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DBS positive on hospitality S-REITS ahead of eventful 3QFY2022

Bryan Wu
Bryan Wu9/26/2022 06:05 PM GMT+08  • 5 min read
DBS positive on hospitality S-REITS ahead of eventful 3QFY2022
Room rates have leaped past pre-Covid levels, fueled by the strong MICE line-up in 2H2022, while the average length of stay has almost doubled from 2019 levels. Photo: The Ascott
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DBS Group Research analysts Geraldine Wong and Derek Tan are recommending investors accumulate units in hospitality S-REITs ahead of a projected share price re-rating as travel demand returns strongly.

According to the analysts, room rates have leaped past pre-Covid levels, fueled by the strong meetings, incentives, conventions and exhibitions (MICE) line-up in 2H2022, while the average length of stay has almost doubled from 2019 levels.

With the Formula One (F1) Singapore Grand Prix around the corner and a robust line-up of MICE events until the end of 2022, they believe that 2H2022 will turn out to be a “spectacular” half for the hospitality industry.

“We believe that expectations of a strong recovery are not priced in at current levels. Hospitality S-REITs remain in the early part of an upcycle and we expect the sector could trade above its historical mean of 0.9x price to net asset value (P/NAV) and hit at least 0.5 to 1.0 standard deviations (s.d.) above its mean valuation,” share the analysts.

Based on their channel checks, they note that hospitality S-REITs are likely to report strong revenue per available room (RevPAR) growth with the potential for upside surprises come 3Q2022 results and operational updates in Singapore, a key market accounting for some 40% of assets.

Wong and Tan are projecting RevPAR growth to outpace cost increases. They note that hospitality S-REITs’ share prices have flat-lined since June to July over concerns of the impact of an economic slowdown on distributions as well as their ability to maintain distribution per unit (DPU) growth due to higher costs.

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“The ability for RevPAR to outpace higher operational costs and interest expense will be a key item to monitor, in our view,” note the analysts.

Based on data from the Singapore Tourism Board (STB), Wong and Tan have also observed that average daily rates (ADR) have exceeded 2019 levels since May 2022, gaining further strength up to July 2022 with ADRs for luxury hotels 19% above that of 2019 levels and 15% for upscale hotels, pointing to strong take-up for rooms.

This implies that hospitality landlords should be able to enjoy stronger profitability and pass on most of the cost increases to travelers, say the analysts, who add: “While occupancy rates have yet to improve back to 2019 levels, at close to 77% as of June to July and expected to further strengthen in 2H2022, we believe that hospitality S-REITs should deliver strong results in the coming two quarters.”

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Wong and Tan note that occupancy for the F1 weekend looks “robust”, with selected 4-star to 5-star hotels charging $1,000 to $2,500 nightly rates for that weekend, and a majority of hotels are already “fully booked”. “Thereafter, while rates are expected to cool sequentially, we note that hoteliers appear to be maintaining rates at close to or higher than pre-Covid levels,” they add.

Meanwhile, a robust pipeline of 66 MICE events scheduled for 2H2022 after next weekend’s F1 race will continue to drive corporate demand and business and leisure, or “bleisure” demand, they say, noting that this has led to almost a doubling in average length of stay in 2022 of 6.0 days compared to 3.4 days back in 2019.

Analysts’ top picks

In their report dated Sept 22, the analysts have maintained their preference for Ascott Residence Trust (ART) and CDL Hospitality Trusts (CDLHT) with “buy” calls for both and target prices (TPs) of $1.40 and $1.55 respectively. The target prices are the highest among the Singapore brokerages and are pegged to a target P/NAV multiple of 1.18x and within the 0.5 to 1.0 standard deviation (s.d.) range.

“We prefer CDLHT and ART to ride on the strong recovery in RevPAR of their global portfolios but prefer CDLHT given its larger geographical exposure to the Singapore market,” explain the analysts.

Far East Hospitality Trust (FEHT) is also under DBS’s coverage, with a “buy” rating and TP of 78 cents. While its pure play Singapore status is a “plus”, Wong and Tan believe FEHT’s illiquidity could be a drag on its ability to see a sustained re-rating in share price — although FEHT’s performance will likely track that of its peers.

FEHT’s RevPAR was still below its pre-Covid level of close to $100 per night, while RevPAR for nine of CDLHT’s 10 hotels in June 2022 was ahead of June 2019. ART’s 2Q2FY022 revenue per available unit (RevPAU) was 82% of its 2QFY2019 RevPAU; its June 2022 RevPAU was 84% of June 2019 levels.

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Wong and Tan are positive on the “easing” labour shortage, which was touted as one of the key drawbacks in the initial part of the hospitality sector’s recovery. “We understand that the [labour] crunch has somewhat been alleviated from the relaxation of dependency ratios in Singapore, albeit selectively,” they say, adding that efficiency gains reaped during Covid have enabled hoteliers to be “nimbler” operationally.

And although utility costs have increased compared to a year ago, these price hikes can be passed through for most S-REITs and are unlikely be a major drawback given that hoteliers
have been able to price ADRs much higher, passing on most of the cost increases to consumers, they explain.

“In addition, for overseas portfolios especially in Europe, we understand that master-lease structures (for ART) are generally triple-net in nature and thus cost increases have little impact on the distributions for the S-REITs,” note the analysts.

Wong and Tan are expecting hotels to maintain profitability: “While the global economic slowdown is upon us, which may result in a cut-back in travel demand, that said, 2023 will still be a resilient year compared to the past 3 years which was hit by the pandemic.”

The pivot towards a broader lodging asset class, such as student accommodation and rental housing, by ART and CDLHT has also “infused more stability” to overall portfolio cashflows heading into 2023, they say.

Their catalysts include a 3QFY2022 “upside surprise” in RevPAR growth in 3QFY2022, as well as a China border reopening, which would drive the next leg of RevPAR recovery.

Shares in ART, CDLHT and FEHT closed at $1.05, $1.25 and 61 cents respectively on Sept 26.

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