Thanks so much for your support and apologies for the radio silence as it has been quite action-packed for the past 2 weeks. Had wanted to write a post on interest rates but decided to reward you guys with a quick analysis of Sasseur REIT, which is the first REIT IPO of 2018. Hope that through this process of analysis, some of you may bring home the thought process behind analysis of REITs and what are some of the things to look out for.
Many reports have sang praises of this IPO, so let’s take a look to see if Sasseur REIT is really a top-grade Mao Shan Wang.
IPO Prospectus can be found on MAS Opera: https://eservices.mas.gov.sg/opera/Public/CIS/ViewProspectus.aspx
NOTE: Remember always that prospectus is a marketing material and should be read with care. Do not trust everything revealed in the prospectus at face value as the story behind the numbers may tell a different story.
REITs investing is essentially individuals buying into properties. As such, the first thing that we should look at in a REIT IPO Prospectus would be the section on Information of the Properties. You can usually find tables like this:
Source: Sasseur REIT IPO Prospectus
By investing in REITs, people usually expect stable income stream for a long long time in the form of dividends. For the dividends to be stable, the REIT’s ability to maintain high occupancy and continuous growth in rental is important. Below are some important things to note in a prospectus:
- Occupancy Rate
From this table, the first thing to look at would be the occupancy of the assets in the table to quickly ascertain the desirability of the assets.
Occupancy refers to how much of the space available in the assets (commonly known as Net Lettable Area/NLA) are leased – which most of the time means that these spaces are generate some income. A higher occupancy rate is always preferred and reflects on the surface if the asset is desirable to space users. A low occupancy rate may reflect problems on the assets and more investigation should be done when low occupancy rate is encountered.
Out of the 4 assets, we can see that one of the assets was at 85.6% which may sound an alarm for the desirability of the asset by tenants but may not necessarily be a bad thing if the asset is fairly priced (discount to market price).
The portfolio occupancy also increased from 91.8% to 95.1% between Sep 2017 and latest practicable date (likely Feb 2018), which means there are a marked increase within a short period of time. From my conceivable mind, there are 2 possibilities of what happened:
- The location became very desirable and new tenants came in at a market rate (Signifies growth prospect of the REIT)
- Sasseur wants to prop up the occupancy prior to IPO and get tenants to come in at a very low rate + long rent-free period (Potential red flag)
From point b, we can understand that high occupancy, on the surface, may seem like the property is doing well. However, on closer look, high occupancy can be achieved by giving very low rental rates or even no rent to prospective new tenants. This requires more in-depth investigations.
- WALE (Weighted Average Lease Expiry)
Weighted average lease expiry measures how long the current existing leases will continue for before renewal of leases takes place. This indicator is important as it tells us how long will the existing cash flow from rental runs till before negotiation for new leases have to take place. During the renewal/ negotiation phase, existing tenants may decide to shift out of the building and this will then affect the stable cash flow that we desire when investing in a REIT.
Lease expiry is a key risk to our desired cash flow and hence the longer the WALE, the more stable the cash flow of a REIT is.
In Sasseur’s case, the WALE by NLA (net lettable area) is 3.2 years which as compared to the market (usually leases in Singapore runs for 3 years) is considered healthy.
However, when we look at the line below, which shows the WALE by Property Income, the number we got is a much shorter 1.2 years. This is a potential red flag that we should catch as this may mean that the bulk of the tenants who are paying higher rents will have their leases expire within 1 year or so, leaving behind tenants who are paying very low rents or no rents.
This may support our suspicion in point 1b that the occupancy has been artificially shored up by Sasseur within the last 6 months by getting in low rent/no rent tenants. This observation applies to 3 out of 4 of Sasseur’s properties, which makes it a serious red flag to take note of. What this may mean is that the tenants are actually unwilling to pay market rent for the various outlet malls held by Sasseur REIT and the latter may have difficulty maintaining the dividend payout in the next few years.
Dwelling further, the income of outlet malls in Sasseur REIT comes in the form of sales-based leases. According to Sasseur’s IPO, “most of the tenants have entered into short term sales-based leases, whereby the rent is determined solely based on turnover as opposed to a fixed rent”. This adds a lot of volatility to the cash flow of the underlying assets.
- Rental Revenue/Management Agreement
However, the volatility of the cash flow is mitigated by Sasseur REIT entering into an Entrusted Management Agreement (“EMA”) with the Manager to have a Minimum Rent payable to the REIT. This means that if the businesses in the outlet malls do not do well and hence the rent received is lower than the Minimum Rent, the REIT Manager will have to top up the shortfall.
Such arrangement is commonly known as Rental Guarantee, which gives stability to the income and is in line with the objective of REIT investors like you and I.
With such agreement, if there is no end date, the key analysis should be done on how much dividend per share are we getting if only the Minimum Rent is achieved to understand the downside protection of this REIT.
In this case, the Minimum Rent from FY2019 will be RMB 611.4 million (S$ 124.0 million assuming exchange rate of 1 SGD: 4.89 RMB), which would give us a guaranteed yield of 6.9% (assuming market capitalization of S$944.2 million according to The Edge).
Projection Year 2019 (S$’000)
|EMA Rental Income||
|Manager’s management fees||
|Other trust expenses||
|Total Return attributable to Unitholders||
Source: Sasseur REIT IPO Prospectus
In the EMA, it is also important to note that there is an annual step-up of 3% on the Fixed Component (RMB 425.2 million = S$87.0 million) over the term of the EMA. This will provide an organic growth component to the rental income of Sasseur REIT assuming no deterioration of the variable component of its rental income (4.0% – 5.5% of total sales). This total amount, when fall below the Minimum Rent (see above), will be topped up by the Entrusted Manger.
Please note that even when the rental income is guaranteed, the ability of the “guarantor” to pay the sum should be considered and will be covered more in the full analysis. Default on Rental Guarantee has happened before on Jackson Square held by Viva Industrial Trust and this scenario should be carefully considered.
The first 3 points dealt with the analysis on the certainty of revenue, with more in-depth analysis such as market research required to ascertain the growth that can be achieved on the revenue.
For full analysis, please email me at firstname.lastname@example.org.
Report would include:
- Analysis on Valuation of Properties
- Capital Structure Analysis
- Risks of Investment
Report is available for S$15.00 nett and will be made available upon transfer. More details will be given through email.
Disclaimer: This post reflects only the sincere opinion of the writer. Reader should exercise personal discretion when deciding on any investment in Sasseur REIT.