OCBC Investment Research analyst Chu Peng has maintained her “buy” rating for Manulife US REIT (MUST) with a lower target price (TP) of 41 US cents (54.5 cents) from 47 US cents previously.
In her report dated Jan 6, Chu notes that MUST recently reported an update on its asset valuations, which declined by 10.9% y-o-y to US$1.95 billion as at end-December 2022.
“The decline in valuation was attributable to a mix of weakening occupational performance in MUST’s submarkets due to softer demand and leasing activity, as well as higher discount rates and capitalisation rates for certain properties on the back of macroeconomic headwinds and idiosyncratic risks at the property level,” says the analyst.
Figueroa, MUST’s third largest asset by property valuation as at end-2021, saw the most significant impairment, with its property valuation declining by 33.1% to US$211 million. As a result, MUST’s net asset value is estimated to fall by US$237.4 million, or 13 US cents per unit. Despite the decline in valuation, Chu says that MUST does not expect the financial covenants in its existing loans to be breached.
She notes that MUST’s interest coverage ratio (ICR) is projected to decrease to 3.1x, while gearing is expected to increase from 42.5% to 49% — a whisker shy of the Monetary Authority of Singapore’s (MAS) regulatory gearing limit of 50%. While MUST is exploring ways to lower its gearing level, it will prioritise divestments for now, says Chu, who adds that MUST would need to raise an estimated US$170 million to bring its gearing level down to 45%.
While MUST is trading at low valuations, she is turning more cautious on its outlook given potential risks from a mild recession in the US in 2023, the continued slowdown of leasing demand and activities in the US office market given structural challenges, higher vacancy and lower rental growth, and divestments at below book value given the challenging US office market.
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The analyst is also wary of a potential equity fund raising should the divestment process be slower-than-expected or if MUST is not able to decrease its gearing level below 50% via proceeds from divestments, which could lead to huge equity dilution to unitholders in the event of an equity fund raising exercise. She also highlights concerns over MUST’s inability to refinance its loan — MUST has US$105 million of debt due for expiry in 2023 — although she sees the risk likely to be low at this juncture, and further impairment of asset valuations should headwinds persist.
Factoring in the expected impact of persistent headwinds, Chu has decreased her distribution per unit (DPU) estimates by 3% to 9% for FY2022 to FY2026. Meanwhile, she has raised her cost of equity (COE) assumption from 10.5% to 11.8% on a higher beta input. These new assumptions lead the analyst to the lower fair value estimate of 41 US cents from 47 US cents previously.
On the other hand, Chu says MUST’s share price could see some reprieve if it manages to carry out dispositions at reasonable valuations or if it is able to secure replacement tenants for its Figueroa property.
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Her potential catalysts include stronger-than-expected portfolio rental reversions, DPU accretive acquisitions and a stronger-than-expected recovery in industry demand-supply dynamics.
As at 12.34pm, units in MUST were trading 0.5 US cents higher or 1.82% up at 28 US cents.