ESR-REIT - DBS Research 2020-01-24: Positioning For The Next Phase

ESR-REIT (SGX:J91U)

ESR-REIT - Positioning For The Next Phase

ESR-REIT (SGX:J91U)'s 4Q19 DPU of 1.0 Scts; FY19 DPU of 4.011 Scts.
4Q19 NPI increased 9.3% y-o-y to S$46.2m.
FY19 rental reversions were flat, signalling the bottoming out of rents; FY18 posted -2.9% reversions.
Acceleration of portfolio rejuvenation initiatives.

ESR-REIT's 4Q19 NPI increased to S$46.2m, representing a 9.3% y-o-y increase. The growth in revenue and NPI was mainly attributed to the full-quarter contribution from Viva Trust’s nine properties and 15 Greenwich, which were acquired in October 2018, the higher occupancy at 30 Marsiling subsequent to the completion of AEI in January 2019, and rental escalations. The growth was however partially offset by a 1.1% (S$0.2m) increase in property expenses of S$16.3m in 4Q19.
The increase in property expenses were mainly due to the acquisition of 15 Greenwich, as well as master lease conversions.

In FY19, ESR-REIT signed 2.75m sqft of leases and recorded flat rental reversions; as compared to -15.8% in FY17 and -2.9% in FY18. 17.6% of ESR-REIT’s portfolio will be due to expire in FY20; 13.5% from multi tenanted assets, and 4.1% from single-tenanted assets.
Despite the slight dip in occupancy to 90.5%, portfolio WALE remained healthy at 3.8 years. The weakness in occupancy continues to be at UE BizHub where occupancies are in the 70% range. During the quarter, ESR-REIT announced the AEI works at UE BizHub East to improve connectivity and upgrade common areas. The targeted completion is 1Q21, and the property will remain fully operational during the AEI.
We believe that the limited supply of business parks space and AEI will enable ESR-REIT to improve occupancy at UE BizHub in the coming quarter.

Given ESR-REIT’s current portfolio size, it has been able to refinance debt at more favourable rates. The entire S$160m due to expire in FY20 has been early refinanced at lower rates. With a new Sponsor in ESR Cayman, we believe that ESR-REIT will be able to benefit from a wider range of banking relationships to achieve more competitive loan rates and drive further costs savings once the outstanding MTNs (currently costs c.4% p.a.) are refinanced.

Cap rates for ESR-REIT’s portfolio remained flat during the year but a revaluation loss of c.S$91m was recognised. This stems mainly from a fall in valuation at four assets with short land lease and the lower valuations for assets that have been converted into multi-tenanted assets (lower efficiency).
Going forward, we expect ESR-REIT to divest two of the four assets with short land tenures once the existing tenant leases expires (estimated to be in 3Q19).
Having divested an industrial asset and reinvesting in a ramp-up logistics asset in FY19, Management will continue to divest non-core assets (low-spec industrial assets with short land tenures). It will continue to look at AEIs to upgrade existing assets and recycle capital into higher specification assets. One asset has so far been identified for AEI works in the coming quarter.
In FY20, ESR-REIT can look to the pipeline from the Sponsor and start evaluating overseas acquisitions, namely in Australia, China and Japan. However, ESR-REIT will remain predominantly invested in Singapore, and the overseas acquisitions will provide some diversification in terms of longer land lease (or freehold) and longer tenant leases.
Portfolio acquisitions and consolidation will be still on the cards given ESR-REIT’s current size, but Management will remain disciplined and only look into accretive deals.

Some uncertainties such as the ability to back-fill space vacated by Hyflux Membrane (8 Tuas South Lane), and the REIT’s high gearing may be an overhang in the near term.
However, we remain positive on ESR-REIT’s prospects over the medium term. Portfolio rejuvenation initiatives and proactive asset management to consolidate tenant spaces will pave the way for further earnings upside.
Until there is more certainty on ESR-REIT’s various initiatives, we maintain our Target Price of S$0.59.
See ESR REIT Share Price; ESR REIT Target Price; ESR REIT Analyst Reports; ESR REIT Dividend History; ESR REIT Announcements; ESR REIT Latest News.

Derek TAN DBS Group Research | Singapore Research Team DBS Research | https://www.dbsvickers.com/ 2020-01-24

SGX Stock Analyst Report BUY MAINTAIN BUY 0.590 SAME 0.590