Some semblance of stability

Maintain 1 rating

CIT aims to divest part of its portfolio

Deal to buy property at Tai Seng Avenue is now off, says CEO

CAMBRIDGE Industrial Trust (CIT) could divest 5-10 per cent of its property assets over the next 12-18 months as part of a long-term plan to ‘recycle’ its portfolio, chief executive Chris Calvert told BT.

‘What I want to achieve for the Reit (real estate investment trust) is a portfolio that we recycle a part of regularly so that we can maintain a modern investment-grade portfolio,’ said Mr Calvert, who took the helm of CIT’s manager Cambridge Industrial Trust Management from Wilson Ang Poh Seong in December 2008.

CIT owns 43 properties that were worth a total of $968 million at end-March 2009. Five or six of these have been identified as ‘non-core’ and could be sold, Mr Calvert said.

Proceeds could be used to pay off debt or acquire new properties.

CIT has to take care to keep its gearing down. It recently refinanced all existing debt through a $390.1 million syndicated term loan, leaving it with no refinancing obligations until February 2012.

But under the terms of this loan, if the trust’s loan-to-value (LTV) ratio exceeds 50 per cent, the lenders can draw on the Reit’s rental income to pay down debt and reduce gearing down to a more manageable level.

And if the LTV ratio exceeds 55 per cent, CIT will have breached the loan conditions, which means the lenders could take other steps to reclaim their money – including seizing CIT’s assets.

CIT’s gearing is now around 40 per cent. The Monetary Authority of Singapore has set a 60 per cent threshold for a Reit’s gearing.

Despite the fact that debt is locked in for the next three years, prudent capital management is a priority for CIT’s manager. The trust said in its first-quarter 2009 results announcement that it is looking at ways to strengthen its balance sheet.

But Mr Calvert emphasised that it is not a distressed seller. For its gearing to hit 50 per cent, the value of its property portfolio would have to fall more than 20 per cent, and this is unlikely, he said.

However, because of the soft outlook for the rest of this year, CIT’s property portfolio is likely to be revalued downwards.

Mr Calvert also said the trust will not go through with an earlier plan to buy 29 Tai Seng Avenue for $55.2 million. Late last year, the option agreement was extended to June 30, 2009 and completion was subject to market conditions supporting an equity fund-raising exercise.

CIT has decided not to acquire the property as it would not be yield-accretive for the trust, Mr Calvert said. Also, he does not favour an equity fund-raising exercise at present.

‘We don’t believe that going out and doing a highly dilutive rights issue is in the interest of the shareholders when there are alternatives,’ he said.

CIT’s stock closed at 38 cents yesterday. It has gained 38.2 per cent this year.

Stable Yields

• Unlikely to breach cash lock-up covenants
• Exploring various capital management initiatives
• Maintain BUY, TP S$0.38 based on DCF

Unlikely to breach cash lock-up covenants. With the recent refinancing of its $390m debt, CIT is faced with tighter cash lock up covenants of 50% loan-to-value and 2.5x interest cover ratio. However, we believe it is in no danger of breaching these limits as it would take a 20% decline in asset values and a 25% drop in EBIT to trigger this event. Recent revaluations done by comparable peers only showed a 3-5% decline in asset values. While we expect further downward adjustments to capital values, we believe declines would be more modest given the stable and long lease profile of its tenancies. In addition, the long lease terms with inbuilt fixed periodic rental escalations and no pre-termination clauses also mean a stable
income profile.

Unwinding initial swap strain cash flow, exploring various capital management initiatives. With the debt rollover and unwinding of its S$18m original interest rate swap (S$6m expensed p.a.), CIT is effectively paying out close to 120% of its operating cashflow over the next 3 years. The additional payment, to be funded by drawing down on its facilities, would put a strain on cashflow. Management of CIT is aware of this and is exploring various other avenues to address them such as a reduction in distribution payout or capital raising in the medium term. This could result in some earnings downside risks, which are currently not reflected in our forecasts.

Maintain BUY, TP S$0.38. CIT is trading at 0.4x P/BV and offers a stable prospective FY09-10F yield of 16% backed by a portfolio secured on long leases of 15 years. While we are mindful of potential capital management activities, we view this possibility as a medium term development to strengthen its balance sheet.

Stable for now

• Results in line. 1Q09 results are in line with consensus and our expectations. DPU of 1.29cts forms 27% of our forecast for FY09. Gross revenue of S$18.4m was flat qoq, but net property income of S$16.1m was up 6% qoq as CREIT benefited from land-rent and property-tax rebates. Portfolio occupancy was 99.2% as at 31 Mar 09, down marginally from 99.5% in Dec 08.

• Covenants on debt facility may strain cash flow. Management clarified that its weighted average effective interest rate is 5.9% p.a., and not 7.2% as reported in an SGX release on 18 Feb 09. Management earlier assumed that the swap cost of S$18.35m would be expensed over the tenure of the new debt facility. It will now recognise the change in fair value and expense off S$18.35m. Although the need to repay this S$18.35m over the tenure of the CIT facility will not affect distribution, cash flow may be strained. Management is exploring options to increase cash proceeds which could include the divestment of non-core assets, scrip dividends and a rights issue, among others.

• Adequate buffer before cash lock-up is triggered. Management revealed more debt covenants, including a loan to value (LTV) ratio of 55% and a debt service cover ratio of 2.2x, and lenders’ right to lock up cash proceeds if the LTV reaches 50% or if the debt service cover ratio reaches 2.5x. The revelation of the second covenant is worrying, implying that lenders could technically halt distribution to unitholders. Nonetheless, we take comfort in the relative stability in the medium term as asset values will need to decline by about 25% before the 50% LTV is breached, in our estimation.

• Maintain Outperform with lower target price of S$0.47, still based on DDM valuation (discount 9.6%). We lower our occupancy assumption to 95% from 98% to reflect possibly increased cases of tenant default. Our 2009-11 DPU forecasts fall by 9-12%. Nonetheless, we expect CREIT’s performance to be stable, with only 6.1% of rental income expiring between now and 2012, 16 months of security deposits on average, and 5.4 years of weighted average remaining lease term (by income).