(Aug 5): Ascott Residence Trust announced on July 11 that Gordon Tang (who has a 6.1% stake in Ascendas Hospitality Trust) and AHDF (which has a 4.1% stake in AHT) have given their irrevocable undertaking to accept ART’s offer to buy AHT. CapitaLand, which owns 28.04% of AHT and around 44% of ART, cannot vote.

On July 3, ART and AHT announced a merger by a scheme of arrangement, subject to approvals from the court, regulator, stapled security holders and unitholders. The “scheme consideration” is based on a gross exchange ratio of 0.836 times, which is derived from the net asset value per stapled security of AHT of $1.02 as at March 31 divided by the NAV per unit of ART of $1.22 as at Dec 31. ART’s NAV as at June 30 was $1.27.

ART is unlikely to raise its price for AHT. “The total consideration cannot be revised, but the ratio between cash and units may be reviewed, subject to CDP’s [Central Depository] approval,” a CapitaLand spokeswoman says.

In a briefing on July 3, ART’s manager said there would be a 2.5% distribution per unit (DPU) accretion to ART unitholders from the merger, but that it would be neutral to NAV per share. ART had several reasons for the merger. A larger portfolio is less risky because of diversification. Other advantages are potential positive rerating, a wider investor base and higher trading liquidity. With increased financial flexibility such as higher debt headroom, the combined ART-AHT entity would be able to drive DPS, or distribution per stapled security, growth. With AHT’s portfolio in Japan, Korea and Australia, ART will be able to strengthen its position in developed Asia.

According to the indicative timeline for the merger, the extraordinary general meeting for both trusts will be held in October.

ART, which owns 74 properties in 14 countries, was the sole hospitality trust that showed positive revenue and DPS/DPU (distribution per unit) growth for the quarter ended June 30 (see Table 1). On July 30, ART announced that 2QFY2019 DPU grew 8% y-o-y to 1.98 cents. Excluding forex gain, DPU would have been flat at 1.84 cents. A realised exchange gain of $3.1 million, arising from the repayment of foreign currency bank loans with the divestment proceeds from Ascott Raffles Place Singapore, buoyed distributable income by 8% y-o-y, to $43.1 million. Revenue for 2QFY2019 increased 2% y-o-y to $132.5 million, which was mainly attributed to additional revenue from the acquisition of Citadines Connect Sydney Airport in May 2019 and higher revenue from existing properties in the Philippines, the UK and Japan.

“Out of the $300 million [from the sale of Ascott Raffles Place], we paid down loans, recognised forex gains, which was paid out in DPU, and invested in Citadines Connect Sydney Airport and Lyf one-north. So, proceeds have been fully utilised,” says Beh Siew Kim, CEO of ART’s manager, during a recent results briefing. Citadines Connect is a five-minute walk from Sydney’s domestic airport. With The Ascott Ltd managing it, Beh is expecting a ramp-up and positive growth in average daily rates.

Elsewhere, ART has completed an asset enhancement initiative (AEI) at Element New York Times Square and Grand Citra Jakarta. The New York property has a refreshed lobby and the rooms are beautiful, Beh says. The US market — where ART owns three properties — is now a meaningful contributor to gross profit (ART’s equivalent of net property income), accounting for 20% of gross profit and 16.7% of asset value. Of the 14 countries that ART has properties in, eight contribute 86% of its gross profit. The other seven are Australia (6%), China (9%), France (11%), Japan (12%), Singapore (10%), the UK (10%) and -Vietnam (8%).

In 2QFY2019, Asia-Pacific contributed 49% to gross profit, with the other 51% coming from Europe and the US. Around 40% of gross profit was contributed by stable income from properties on master leases and on management contracts with minimum guaranteed income, while the remaining was from properties on management contracts. After the merger with AHT, the enlarged ART will have 46% of gross profit from stable income, based on pro forma 2018 numbers. The enlarged ART will also have a debt headroom of $600 million to $700 million, based on an aggregate leverage of 40%.

Keeping AHT’s properties

Asked whether there are any assets that she does not like in AHT, Beh says: “AHT has 14 very good assets, all in key gateway cities. The Korean and Japanese properties are on master leases and we are happy to keep them.”

The management contract of AHT’s Australian properties expires in three years and that gives ART the opportunity to evaluate them for value-enhancing initiatives.

“We are still positive on the Australian market, although in the short term, there is some concern,” Beh says. This is in relation to the oversupply in some cities, particularly Melbourne. A total of 10 million visitors arrive in Australia annually, of which Sydney gets five million, Melbourne two million and Brisbane one million. “It’s a very resilient country and our properties are well located to fend off the supply issue,” Beh points out.

ART set to call perps due in October

ART has $400 million of perpetual capital securities (perpetuals), of which the first call date for the $150 million 5% perpetuals is Oct 27. “The opportunity is to lower the cost of funding and we are evaluating options,” Beh says. Since interest rate trends are falling, she is confident of lowering funding costs to below 5%.

OCBC Credit Research expects that ART can save as much as 80 basis points. “Our base case assumes that ART would be refinancing [the $150 million 5% perpetuals] with a replacement perpetual. We see the non-call risk at first call to be low, as we think ART is able to replace this by at least around 80bp savings versus the current distribution rate of 5%,” OCBC Credit Research says.

“As at June 30, reported aggregate leverage was low at 32.8%. While taking 50% of the perpetual as debt, our estimated adjusted aggregate leverage was about 36%, though we think this is just a blip,” OCBC Credit Research points out. “We expect adjusted aggregate leverage to go to about 39% following the investment outlay for Lyf at one-north greenfield development, [and] factoring in the acquisition of sister trust AHT. We think adjusted aggregate leverage will ultimately be slightly lower at 38%, as AHT had a lower aggregate leverage of 33.2% on a standalone basis as at March 31.”

OCBC Credit Research expects the merger to be approved by ART’s unitholders and AHT’s security holders. “We are likely to upgrade ART’s issuer profile to Neutral (3) [from Neutral (4)] following completion of the combination of ART and AHT,” it says.

Elsewhere, UOB Kay Hian has maintained its “buy” call against a background of resilient and broad-based growth, and DPU accretion from the merger.

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