We have added the percentage of fixed date, and term to maturity, in our S-REIT table as markets prepare for rate hikes by the US Federal Reserve. REITs with no refinancing in 2022 (there are a few), a high portion of fixed rates, and long term to maturity have lower risk of being impacted by rate hikes.
Of course, rents, leasing strategy, quality of assets, and the way properties and portfolios are managed are important metrics that affect rental income. For S-REITs, interest expense is arguably the largest expense item, and more impactful than fees — which usually get a bit more attention. Sometimes, capital management and sponsor support can make a difference to valuations.
REITs’ results have been pouring in this past week (Jan 24-28). Among the top performers in distribution per unit (DPU) growth was Suntec REIT. In FY2021, its DPU grew 17% y-o-y to 8.666 cents, giving the REIT a DPU yield of 5.55%. As at Dec 31, 2021, Suntec REIT’s net asset value (NAV) stood at $2.11, translating into a P/NAV of 0.7 times.
While Suntec REIT’s DPU has grown through its mixture of assets and acquisitions in various cities, the REIT may have a challenge with capital management. Suntec REIT is one of perhaps two REITs that have not had a rights issue, or equity fund-raising. This is because it is an independent REIT, with no clear sponsor. Its aggregate leverage ratio is at 43.7% as at Dec 31, 2021, because of the upward revaluation of its Australian portfolio, in particular 177 Pacific Highway. As at Dec 31, 2020, Suntec REIT’s leverage was at 44.3%. Its interest coverage ratio as at Dec 31, 2021, stood at 2.6 times, a shade above the regulatory 2.5 times.
Over and above a high leverage and low ICR, Suntec REIT’s debt costs as a portion of its revenue is 35%. This is higher than that of Keppel REIT (which has a joint venture with Suntec REIT in One Raffles Quay), where interest expense is just 23.8% of revenue. Keppel REIT’s average cost of debt is 1.98% compared to Suntec REIT’s 2.35%.
In addition, Keppel REIT’s percentage of fixed rate debt is around 63% compared with Suntec REIT’s 53%. Moreover, Keppel REIT does not have any refinancing to do this year, making it a safer proxy play for Singapore and Australian office property.
Suntec REIT has to refinance some $500 million this year. While this is a modest amount compared to its total debt of $4.94 billion, the absence of a sponsor means that Suntec REIT is likely to take on debt or perpetual securities if it plans any further inorganic growth. Its largest unitholder is Straits Trading.
Small impact from a rate hike
Kang Leng Hui, CFO of Keppel REIT’s manager, says: “We are looking very closely at the increase in rate hikes and have taken those into account in our own hedging exercise, so we expect to see further increases in our fixed debt ratio.”
Keppel REIT’s main debt is in Singapore dollars and Australian dollars. The pass-through of US interest rates to local rates such as Sibor, Sor and Sora is stronger in Singapore than for Australian rates where the Reserve Bank of Australia sets its own rates.
“[Based on the ratio of SGD and AUD], for every 25 basis points rise in the cost of debt, DPU is impacted by 0.08 cent,” Kang says.
Elsewhere, Frasers Centrepoint Trust’s (FCT) portion of fixed debt is modest, at around 54%. Its interest expense accounts for just 13% of revenue. Audrey Tan, CFO of FCT’s manager, says if the remaining 56% of debt is fixed, every 10bps rise in rates impacts DPU by less than 0.5%.
Keppel DC REIT has hedged 74% of its interest cost. The remaining 26% that is floating is in euros, where rates are set to remain very low. “In future, for loans, there will be incremental borrowing costs because the reference rate is on a rising trend. But it’s manageable,” says Adam Lee, CFO of Keppel DC REIT’s manager. Most of Keppel DC REIT’s Singapore dollar debt is fixed for four years. A small tranche will be converted into GBP to finance the recent acquisition of a London data centre.
Higher rates could also impact capitalisation rates, raising capitalisation and discount rates and keeping valuations at reasonable levels. REIT managers articulate that capitalisation rates are only part of the consideration when making acquisitions.
“Whenever we look at acquisition opportunities, we have a certain percentage of equity to balance out our cost of capital. We also look at whether the acquisition has rental escalation to offset the higher cost including inflation, and interest rates on a forward basis. Sustainable income is core to us when we look at any acquisition,” says Anthea Lee, CEO of Keppel DC REIT’s manager. “For our acquisition strategy in 2022, as we get bigger, we would want to look at assets that are larger, to move the needle more,” she adds.
Richard Ng, CEO of FCT’s manager, says entry capitalisation rates are only one of the items he looks at in an acquisition. “When you invest in a property, you look at it from the perspective of what value you can unlock, identify asset enhancement initiatives and opportunities to improve the asset, to economies of scale to increase the yield of the portfolio over time,” Ng explains.
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Keppel REIT’s refreshed look
Over at Keppel REIT, Koh Wee Lih, who was appointed CEO of the manager in December last year, says in broad brushstrokes, his key areas of focus are growth of the portfolio, optimisation and sustainability, and capital and risk management.
“Keppel REIT has a very good portfolio and we also have very strong partners and sponsors. So definitely I would want to leverage the strength of the portfolio, the partnership, as well as our sponsor, to drive growth,” Koh says.
On acquisitions, Keppel REIT will continue to look at commercial property in Singapore, Australia and other overseas markets. “From an acquisitions and financials standpoint, [Koh] has always been very prudent at AIMS APAC REIT,” note analysts who cover AA REIT.
On ESG, Koh says Keppel REIT has set ambitious targets on emissions. On optimisation and efficiency, he will be looking at reducing costs.
“We have enjoyed a low interest rate environment for a while right now. The talk is, definitely, interest rates will increase. This is a matter of how soon and when. So we also want to make sure that we have eyes on the horizon, to navigate this increasing interest rate environment. With our exposure, and natural hedges, we believe in hedging of the income,” Koh elaborates, referring to Keppel REIT’s Australian portfolio which accounts for 18.1% by assets.
Photo: Albert Chua / The Edge Singapore