Yahoo Finance RHB, DBS stay 'buy' as ESR-LOGOS REIT divests seven assets with 'slightly high' discount
“All key metrics, such as weighted average land lease tenures and weighted average lease expiry rates should improve slightly.”
ESR-LOGOS REIT’s proposed divestments of seven assets at slight discounts to their valuations are in line with expectations, says RHB Bank Singapore analyst Vijay Natarajan.
The manager of ESR-LOGOS REIT J91u announced on June 23 that it intends to divest seven of the REIT’s non-core assets for approximately $337.0 million. The divestments are part of the REIT’s capital recycling strategy, where it intends to redeploy the capital back into leading new economy real estate assets.
The divestments should further strengthen its balance sheet, enhance its land lease expiry profile, and reduce single-tenant risks, adds Natarajan in a June 26 note. “The proceeds of these sales are expected to be recycled to fund planned asset enhancements, as well as acquisitions from its sponsor. Valuations are attractive — EREIT is one of a small handful of logistics-focussed REITs, and is trading at a discount to book value while offering 8% yields.”
Hence, Natarajan is staying “buy” on the REIT with an unchanged target price of 40 cents, which represents a 22% upside against its last traded price. The target price includes a 2% environmental, social and governance (ESG) premium to the REIT’s fair value, based on RHB’s proprietary methodology.
The discount on the assets from the proposed divestment is “slightly on the higher end” of Natarajan’s estimate. “This is likely the result of the recent increase in stamp duties and interest rates.”
Out of the seven assets to be hived off, six are in Singapore — four warehouses cum offices, and two general industrial buildings — and the remaining one is in Australia. Five of the Singapore assets are to be sold as a portfolio to a single buyer — which Natarajan gathers from market sources as a well-known Chinese e-commerce player.
Sanli Environmental proposed on June 19 to acquire 22 Chin Bee Drive, one of the properties of ESR-LOGOS REIT, for $13.8 million.
The REIT’s key reasons for choosing these assets to divest were largely linked to their lower specifications and shorter land lease tenures. Post-divestments, all key metrics, such as weighted average land lease tenures and weighted average lease expiry rates should improve slightly, says Natarajan. The divestments are expected to be completed by year-end.
With the divestment, net gearing will fall to 33.6%, with divestment proceeds initially used to pare down debts, mainly revolving credit facilities that are currently unhedged and costs, says Natarajan.
Pro-forma DPU — including a $300 million equity fundraising in February — is expected to drop by 4.6%, while net asset value (NAV) should decrease by 1.1%, says Natarajan.
“The divestment proceeds will then be used to fund the estimated $300 million asset redevelopments and enhancements, which are currently in progress. This would shift its net gearing level to 35%-36%. We also expect ESR-LOGOS REIT to acquire its sponsor’s logistics assets in Singapore and Japan, once interest rates reach a peak,” says Natarajan.
Aside, Natarajan expects the REIT’s portfolio occupancy rate to remain at 92%. “Rental reversions are expected to stay in the mid-single digits, driven by the logistics and high-specification segments. Overall asset values are expected to remain relatively firm, driven by continued interest in the industrial property segment.”
DBS Group Research, in its separate note on June 26, says it prefers if the divestment was done at book value, especially as majority of the assets are warehouses .”We understand the specifications of these assets are less ideal and it would not be feasible to consider AEIs or redevelopments.”
“Despite the relatively high exit yields, several of the assets have a short remaining land tenure that will see valuation decline going forward. More importantly, if ESR-LOGOS REIT is able to demonstrate that despite this ‘near-term pain’ to distribution per unit (DPU) and NAV, they are able to redeploy the its capital into longer-term growth that is more sustainable, it pays to be patient and wait for their strategy to unfold,” adds DBS.
Overall, DBS is “positive” on this sale, given how it can thereby help the REIT address its most “pressing issue” of lowering its gearing levels, which can then give it a bigger debt headroom for other planned asset enhancement initiatives.
“Moreover, with the enlarged debt headroom, ESR-LOGOS REIT now has the ‘firepower’ to consider acquisitions that will provide superior long-term returns. For example, the proceeds could be reinvested into acquisitions from its sponsor pipeline in Singapore, Japan, and Australia where land tenures are longer (or freehold), and higher specs that can command better rents,” says DBS, which has kept its “buy” call and 42 cents target price.
As at 10.40am, units in ESR-LOGOS REIT are trading 0.5 cents higher, or 1.56% up, at 32.5 cents.
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