SINGAPORE (Aug 5): In early 2017, I bought some units in CapitaLand Commercial Trust to ride the tightening supply of top-end office space in Singapore. Even though stocks were rising, there was a fair amount of nervousness in the market. But I figured I would still earn a decent yield from CCT amid the volatility.
As it happened, the real estate investment trust (REIT), which owns properties such as Capital Tower, CapitaGreen and Six Battery Road, proved to be a really good investment. Over the last 2½ years, it paid out copious amounts of cash while the market price of its units soared. But CCT is now looking expensive, in my view. It reported a distribution per unit (DPU) of 8.7 cents for 2018, and 4.4 cents for 1H2019. So, when its units closed at a high of $2.30 on July 5, they would have been trading at a yield of less than 4%.
Unfortunately, I missed that opportunity to sell, and the market price of units in CCT has since fallen. Part of the recent decline in CCT could be attributed to its units trading ex for distributions totalling more than five cents per unit. More importantly, some investors might be realising that they face heightened risk of being diluted, as CCT’s currently healthy market valuation provides its manager with an opportunity to pursue a more intensive pace of acquisitions and capital-raising activity.
In an announcement dated July 17, less than a fortnight after units in CCT hit their recent closing peak, its manager unveiled a proposal to raise some $220 million through a placement of new units. CCT’s manager subsequently said more than 105 million new units had been sold at $2.095 each. Although the placement price was at the top end of the expected range of $2.043 to $2.105, it was still a more than 3.7% discount to the volume weighted average market price of CCT’s units of $2.1762 on July 17.
Investors who bought units in CCT during the few weeks leading up to July 17 would probably be feeling short-changed by the placement. They have effectively been diluted by the issue of new units to other investors at a lower price than they paid. On the other hand, long-time unitholders like me, who got in at a much lower price than $2.095, might not mind quite as much. In fact, there is something to be said for widening CCT’s investor base through such placements to support the expansion and diversification of the REIT’s asset portfolio.
Still, CCT’s recent placement has obviously impaired the immediate realisable value of its units. While the market price of CCT’s units prior to July 17 was being set by trading in the secondary market, the REIT’s market price since then is being influenced by the price information from the placement. If CCT plans to make more acquisitions and partly fund them through further such placements of new units, the market price of its units could well be stuck around $2.095 for a while. They closed at $2.06 on Aug 1.
Of course, much ultimately depends on the underlying performance of CCT’s assets. CCT’s manager has said that the proceeds from the placement will be put towards the recently announced acquisition of a 94.9% stake in Main Airport Center in Frankfurt, Germany. The asset is being purchased for €251.5 million ($384 million) and is expected to be immediately accretive to CCT’s DPU. CCT is also planning to refurbish and reposition existing assets such as 21 Collyer Quay and Six Battery Road in 2020. Meanwhile, rents for Grade A office space climbed 11.9% y-o-y in 2Q2019 and CCT’s manager is expecting growth to continue for the rest of the year.
Even with the wind in their backs, however, REITs such as CCT are at risk of alienating investors with discounted private placements. One reader of The Edge Singapore suggested to me recently that it is time to introduce some standards for such placements. Among the ideas he offered that I thought sounded reasonable was that discounted placements should only be allowed if they are done in conjunction with similarly priced rights issues. Otherwise, private placements ought to be done only at a premium to a REIT’s volume weighted average price over a reasonable period of time.
SMG’s deal with CHA
To be sure, it isn’t just REITs that should have their capital-raising strategies scrutinised. Public-listed companies have been known to treat existing shareholders unfairly too. In recent weeks, some readers of The Edge Singapore have highlighted a number of such cases to me. One interesting case involved a company called Singapore Medical Group.
This is a company that The Edge Singapore wrote about glowingly in a cover story early last year (Issue 823, March 26, 2018). The story focused on how SMG’s fortunes had turned after a group of seasoned healthcare players acquired control of the company in 2013. Among them was Tony Tan Choon Keat, who co-founded Parkway Holdings in 1979 and was its managing director until 2000. Parkway would later become part of IHH Healthcare. Tan is now non-executive chairman of SMG.
Tan’s partners were Dr Beng Teck Liang, who is now CEO of SMG; and Dr Ho Choon Hou, co-founder and vice-chairman of Cordlife Group. According to our story last year, after they took over, SMG raised funds through placements of new shares and rights issues, and made acquisitions totalling roughly $110 million. In 2016, SMG turned profitable and its shares rocketed.
Among the parties that had subscribed to SMG’s placements was Korean healthcare group CHA Health Systems. CHA also supported SMG on a number of projects. Notably, in 2018, SMG and CHA jointly acquired a majority stake in a fertility specialist group in Australia. Then, in early 2019, SMG announced plans to work with CHA to create the largest fertility and women’s health platform in the Asia-Pacific region.
As part of this effort, a unit of CHA agreed to provide SMG with a convertible loan of $10 million. The rate of interest was stated to be 3.5% a year, and the loan is repayable after one year. CHA has the right to convert the loan into new SMG shares at a conversion price of 42.3 cents, which represents a 3.5% discount to the volume weighted average price of the stock over the 30 days prior to the announcement.
Separately, SMG said it had been “informed” that CHA had also agreed to purchase 83 million SMG shares from five individuals — including Tan, Beng and Ho. That would increase CHA’s stake in SMG from nearly 6.9% to more than 24.1%. The agreed price was 60.5 cents per share.
If I were a shareholder of SMG, I would think it unfair that the key shareholders of the company, some of whom sit on the board, have the opportunity to monetise a portion of their holdings at a substantial premium while I do not. I would also think it strange that their shares are being sold to the party that is extending a convertible loan to SMG with a much lower conversion price.
Interestingly, the independent financial adviser engaged by SMG to assess the financial terms of the convertible loan declared the conversion price to be “not fair but reasonable”. At an extraordinary general meeting on April 25, shareholders of SMG passed a resolution to allot the necessary new shares to CHA upon conversion of the $10 million convertible loan. Of the nearly 140.4 million shares represented, 81.48% voted for the resolution while 18.52% voted against it. CHA and the five individuals from whom it is buying the 83 million SMG shares abstained.
Oxley’s Ching questions UE
Another interesting case that one of our readers grumbled about is that of United Engineers. On July 5, the company announced that its subsidiary WBL Corp had sold the more than 21.7 million UE shares that it held. This was equivalent to a 3.41% stake in UE. The announcement also stated that the proceeds from the sale of UE shares would be used to fund investment opportunities and the company’s working capital needs.
On July 12, UE put out another announcement on the matter. It said that the shares were sold at $2.58 each, which was the prevailing market price on July 5. It also said that the shares had been sold to “independent unrelated third parties” that had been sourced and selected by the placement agent UOB Kay Hian. WBL Corp was not involved in the process of sourcing or selecting the end placees, the announcement added.
The additional information came as Ching Chiat Kwong, founder and CEO of Oxley Holdings, which owns a major stake in UE, made it clear that he was miffed that he hadn’t been sounded out as a potential buyer of the 21.7 million UE shares. He questioned whether the best price had been obtained for the shares and suggested that UE would have been better off borrowing the funds it needed given its relatively low gearing.
UE is controlled by a consortium led by Yanlord Land Group and Perennial Real Estate Holdings. The consortium owned 36.52% of UE as at March 6. Ching had a total direct and deemed (through Oxley) interest in UE of 22.4% as at June 19. Ching reportedly made two appeals for a seat on UE’s board last year, but was rebuffed both times.
It seems unlikely to me that UE broke any rules, but I can understand Ching’s frustration. Indeed, it is the same frustration that minority investors at CCT and SMG probably felt at the sight of shares being sold to third parties on terms that do not seem to be in their favour.
Options for small investors
So, what can investors do to discourage such behaviour by their companies? Obviously, they can turn up at annual general meetings and vote against resolutions that provide their companies with mandates to issue new shares and conduct share buybacks.
However, they might not succeed, especially if the company in question has a dominant shareholder. And, if they do succeed, the company would lose some of the key advantages of having a public listing, which would be to the detriment of all its shareholders. I am not suggesting that investors immediately resort to such action, but it is something they should educate themselves about.
Another course of action small investors can take is to mount a campaign to persuade the company in question to change its behaviour. For instance, they could ask questions loudly, as Ching is doing with UE, and try to mobilise support for their cause. In my view, this is worth doing in instances where the company’s shares are trading at depressed levels.
On the other hand, if a stock is already close to being fully valued, small investors might be better off just walking away, which is what I might do with CCT. While the recent placement has knocked down the market price of its units, I am hoping for an eventual rebound as confidence returns. If its DPU yield sinks below 4% again, I would be a grateful seller.