SINGAPORE (Sept 24): Unitholders of OUE Commercial Real Estate Investment Trust are likely to vote in favour of the three resolutions put to them on Sept 28. This includes the sale of the office portion of OUE Downtown to the REIT for $908 million. OUE, as sponsor and major unitholder of OUE C-REIT, has given an undertaking to subscribe to its share of the rights issue announced on Sept 11, which is likely to be $328.29 million. In the event that OUE as sub-underwriter has to take up as much as 66% of the rights issue, it would still experience a cash inflow of $199.75 based on the monies raised through the rights issue. Overall, OUE is set to book at least $520 million in cash inflow from the transaction, excluding fees.
Separately, on Sept 18, OUE announced it was acquiring a 60% stake in Bowsprit Capital from Lippo Karawaci for $59.4 million. Its 64.35% subsidiary, OUE Lippo Healthcare, will acquire the remaining 40% stake in Bowsprit Capital from Lippo Karawaci for $39.55 million. Bowsprit Capital is the manager of First REIT and owns 55.05 million units, or 7%, of the REIT. Lippo Karawaci is First REIT’s sponsor and holds 27.9% of the REIT.
OUE Lippo Healthcare will also acquire a 10.63% stake in First REIT for around $1.228 per unit, or $102.65 million. To fund the First REIT stake, OUE Lippo Healthcare announced on Sept 18 a one-for-one rights issue at 6.75 cents per share, to raise $149.95 million. OUE Lippo Healthcare’s major shareholders, OUE and Itochu (25.32%), have given an undertaking to subscribe to their share of the rights. OUE’s share of the rights is likely to be $96.49 million.
An extraordinary general meeting will be held to vote on OUE Lippo Healthcare’s acquisition of the 40% stake in Bowsprit Capital and 10.63% stake in First REIT. Both resolutions have to be passed for the transaction to take place.
Suzhou CCSD Capital Markets says in a comment: “Overall, given the slow property market in Indonesia, we view these ‘related party’ transactions as stronger sister companies coming to the rescue of Lippo Karawaci.”
Why we should be concerned about Lippo Karawaci
The Indonesian rupiah has been caught in the downdraft from the emerging market currency contagion. A number of Indonesian property developers including Lippo Karawaci have US dollar-denominated debt.
On Sept 19, Moody’s Investors Service downgraded the corporate family rating of Lippo Karawaci to B3 from B2 with a negative outlook. B3, according to Moody’s ratings, is defined as speculative, and investors view it as “junk”. The downgrade appears to have been triggered by Lippo Karawaci’s announcement that it plans to divest itself of a stake in First REIT and its manager.
“The downgrade reflects our expectation that Lippo Karawaci’s operating cash flows at the holding company level will weaken further over the next 12 to 18 months, such that the company’s ability to service its debt servicing obligations will be subject to its ability to execute asset sales,” says Jacintha Poh, a Moody’s vice-president and senior analyst. “Lippo Karawaci will receive a liquidity boost of $202 million (IDR2.2 trillion) in November 2018, if the sale (of Bowsprit and stake in First REIT) is completed. However, these sales do not address the fundamental weakening of Lippo Karawaci’s operating cash flows,” she says.
“We also estimate that the added liquidity will only be sufficient to cover the company’s cash needs until September 2019 given the company cash burn rate of around IDR1.1 trillion in 2018 and around IDR1.3 trillion in 2019,” Poh adds.
According to an earlier Moody’s report, around half of Lippo Karawaci’s consolidated earnings before interest, taxes, depreciation and amortisation (Ebitda) is contributed by its subsidiaries listed on the Indonesia Stock Exchange. These are Siloam International Hospitals and Lippo Cikarang, in which Lippo Karawaci holds stakes of around 51% and 54%, respectively, as at Dec 31, 2017.
Siloam International Hospitals houses the Lippo group’s healthcare business, while Lippo Cikarang is part of its property business. Lippo Karawaci also owns the managers of First REIT and Lippo Malls Indonesia Retail Trust (LMIRT), and holds a 27.9% and 30% stake respectively in the REITs.
In FY2017, Lippo Karawaci’s property development business accounted for 36% of reported Ebitda, Moody’s says, with the remainder coming from its other businesses such as healthcare, leasing of retail malls and hotels, and property and portfolio management. These other businesses contributed to the sprawling group’s sources of recurring income.
The largest contributor to Lippo Karawaci’s recurring income is its healthcare business. Moody’s says this business is expected to remain resilient to macroeconomic challenges and should continue to grow, supported by the rising demand for quality hospital services amid a supply shortage in Indonesia. While Lippo Karawaci retains control of Siloam International Hospitals, its recurring income from First REIT and its manager is likely to reduce significantly by November this year.
Meikarta a millstone
Over the last two years, Meikarta — a 500ha development project targeting lower-middle-income consumers located in the east of Greater Jakarta — was Lippo Karawaci’s only new project. It is 49.99%-owned by Lippo Cikarang. The Indonesian press says the Lippo group has been “mass advertising” Meikarta. There are estimates that its gross development value is around US$20 billion ($27.4 billion).
Meikarta is styled as a self-contained city. It will include 92 apartment and office towers, 18 of which are under construction, and 1.5 million sq m of commercial space. There will also be 10 five-star hotels, a shopping mall, an international-standard hospital, 150 elementary and high schools, three universities and an industrial research centre. When completed, the mega development will be situated near the new Kertajati International Airport, the Trans-Jakarta Tollway and a planned Jakarta-Bandung high-speed railway that could cost US$5.8 billion.
According to the Indonesian press, Meikarta’s success rests on housing thousands of middle-income industrial estate staff. It would also conceivably work in synergy with the Chinese-funded Jakarta-Bandung railway and other major West Java infrastructure projects.
Cash inflows and outflows
While Meikarta requires further investment, Moody’s is expecting an “increasing mismatch between [Lippo Karawaci’s] cash flow — that is, total consolidated cash flow excluding the cash flow of Siloam International Hospitals and Lippo Cikarang, but including any intercompany cash flow such as dividends and proceeds from asset sales — and its debt-service obligations, largely driven by the lack of new development projects at the holding company level”. Among the concerns Moody’s raises are lower distribution per unit from LMIRT because of the weakening rupiah, as well as higher interest expense on its US dollar debt because of rising US interest rates. Lippo Karawaci remains exposed to refinancing risk because there is insufficient liquidity to address its total outstanding debt maturities in 2018 and 2019, Moody’s says.
As at March 31, Lippo Karawaci had around IDR1.3 trillion of debt coming due in 2018 and 2019. This includes local and US dollar debt, such as a US$50 million syndicated loan with UBS Group and Deutsche Bank that was originally due September 2018, but for which Lippo Karawaci has extended the maturity to April 2019. Lippo Karawaci also appears to bear foreign exchange risk for First REIT, whose Indonesian properties’ base rent is pegged to the Singapore dollar.
OUE should be insulated
OUE is likely to experience a cash infusion from its sale of the office portion of OUE Downtown to OUE C-REIT for $908 million. In the meantime, US Bank Tower in Los Angeles — which it acquired for US$367.5 million in 2013 — was valued at US$605 million as at Dec 31, 2017. OUE is trading at just 0.34 times its net asset value of $4.49.
In a statement, its executive chairman Stephen Riady says the Bowsprit acquisition is “a key component of OUE’s business and growth strategy” as it boosts OUE’s asset management business. The juggling of assets within the group will bring OUE’s assets under management to about $8 billion, and Riady says he plans to grow it to $10 billion by 2019.
Another OUE-related REIT, OUE Hospitality Trust in which the sponsor has an approximately 37.5% stake, has declined more than 7% since Sept 10. The decline was triggered by OUE C-REIT’s dilutive rights issue, and the expectation that OUE could divest itself of Oakwood Premier, the serviced residence portion of OUE Downtown, to OUEHT.
OCBC Investment Research says this is unlikely because Oakwood Premier has yet to be stabilised. “Even if OUEHT does acquire Oakwood Premier, we believe it is more likely to conduct a placement as opposed to a rights issue given the size of the potential acquisition,” OCBC says. It is valuing Oakwood Premier at between $268 million and $322 million and reckons that OUEHT has the capacity to do a placement instead of a dilutive rights issue.
“With these factors in mind, our base case is that OUEHT will not pursue an acquisition of Oakwood Premier in the near term,” OCBC says. It has upgraded OUEHT to a “buy” from a “hold”.
