Category: REIT
REITs – BT
Reit investors get a reality check
They discover the ability of most Reits to deliver decent yields – something which many had neglected when they chased capital gains before the recession
After a heart-stopping year, investors in real estate investment trusts (Reits) seem to have swallowed a dose of reality on what the sector can – and cannot – deliver.
It was a lesson learnt the hard way. Once favoured for offering high capital gains, the Reit sector lost that shine early in the year as unit prices tanked – the FTSE ST Reits Index fell as much as 50 per cent from September 2008 to March 2009. The sector was hit by market concerns over earnings, as property rents and occupancy rates dropped, and debt levels, as credit lines froze.
Saizen Reit, for one, was forced to suspend distribution payouts since its fiscal second quarter because of credit problems. More recently, the public wrangle between MacarthurCook Industrial Reit and Cambridge Industrial Reit highlighted the financing issues that the sector has to grapple with.
What stood out amid the tumult was the ability of most Reits to deliver decent yields – something which many investors had neglected when they chased capital gains before the recession. Looking at annualised distributions per unit (DPU) in the third quarter of the calendar year and closing unit prices as at last Thursday, all 13 Reits BT looked at had distribution yields of more than 5 per cent.
This has changed how investors view the sector. ‘People are becoming more receptive to Reits as yield instruments rather than as growth instruments,’ noted CIMB Reit analyst Janice Ding.
The financial crisis has tested the strength of the Reit model and revealed risk factors which investors may have previously overlooked, market watchers say. OCBC Investment Research analyst Meenal Kumar said: ‘We believe this is for the better, as investors now have a more balanced perspective on the strengths and weaknesses of this investment vehicle.’
Overall distribution yields in the sector could have been higher if not for weaker DPUs. Of the 13 Reits, as many as nine saw their DPU slide from a year earlier.
For five of these nine, lower DPUs were caused by reduced earnings. This was the case for those in the hospitality sector – Ascott Residence Trust and CDL Hospitality Trust both had less distributable income as the downturn hit tourism.
But there were four other Reits with lower DPUs even though their distributable income increased. Equity raising was the culprit – all four conducted rights issues or private placements in the one-year period under review. This means that distributable income had to be spread over larger unit bases, lowering DPUs.
Equity raisings have been rife among Reits, as they tried to pay off maturing debts amid the credit crisis. Their efforts have been successful – so far – in reducing the pressure on the balance sheet. According to the Monetary Authority of Singapore’s Financial Stability Review, the local Reit sector had 18.5 per cent of total borrowings maturing in 2009 and 2010 as at end-October this year, down from 57 per cent at end-2008.
While immediate refinancing pressures have eased, Reits still have huge chunks of debt due in 2011 and 2012. This leads some analysts to believe that equity raisings will continue next year. CIMB’s Ms Ding expects acquisitions – on top of debt repayment – as another driving factor. With so much fund raising, more discerning investors may also not respond well to cash calls used merely to reduce debt, she added.
Some Reits are already showing renewed appetite for assets. ‘We expect more acquisitions in 2010 as that is an important growth strategy underpinning the Reit model,’ said OCBC’s Ms Kumar.
The pace of acquisitions may be constrained in the medium term because Reit managers are targeting lower gearing after the crisis, she added. ‘But risk appetite is not static and it could increase as and when the property market recovers.’
For now, Reit investors are likely to remain cautious. As the MAS highlighted in its report, several other risks remain – credit conditions could worsen again with sudden and large declines in financial markets, and rental yields for commercial and industrial space could fall further.
In particular, office Reits are gaining little favour among analysts. CIMB’s Ms Ding believes that negative rental reversions will set in next year and affect DPUs. The dilutive effect of rights issues and private placements will also extend into 2010 for some Reits, she said.
OCBC’s Ms Kumar believes that hospitality Reits should see year-on-year gains in income as the travel industry recovers, helping occupancy and room rates improve.
REITs – OCBC
3Q review and lessons from MI-REIT
Results were largely in line. Most S-REITs under our coverage reported 3Q CY09 results within expectations. CapitaCommercial Trust (CCT) and Ascott Residence Trust (ART) were the sole out-performers thanks to strong gross margins at ART and positive rental reversions at CCT. In November, Mapletree Logistics Trust (MLT) raised S$79.4m from a private placement while Starhill Global REIT [NOT RATED] disclosed plans for S$571.3m worth of acquisitions.
Broader property trends unchanged The pace of rent declines for office space decelerated in 3Q09 but we believe we are approaching an inflection point where spot rents are now trending below the passing rent on expiring leases. Meanwhile, performance of retail REITs under our coverage was generally stable and we expect earnings to be supported by asset enhancement initiatives and potential acquisitions. Hospitality players reported stabilizing occupancy numbers but continued weakness in room rates. Year-end portfolio revaluations may be a key price driver for industrial REITs in the coming months with MI-REIT [NR] booking a 11.1% fall in asset values versus a March revaluation.
REIT re-structuring continues. Restructuring activity continues in the SREIT space as falling asset values ratchet up leverage. MI-REIT is a perfect case: high leverage; a chunky re-financing deadline; a weak sponsor (MacarthurCook pre-AIMS); and a contracted acquisition committed at peak prices. In the typical modus operandi of S-REIT players so far, control changed hands at the manager level when AIMS Financial Group stepped in. But for the first time, control was also contested at the REIT level with the intervention of Cambridge Industrial Trust [NR]. While its manager’s attempt to control two directly competing REITs was thwarted by the Monetary Authority of Singapore, several key lessons have emerged from this saga for both investors and REIT managers (in our opinion).
Lessons from MI-REIT. First, muted investor reception to the original MIREIT proposal indicates that attempts to restructure REITs through dilutive cash calls and acquisitions of sponsor-owned assets, however necessary, need to be more transparently communicated to the market. Secondly, successful execution of any M&A action at the REIT level is likely to require more careful understanding of the regulator’s position. Thirdly, further distinction needs to be made between the actions of (and the benefit to) the manager versus the REIT. Most importantly, existing investors in REITs with high leverage and weak sponsors need to be wary of the likelihood of potential dilution as more cash calls are likely – we see a better investment opportunity post-capital market activity and post-dilution. Maintain NEUTRAL view on S-REITs.
REITs – BT
Reits still a good bet but issues remain
REAL estate investment trusts (Reits) are still a good bet for the most part, but issues remain that must be cleared up, said panellists at a roundtable yesterday.
For one, a reform in the debt maturity profile for Reits is needed, said JPMorgan analyst Christopher Gee. The roundtable on Reits and the future of real estate finance in Asia was organised by Singapore Management University’s (SMU) Centre for Asset Securitisation in Asia.
Some Asian Reits pursued an aggressive acquisition strategy during the boom period of 2006-2007 as the low cost of financing tempted them to buy quality assets despite compressed entry yields, said Mr Gee.
This pushed Reits (including many in Singapore) to borrow and increase their gearings to high levels in order to make their acquisitions. They could have been ‘gearing up’ with the intention of raising equity later, he said.
However, the current financial crisis has affected many plans.
By and large, all of the debt used by the Reits is in the form of bullet repayment loans (where the payment for the entire loan and sometimes the interest as well is due only at the end of the loan term) or bonds, which can be ‘lethal’ if debt rollover coincides with financial market stress, said Mr Gee.
JPMorgan’s estimates show that for Singapore-listed Reits, 37 per cent and 41 per cent of total debt outstanding will be maturing in 2011 and 2012 respectively.
‘What if the current recovery is a W-shaped recovery and debt capital markets come under stress at that point in time?’ Mr Gee asked.
Instead, he said, Reits should consider a ‘through-the-cycle’ (TTC) investment hurdle to justify an acquisition.
For one S-Reit, for example, a TTC analysis of the weighted-average cost of capital would have highlighted the end of value accretive acquisitions after early 2007.
The Reit should have then lowered its gearing levels at that point in time by taking advantage of cheap equity cost, Mr Gee said. Instead, the Reit (Mapletree Logistics Trust) continued making acquisitions well into 2008.
Another concern that was raised was that in a downturn, good asset managers are essential for a Reit to do well. However, most Reit managers today started managing their trusts at a time when the asset market was booming. So they are still untested, the panellists said.
But Reits are still considered attractive investments as they are transparent and pay out the bulk of their income as dividends to unitholders, said Michael Smith, head of Asia real estate investment banking at Goldman Sachs.
REITs – Phillip
We compile the recently concluded quarterly financial results for the SREITs and did a comparative study to understand the trend in the underlying sectors.
Observations
For the office sector, y-y revenue showed greater improvement than q-q revenue because of positive rental revision of leases that were renewed over the period. The 13.2% q-q improvement in Frasers Commercial Trust was due to contribution from a new property and also favourable exchange rate movement. Office leases typically have lease period of 1-3 years and leases that were renewed in the recent period came from a low base previously, thereby there is still some degree of positive reversion. The URA rental index has come down 26.6% from its peak in 2Q2008. Although the office sector is still showing signs of weakness, rate of decline has slowed down. On the other hand, vacancy rate has also crept up to 12.2%.
The retail sector showed a similar trend as the office sector, except for smaller variability in the revenue, which suggests more resiliency than the latter. Anecdotal evidence from the results of Fraser Centrepoint Trust and CapitaMall Trust indicated that suburban malls perform better than downtown malls. Fraser Centrepoint Trust, which has assets located in the heartland areas, showed better y-y and q-q improvement compared to CapitaMall Trust, which has a greater presence of its portfolio located at the core downtown area. Suntec REIT results were partly affected by its office portfolio, which contributed 46% to revenue. The rental index for retail sector has remained relatively stable compared to the office and industrial sectors, with a decrease of 7.6% from its peak. Vacancy rate is at an all-time low of 6%.
Except for Mapletree Logistic Trust which had a 10.4% increase in y-y revenue that was boosted by contributions from acquisitions, the industrial sector shows little variability in core rental revenue both on a y-y and q-q basis. Occupancy rate for the listed REITs has also maintained at a high level of close to full occupancy. The stable revenue is premise on the typical longer lease terms of industrial properties and also the step-up component built into the leases. The URA rental index shows that 3Q2009 reading has came off 16.8% from its peak in 3Q2008 while vacancy rate is approximately 8%.
The hospitality sector shows great contrast between the y-y and q-q revenue. This is likely to be expected as hospitality properties such as hotels and service apartments have very short-term contracts with their tenants and are very dependent on the economic cycles. We can observe that q-q revenue has shown positive improvement compared to the decline observed for y-y revenue, indicating that the worst period for the sector is probably over. Tourist arrivals and hotel occupancy also saw their first month of positive y-y increase for this year in September. The healthcare sector has stayed defensive and is not subjected to the cyclicality of the economy.
Conclusion
On the overall, we believe the rental market for the office market could be bottoming and should begin to recover in the second half of 2010, premised by our observations in earlier reports that the rental index tends to drop by approximately 30% from its peak over a peak-trough cycle. The retail sector appears to be holding up quite well and as the population is decentralizing to the suburban areas, there will be demand
for retail spaces in these areas. We believe the rental index for industrial sector could still face a downward trend, however occupancy should be well-supported. The hospitality sector namely the tourism industry has already shown signs of turning around and should continue to pick up as the economy improves further.
In conclusion we have a bullish view on the hospitality, healthcare and retail sectors, neutral on the office sector and bearish on the industrial sector.