Acquiring pharmaceutical distributing facility in Japan

Taking a small bite in Japan. Parkway Life REIT has executed an agreement to acquire a pharmaceutical production and distribution facility in Japan for total cash consideration of ¥2.59b or S$35m. The two-storey freehold building is located in Matsudo City, Chiba prefecture with net lettable area of 34,875sf. Nippon Express has a master lease at the premise with unexpired lease term of nine years. The building is currently occupied by Inverness Medical Japan, which is involved in drug development, manufacturing, export and sales. Nippon Express provides logistics and distribution support and has a back-to-back lease with Inverness Medical Japan. Inverness Medical Japan utilises the facility to manufacture, sell and distribute medical test kit devices.

Potential to redevelop the site. The acquisition provides initial net yield of 5.3%. The ratio of the building’s floor area to the land area is about 40% compared to allowable ratio of 200 % based on current zoning regulation. There is therefore potential to redevelop the site to maximise returns. The acquisition will be funded by debt, which increases gearing from 4% to 8%.

We like Parkway Life REIT for its healthcare focus and strong defensive qualities. It benefits from revenue growth at Mount Elizabeth Hospital, Gleneagles Hospital and East Shore Hospital as variable rent is 3.8% of adjusted hospital revenue. Our target price is S$1.82 based on the discounted dividend model (required rate of return: 6.75%; terminal growth: 2.5%).

F Y07 results; remains key pick

Parkway Life’s maiden results beat forecasts

It reports $13.6m distributable income for Aug23-Dec31, 2007 period

PARKWAY Life Reit has beaten forecasts in its maiden results.

It reported a distributable income of $13.64 million for the period between Aug 23, when it was listed, and Dec 31, 2007. This was 5.81 per cent better than its projection of $12.89 million. This led to a distribution per unit (DPU) of 2.27 cents, higher than the forecast 2.14 cents.

Riding on the momentum, the Reit’s manager expects to do better than its forecast for FY2008.

‘We’ve got a (yield) forecast in the IPO, which is 4.9 per cent,’ said Justine Wingrove, CEO of the Reit’s manager, Parkway Trust Management. ‘I think it’s fair to say we’re likely to go in excess of that, but I obviously can’t say too much.’

Parkway Life Reit holds the Mount Elizabeth, Gleneagles and East Shore hospitals under its asset portfolio. Independent valuer DTZ Debenham Tie Leung recently valued the portfolio, which includes 68 medical offices and retail units and 559 parking lots, at $831.5 million. This is 7.3 per cent higher than the appraised value of some $775 million in July last year.

Gross revenue was $16.9 million, 5 per cent higher than the forecast of $16.09 million. This was because the actual adjusted hospital revenue for the period was higher than the minimum rent assumed in the forecast. The increase in adjusted hospital revenue was largely driven by a rise in foreign patient revenue, higher consumption of diagnostic outpatient services and contribution from Parkway Cancer Centre.

The biggest rental contribution came from Mount Elizabeth Hospital, which accounted for $10.6 million. Gleneagles Hospital raked in $5.5 million, while the balance came from East Shore Hospital.

The Reit manager is targeting acquisitions in Singapore, China, India, Japan, Malaysia and Thailand to grow its portfolio. Some of the property types it is pursuing include warehousing facilities for pharmaceutical companies, nursing homes, hospitals and medical offices. It does not rule out development projects as well, but will cap them at 10 per cent of its asset base. Immediate acquisition targets are unlikely to come from Parkway Holdings, said Ms Wingrove.

‘I think with Parkway, it’s just there for us,’ she said. ‘And so, yes we are looking at it . . . but we need to take advantage of third-party acquisitions if there’s an opportunity, because we don’t have an automatic right for those.’

When asked by the media on what she thought of Parkway Holdings’ recent record bid for a hospital site at Novena, Ms Wingrove said she believes that Parkway Holdings did a lot of analysis before submitting the bid for $1,600 per square foot per plot ratio.

As a Reit manager, Parkway Trust would look at the Novena property at a later date before deciding on the appropriate course of action.

Net asset value per unit came to $1.36. Parkway Life Reit has also attained a ‘BBB+’ credit rating by Fitch Ratings. The counter last traded at $1.20.

Even more headroom now

Comment on Results

ParkwayLife REIT’s (PREIT) FY07 results were in line with our expectations. Gross revenues ended at S$16.9m as a result of higher variable rent component that is linked to the Adjusted Hospital’s Revenue. This was partially offset by higher property expenses as a result of more contributions to the management and sinking fund for Mount Elizabeth Hospital (MEH). DPU for FY07 was 2.27 Scts, annualized at 6.32 Scts.

There was a revaluation gain of S$56.3m on its investment properties, mainly contributed by MEH (+S$47.3m). This increased its NAV per unit to S$1.36, from S$1.25 as of listing.

Recommendation

PREIT also announced that it has received an investment grade rating of “BBB+” by Fitch Ratings. With the rating, it will allow PREIT to increase its aggregate leverage limit to a maximum of 60% of the value of its deposited property, from its previous capped gearing of 35%. While management indicated that a comfortable long-term gearing target is probably around 45%, the rating and revaluation gain allows PREIT to take up a maximum of about S$1.1bn of debt (at 60% gearing). Its current low gearing of 4% provides substantial flexibility to pursue its growth and acquisition strategy.

Management also indicated that any asset injection from its Sponsor would be done as a business case and evaluated on its investment and financial merits to the REIT.

Maintain BUY, TP: S$1.50. The prospects of the Group should remain firm on an aging population, increasing life expectancy, growing affluence, and Singapore’s drive to promote medical tourism. In addition, downsides are protected from gross revenues pegged to the higher of Adjusted Hospital’s revenue or [1+(1%+CPI)] on the total rent payable on the immediate preceding year. Maintain BUY, TP unchanged at S$1.50 based on DCF (WACC 5.6%, terminal growth 1%). Counter is currently trading at 11% discount to NAV and offers a forward yield of 5.4% (FY08F).