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Cromwell REIT's 1Q earnings up on higher logistics rents; undecided on DPU cuts

Amala Balakrishner
Amala Balakrishner • 8 min read
Cromwell REIT's 1Q earnings up on higher logistics rents; undecided on DPU cuts
As businesses look towards cutting costs, Cromwell European Real Estate Investment Trust (CEREIT) has interestingly bucked this trend with a positive rent reversion of some 12.1% for 1Q20 ended March.
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SINGAPORE (May 22): Like many countries in the world, several European nations have imposed strict lockdowns curbing the movement of people and goods between March and May. The move, which has contributed to a 3.8% decline in the GDP of the region, is a bid to halt the spread of the coronavirus pandemic.

Business owners have since been feeling the pinch with several companies offering non-essential services shuttering operations. And this has shown up in the European Commission’s Economic Sentiment Indicator — a metric on business confidence which registered its strongest monthly decline of 27.2 points in April.

But as businesses look towards cutting costs, Cromwell European Real Estate Investment Trust (CEREIT) has interestingly bucked this trend with a positive rent reversion of some 12.1% for 1Q20 ended March. This comes mainly from e-commerce operators requiring space to store their goods amid disrupted global supply chains that have dented the flow of goods across borders.

Simon Garing, CEO of the REIT’s manager, adds that the trend had begun since Brexit due to the longer inspection of goods at customs. This translated into a positive rent reversion average of 22.1% for its logistics and light industry spaces, as opposed to 2.1% for its office properties.

The REIT is now looking at “significant rent reversions” in April which will show up in its 2QFY2020 earnings ended June, noted Garing at a media briefing on May 12.

With its 94 properties in Italy, Germany, France, Finland, Poland, Denmark and the Netherlands, CEREIT has a total net lettable area of 1.4 million sq m giving it a net property value of EUR2.1 billion ($3.2 billion). These properties house over 900 tenants from light industrial and logistics (30%), office spaces (63%) and others (7%).

Collectively, these spaces contributed to CEREIT’s net property income (NPI) rising 17.2% to EUR31 million for 1QFY2020 from the EUR26.4 million recorded in the corresponding period the previous year. Meanwhile, gross revenue was up 21.4% to EUR48.5 million, from EUR40 million in 1QFY2019. This comes on the back of contributions from 14 new properties acquired over the past year, but was partially offset by the decline in income from the 13 properties divested between October 2019 and March 2020.

In 1QFY2020, total returns attributable to unitholders stood at EUR17.5 million, up 13% from EUR15.5 million a year ago. This translates into a distribution per unit DPU of EUR0.91 cents (1.39 cents), down around 10% q-o-q. This is because the manager has announced that base management and property management fees are paid fully in cash in the quarter compared to partly in units as at 4QFY2019. On a like-for-like basis, the manager claims that DPU is in line with the previous year. The actual distribution will only be determined at the end of the current 2QFY2020 as DPU is paid semi-annually.

Cautious on REITs

Analysts have now turned cautious on Singapore REITs as most have been cutting their payout ratios since the government extended their timeline to distribute at least 90% of their taxable income from three to 12 months, to be eligible for tax transparency.

REITs such as CEREIT which invests in foreign properties, enjoy exemptions on foreign-sourced income repatriated into Singapore. In addition, unitholders don’t pay withholding tax on distributions.

However, CEREIT had an income tax expense of EUR20.99 million or around 16% of its total return in FY2019 before tax. “All income tax expenses relate to income tax levied on CEREIT’s European subsidiaries that hold properties and earn income,” CEREIT’s annual report states.

In 1QFY2020, CEREIT’s portfolio occupancy rose 1.5% y-o-y to 94.7%, and its weighted average lease expiry (WALE) was lifted to 4.5 years.

“As evidenced by CEREIT’s operations and outstanding performance in 1QFY2020, its diversified portfolio has been designed for resilience, with the logistics assets providing access to the growing e-commerce economy, while the office assets provide longer leases to largely government and multinational tenant-customers. We remain very optimistic about CEREIT’s long-term value proposition,” Garing says.

Covid-19 drag

Despite its positive performance, Garing is now wary that the impact of the Covid-19 pandemic will hit CEREIT. “While we have not yet experienced any material financial impact from Covid-19, we are mindful that a number of our tenant customers are facing difficulties that cloud their business outlook for the rest of the year”. So far, the company felt the effects of the lockdown of northern Italy which impacted the operations of several clients such as its Starhotels Grand Milan in Saronno and the UCI cinema-anchored property in Lissone.

To mitigate these risks, CEREIT has begun to reduce its exposure to the vulnerable small and medium sized enterprise tenants by about 30%, since they are deemed to have lower credit worthiness. Such companies now only make up a tenth of CEREIT’s tenant base and include kindergartens, restaurants and gyms in its office spaces which have all taken a hit from a decline in footfall as patrons work from home and are not permitted to consume non-essential services. CEREIT’s remaining occupants come from government and semi-government leases as well as MNCs (63%).

Aside from this, Garing adds that the REIT has received several requests for their rents to be re-profiled, albeit at a slow pace. Such tenants account for about 15% of the REIT’s annual headline rent, with the bulk of these requests involving a transition from paying rents three months in advance to once a month. There have also been requests to defer rents or early lease renewals with rent-free incentives.

So far, EUR236,000 in rent abatements have been agreed upon, mainly to smaller tenants. This will be extended in exchange for early lease renewals or the removal of lease breaks by one to three years. These agreements were decided on a case-by-case basis unlike countries such as Singapore where the government has extended a property rental relief and property tax rebate to all business owners.

“There are no government decrees in certain countries that we are operating in where office and logistics tenants are given the right to [defer or not] pay rent. [This is] apart from a few instances in Italy around hotels and cinemas,” Garing observes. “The law is still very much on the property owner’s side”.

To further boost CEREIT’s cash levels in this period of global uncertainty, the manager has fully drawn down its EUR150 million revolving credit facility in mid-march. A portion of this has already been earmarked for the refinancing of an existing debt facility of EUR104.5 million expiring in August 2021. This is part of the company’s “safety first” move, Garing points out.

At present, CEREIT’s cash levels remain healthy with cash and cash equivalents of EUR229 million, and a 34.5% net gearing level as at end March. Said Garing, “CEREIT remains well within market-standard debt covenants and enjoys good relationships with many key banks across Asia and Europe, underpinned by the successful track record of both the REIT and its sponsor”.

Acquisitions on hold

Garing is now looking to hold off on further transactions in the next few months as part of its strategy to preserve cash and will toll over such projects to 2021. However, he stressed that this does not mean it will miss out on good deals. The company has signed two multi-year projects, with one in Paris and the other in Amsterdam. The Paris project will see the conversion of a dockland space into an urbanised site boasting an Olympic stadium as well as new metros and hospitals in the next three to four years. Meanwhile, the Amsterdam space is a rejuvenation of an old office lease which is still in the planning stages.

Garing adds that he expects property values to remain resilient given the central bank’s measures of pump-priming and an investment-conducive low interest rate environment. As such he is looking forward to a competitive edge in acquisitions which he is looking to source through his teams on the ground. “We don’t think there will be distress in property values in office and logistics, and we think they will hold up well so that yield spread is still very attractive”.

With this in mind, CFO Shane Hagen noted that the REIT manager has not considered foregoing management fees for a few quarters as its teams on the ground, “in every country it has assets in are working doubly hard to maintain relationships with tenants in this period”.

Analysts cautious

Looking at CEREIT’s results, analysts appear mixed on the company’s performance. UBS analysts Kok Wai Fai and Micheal Lim observe positive rent reversions and low expenditure of rental rebates which amounted to EUR0.2 million or 0.1% of total revenue. “15% of tenants have requested assistance, but rent deferrals and rebates have been minimal. 65% of rents due for expiry in 2020 have been de-risked up until September and should support a stabl near-term income stream,” the duo point out in a May 12 note.

As such, they are maintaining a “buy” call at EUR0.44, up EUR 4 cents from the EUR0.40 CEREIT was trading at on May 14.

Meanwhile, RHB Securities’ analyst Vijay Natarajan says the group’s key strength lies in its diversified pan-European asset portfolio comprising spaces in the growth sectors of industrial/logistics. He adds that the REIT’s long leases and capable management is also a plus.

However, he cautions that uncertainty surrounding the restart of economic activity in Europe, may not bode well for CEREIT — as with all companies in the present climate.

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