Cache Logistics Trust - DBS Research 2017-07-27: The Boomerang Of Gearing

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CACHE LOGISTICS TRUST K2LU.SI

Cache Logistics Trust - The Boomerang Of Gearing

• 2Q17 DPU fell 10% owing to weakening operations and enlarged unit base, in line
• High gearing of 43% needs to be addressed soon through equity fundraising
• Historical NAV and price have depicted high correlations with gearing level
• Target Price raised to S$0.82, maintain HOLD.

Attractive yield of 8%, maintain HOLD. 

• Cache Logistics Trust (Cache) offers an attractive forward yield around 8%. It owns a portfolio comprising some of the newest warehouses in Singapore as well as high-quality warehouses in Australia, which will offer sustainable returns to investors in the long term after weathering through the sector’s cyclical downside. 
• We maintain our HOLD call owing to the near-term uncertainties of possible further rental downside risk, as well as potential DPU dilution if the REIT undertakes a consequence of equity fundraising to recapitalize the balance sheet (not priced in yet).

WHAT’S NEW

2Q17 DPU decline within expectations; high gearing needs to be addressed soon 

• DPU fell 10% y-o-y due to weakening operations, in line. 
• Gross revenue for 2Q17 was S$27.9m, S$0.2m or 0.7% down y-o-y, while net property income (NPI) was S$21.7m, S$0.9m or 4.0% lower y-o-y. The decline was mainly due to the divestment of Cache Changi Districentre 3 (January 2017) and lower income received under protest for 51 Alps Ave (aka Schenker), offset by 18.0% higher rental contribution from Australia mainly due to the acquisition of Spotlight warehouse in Melbourne (March 2017), as well as higher property operating expenses (up 12.7%) as a result of the acquisitions and the loss of efficiency from single-to-multi tenancy conversions. 
• Distributable income amounted to S$16.3m, 8.8% or S$1.6m decrease from 2Q16. Apart from lower income from operations, the fall was also due to higher trust expenses (increased from S$0.6m to S$0.9m) associated with legal fees accrued for the ongoing ‘Schenker’ legal proceedings. 
• 2Q17 DPU was 1.80 Scts (including 0.013 Scts capital distribution from previous sales proceeds reserved), 9.5% down y-o-y as the unit base increased by 0.8% due to management fees paid in units. 
• 1H17 DPU represents 50.0% of our FY17 full-year forecast, in line.

Gearing edged up to 43.4% and needs to be addressed soon.

• Although investment properties stayed at the same level from six months ago, NAV fell by 1.3% from 0.78 Scts to 0.77 Scts, due to 0.8% increase in borrowings and 0.3% increase in outstanding units since December 2016. 
• A trivial matter otherwise, the REIT’s already-high gearing crept up from 43.1% to 43.4% consequently – a rather constrained level compared to its peers' 34-38%. 
• The Manager is keen to bring the gearing level down to below 40% to provide the REIT more financial flexibility in order to acquire more assets to bulk up and diversify the portfolio. Without any major asset divestments, we believe some form of equity fundraising is probable in the near term.

Occupancy remained above industry average with no major lease due until FY18. 

• The portfolio’s committed occupancy remained higher than the industry average at 98.3%. Weighted average lease expiry is 3.5 years with less than 2% of the portfolio’s NLA remaining to be renewed for the rest of FY17. 
• In FY18, c.21% of all leases will be expiring, the bulk from CWT Commodity Hub, the REIT’s largest asset. About 94.3% of distributable income is hedged or derived in SGD, including c.60% foreign currency income hedged into SGD.

Stable refinancing outlook. 

• No financing requirement in FY17, c.41% of total borrowing will be due in 2H18 including S$192m SGD borrowings and A$30m AUD borrowings. 
• Average financing cost remains stable around 3.5%. About 70% of SGD borrowing and 50% of onshore AUD borrowings are hedged into fixed rates.

Update on Schenker dispute: 

• No concrete development since the ‘holding arrangement’ was signed on 26 September 2016.
• Cache is now receiving S$0.77 psf per month in protest from the tenant. Management provided no indication about the timeline of the cumbersome juridical procedures.

OUR VIEW 

• We maintain our HOLD call and TP is raised to S$0.82 from S$0.77 after rolling forward earnings by one year and moderated discount rate assumptions based on the belief that the industrial sector is bottoming out after over three consecutive years of decline. 
• Despite a potential downside on price as the stock is trading at c.20% premium to NAV, the stock offers an attractive yield of close to 8%.

Where we differ: 

• Our DPU estimates are more conservative in FY18F. Our estimates are lower in FY18F on the back of projected lower occupancies and negative rental assumptions. We however estimate that the resolution of the Schenker case by end of FY18 and rents to revert back to market level. 
• Our TP is also conservative as we applied a higher discount rate in view of the REIT’s constrained debt-financing ability as its gearing level approaches the regulatory limit and the potential dilutive impact of the probable near-term equity fundraising.

Potential catalyst: 

• Resolution of the Schenker case. Resolution of the rent dispute at 51 Alps Avenue will remove some overhanging uncertainties and improve DPU (as Cache is currently receiving below the contracted rent and paying extra juridical fees), and potentially the stock price.

Key Risks to Our View

• Equity fundraising: Cache’s debt financing ability is constrained as its current gearing level of c.43% is approaching the regulatory ceiling of 45%. In order to fund any acquisitions or just to simply pare down gearing, equity fundraising is on the horizon and could potentially dilute DPU.

Derek Tan DBS Vickers | Singapore Research Team DBS Vickers | http://www.dbsvickers.com/ 2017-07-27

DBS Vickers SGX Stock Analyst Report HOLD Maintain HOLD 0.82 Up 0.770