent stake in ART.

Details have not been firmed up but ART suggested that it might raise $560.6 million from placing out 487.5 million new units at an illustrative price of $1.15 apiece. As at Monday, 619.6 million units of ART were in issue.

The illustrative issue price is 4.2 per cent below ART’s closing price of $1.20 yesterday. The counter lost six cents after trading resumed in the afternoon.

ART will also take on more debt, estimated at $116.3 million. On the whole, it does not expect its gearing of 40.7 per cent as at June 30 to rise.

ART’s sale of Ascott Beijing in China to Ascott will provide another source of funds. Home prices in Beijing have been rising and the 310-unit property at Chaoyang would be worth more in a strata-title sale but such a repositioning is not part of ART’s core business, Mr Chong said.

Ascott will realise the best value for Ascott Beijing even if it means converting the property to another use, said the group’s CEO Lim Ming Yan. It is evaluating options, but is likely to refurbish the building before selling it.

The divestment of assets to ART is in line with Ascott’s strategy to recycle capital for investment. Ascott will receive net cash proceeds of some $332 million after the sale, the purchase of Ascott Beijing, and the new unit subscription. It will have a capacity of over $700 million to fund growth, Mr Lim said.

Ascott said early this month that it aims to grow the number of service residence apartments in its portfolio to 40,000 by 2015, up from some 26,000 now.

It no longer owns assets in Europe with the sale to ART but it still holds the title to around 5,200 units in Asia Pacific. These units, together with new ones it buys, will form ART’s acquisition pipeline.

CapitaLand closed unchanged at $4.05 yesterday.

An opportunistic sell‐out

What’s New

• ART is divesting Country Woods in Jakarta for S$33.9m, which is 60% above the property’s valuation as at June 2010 and implies an exit yield of 2.9%. The net proceeds from the sale could be used for funding future acquisitions. We are keeping our estimates intact as the impact from the sale is negligible. Maintain BUY.

Our View

• Country Woods was sold to an unrelated party via a bidding process. We understand that ART is disposing of this aging property as it has reached its full growth potential as a rental house in South Jakarta’s intensely competitive environment.

• As Indonesia accounts for just 7% of ART’s total gross profit, the impact of the divestment on its income is insignificant. Post divestment, Indonesia’s share of total asset value and gross profit is 4% and 6%, respectively. The group’s NAV will inch up by 1 cts/share.

• The net proceeds of $28.8m are small relative to ART’s total debt, which means they would more likely be used to fund future acquisitions. Management continues to target Vietnam, India, China and Singapore for potential acquisitions.

Action & Recommendation

This is ART’s first divestment and it demonstrates management’s ability to optimise the yield of its portfolio. Potential acquisitions are catalysts for re‐rating. Maintain BUY.

Ascott Reit sells Jakarta asset

ASCOTT Residence Trust (Ascott Reit) has agreed to sell Country Woods in Jakarta for $33.91 million. The sale price – the highest submitted in a bidding process – is 60 per cent above the property’s valuation of $21.2 million at June 30. Ascott Reit said that it expects a net gain of $5.7 million from the sale. The transaction is expected to be completed in the fourth quarter.

Ascott Residence Trust Management chairman Lim Jit Poh said: ‘The sale proceeds from the divestment will provide Ascott Reit with greater financial flexibility to maximise returns to unitholders. Proceeds from the sale will be used to pare the group’s debt or for funding future acquisitions.’

The sale is in line with Ascott Reit’s strategy to unlock the underlying value of property that has reached a stage that offers limited growth, and to redeploy proceeds to optimise the yield of its portfolio, the trust said. Country Woods would have required significant capital expenditure to compete with increased competition in South Jakarta. the Reit said. The implied exit yield of Country Woods is 2.9 per cent based on the sale price of $33.9 million.

Following the divestment, Ascott Reit will continue to have a presence in Indonesia through Ascott Jakarta and Somerset Grand Citra, both of which are in the heart of the city’s business and shopping district. Ascott Reit said that it would continue to seek yield-accretive acquisitions to expand its portfolio and look for opportunities to divest properties that have reached optimal yield.