SINGAPORE (Apr 24): CIMB is reiterating its “add” call on ESR-REIT while lowering its target price on the trust to 60 cents from 64 cents previously after cutting FY18F-20F DPU estimates by 8-9.7%.

This comes after the REIT manager last week declared an EPU of 0.847 cent for 1Q18, 15.6% down from a year ago and below CIMB’s expectations at 20% of the research house’s full-year expectations.

See: ESR-REIT's 1Q EPU falls 15.6% to 0.847 cent on preferential offering

In a Monday report, lead analyst Yeo Zhi Bin explains that his previous estimates were overly-optimistic on the REIT’s net property income (NPI) margin, which came under pressure during 1Q due to new units issued under the REIT’s recent preferential offering and its distribution reinvestment plan units issued since 1Q17.

The analyst is also expecting the trust’s 2H18 outlook to remain soft due to the ongoing conversions of single-tenanted buildings to multi-tenanted ones, which would consequently affect gross rental income (GRI) in addition to a potential temporary income vacuum for 21B Senoko Loop.

Nonetheless, he believes that two of the acquisitions made in 2017 – namely 7000 Ang Mo Kio and 8 Tuas South Lane – coupled effective capital recycling to help mitigate some of the softness.

He is also positive on the asset enhancement initiative (AEI) which its 30 Marsiling Industrial asset is currently undergoing, and is expected to generate about 6% NPI yield post AEI works.

“ESR-REIT has secured long leases with these tenants; the addition will boost the occupancy of the property to 100% for a 5-year period (end-17: 82%). The AEI is expected to cost close to $10 million to $12 million and is scheduled for completion in 1Q19,” notes Yeo.

“With the completion of the preferential offering in 28 Mar (262.8 million new units were issued, raising gross proceeds of $141.9 million), gearing was pared down from 39.6% to 30%. Assuming a 40% cap, we estimate ESR-REIT has debt headroom of close to $270 million for further capital redeployment,” he adds.

At the unit price of 54 cents, Yeo believes valuations remain constructive for ESR-REIT given it is trading at 7% FY18F yield and 0.9 times current price-to-book value.

“A successful merger with Viva Industrial Trust could also re-rate the stock. Downside risks are weaker-than-expected organic growth and higher rate hikes,” concludes the analyst.

As at 12:41pm, units in ESR-REIT are trading 1 cent lower at 53 cents or 0.93 times book.