Soilbuild Business Space REIT - DBS Research 2018-07-17: Persistent Headwinds

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SOILBUILD BUSINESS SPACE REIT SGX:SV3U

Soilbuild Business Space REIT - Persistent Headwinds

• Soilbuild REIT's 2Q18 DPU of 1.26 Scts in line.
• Negative rental reversions a persistent ache butconversion of Solaris master lease to multi-tenantedstructure could provide some relief.
• Interest savings kick in on lower gearing of 37.6%(2Q18) vs 40.2% (1Q18).
• Maintain HOLD with Target Price of S$0.62.

Maintain HOLD, Target Price S$0.62.

• We maintain our HOLD call on Soilbuild Business Space REIT (SBREIT) with a Target Price of S$0.62, implying c.3% total return.
• While occupancy levels for West Park BizCentral are showing signs of stabilising, we believe the still-negative rental reversions, ongoing uncertainties surrounding specific assets and lack of imminent catalysts could continue to cap share price performance. 

Where we differ: More conservative forecasts.

• 2Q18 results remained weak with backfilling of vacancies at West Park BizCentral kicks in.
• Ability to backfill vacancies for 72 Loyang Way (c.11% of top line) and 39 Senoko Way (c.2% of top line) are immediate priorities to bring SBREIT back on the growth path.

Potential catalyst: Portfolio reconstitution.

• In terms of inorganic growth, the Manager announced an intention to look at Australia to expand its investment scope. 
• Australia, in our view, presents many acquisition opportunities but given SBREIT’s lack of scale and operational experience, it could prove to be tough to scale up meaningfully in the longer term. 

Valuation: 

• We are maintaining our DCF-based Target Price of S$0.62. 

Key Risks to Our View: 

• Potential fund raising on the back of acquisitions Gearing could head up to c.40% given asset devaluations. Acquisitions could mean equity fund raisings which could be dilutive. 

WHAT’S NEW 

• SBREIT’s 2Q18 results in line; negative reversionary trends to persist but Solaris could provide some relief . 

Gross revenue and NPI decline deepened in 2Q18, but margins remained stable.

• 1H18 gross revenue and net property income fell by 12.3% and 12.4% to S$38.2m and S$ 33.2m respectively, as SBREIT registered a deeper decline in 2Q18 (-13.2%) vs 1Q18 (-11.5%). The decline was largely attributed to
  1. lower contributions from 72 Loyang Way and West ParkBizCentral by S$2.7m and S$1.2m respectively, and
  2. absenceof nearly S$1.2m worth of rental income post the divestment of KTL Offshore in February 2018.
• The proportional decline in property operating expenses resulted in relatively stable NPI margins of 87% for 1H18 (vs 87.1% in 1H17).

DPU decline within expectations.

• Income available for distribution dipped 13.8% y-o-y to 1.264 Scts.
• Overall, 1H18 DPU fell by c.12.4% y-o-y to 2.588 Scts as compared to 2.955 Scts in 1H17, forming 51% of our full-year forecasts, which was in line.

Occupancy levels showing signs of stabilising.

• Portfolio occupancy improved modestly to 87.6% in 2Q18, from 87.5% in 1Q18, mainly as new take-ups boosted occupancy for Eightrium to 88.5% (from 84.9% in 1Q18).
• While occupancy for West Park BizCentral continued to fall from 81.5% (1Q18) to 81% (2Q18) on non-renewals, we believe the softer demand conditions for the asset may be bottoming out after being hit by rightsizing measures and business discontinuations among several logistics-related tenants, as SBREIT continues to fill up some of these vacancies.

Negative rental reversions to persist.

• SBREIT renewed more than 554,000 sqft of leases in 1H18, of which more than 251,000 sqft (45%) were signed in 2Q18. The step-up in negative rental reversions from -7.9% in 1Q18 to -11.9% in 2Q18 mainly reflects the higher proportion of new industrial leases signed during the recent quarter, particularly for West Park BizCentral. This translates into an overall 9.8% drop in gross rents for 1H18.
• As SBREIT continues to optimise occupancy levels for West Park, which remains low, we believe that negative rental reversionary trends are likely to persist.

But Solaris could provide some relief.

• Approximately 5.9% of leases (~170,625 sqft of NLA) are due for renewal in 2H18, including 2.3% from the underlying tenants of Solaris, assuming it is converted into a multi-tenanted facility in August 2018.
• Judging by the positive buffer in the immediate term.

Gearing fell from 40.2% (1Q18) to 37.6% (2Q18), unlocking longer-term interest cost savings.

• SBREIT channelled its KTL divestment proceeds towards the redemption of SBREIT 3.45% 05/2018 in May 2018, resulting in sequentially lower gearing (A/L) levels of c.37.6% (2Q18) vs 40.2% (1Q18).
• Coupled with lower post-refinancing bank loan margins, this allowed the REIT to offset the impact of higher floating base rates and lower finance expenses by c.S$0.4m in 1H18.

Carmen Tay DBS Group Research Research | Derek TAN DBS Research | https://www.dbsvickers.com/ 2018-07-17

SGX Stock Analyst Report HOLD Maintain HOLD 0.620 Same 0.620