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Bullish form of Suntec REIT shares

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Suntec REIT share price is enjoying some sort of bullish form in recent months. The share price hit a 2-year high in July after the announcement of a 50% interest in Premium Grade office in Melbourne. However, a look at the recent financial results indicated things may not be so rosy after all for the venerable REIT. Total return for 2Q17 was actually a decrease of 23% compared to last year. So why did the share price rise and is Suntec REIT a value trap?

Suntec REIT portfolio

Being one of the first REITs to be established in Singapore, Suntec REIT was listed on the SGX mainboard on 9 December 2004. Besides having a respectable history, the real estate investment trust also boosts a unique portfolio of properties comprising office and retail spaces.

Suntec REIT owns Suntec City mall and certain office units in Suntec Towers One, Two and Three and the whole of Suntec Towers Four and Five, which form part of the integrated commercial development known as “Suntec City”. The property portfolio also comprises 60.8 per cent effective interest in Suntec Singapore Convention & Exhibition Centre (“Suntec Singapore”), a one-third interest in One Raffles Quay (“ORQ”) and a one-third interest in Marina Bay Financial Centre Towers 1 and 2, and the Marina Bay Link Mall (collectively known as “MBFC Properties”) and 30.0 per cent interest in 9 Penang Road (formerly known as Park Mall).

Suntec Reit

Business expansion in Australia

Since 2016, Suntec REIT has embarked on an overseas expansion drive and made several strategic acquisitions in Australia. The move to diversify revenue from Suntec City Mall and Marine Bay office is a positive strategy by management as it helps to reduce concentration risk in Singapore market. Suntec REIT holds a 100 per cent interest in the commercial building located at 177 Pacific Highway, Sydney and a 25.0 per cent indirect interest in Southgate complex in Melbourne, Australia.

Faced with a slowing retail market in Singapore, Suntec REIT recently completed another Australia acquisition. On 8 August 2017, Suntec REIT 477 Trust, which is wholly-owned by Suntec REIT, has completed the acquisition of 50% interest in Olderfleet, 477 Collins Street, Melbourne, Australia. This is the second Melbourne acquisition made by Suntec REIT following the Southgate Complex project in 2016, thereby expanding the footprint of Suntec REIT in Australia.

The Olderfleet project is a freehold land and property to be developed from Mirvac Group for a consideration of A$414.17 million. Mirvac continues to be the co-owner, with its remaining 50% interest in the property. Located along Melbourne’s most prestigious commercial address, Olderfleet, 477 Collins Street is within the Western Core of the Central Business District and is also a short walking distance from The Southern Cross Station, Victoria’s primary metropolitan and regional transportation hub.

What I like about the Olderfleet acquisition is that the property is 39.1% pre-committed by leading professional services firm Deloitte Australia, as its Melbourne headquarters. Mirvac will provide a rent guarantee on any unlet space for five years post practical completion. Henceforth, the execution risk is mitigated. Olderfleet, 477 Collins Street is expected to achieve practical completion by mid 2020.

In my own opinion, investors may have bought into the good news too soon as the completion of Olderfleet would be in 2020. The initial net property income yield of 4.8% will be upon practical completion. Nevertheless, the news propelled Suntec REIT share price to a high of $1.93. The bullish run is probably because investors are confident that the acquisition would help to diversify the income and geographical portfolio of Suntec REIT. It would also bolster the Australia footprint to approximately 12% of its total portfolio.

Financial Performance

The distributable income for 2Q17 was $66 million, an increase of 4.3% compared to 2Q16. However, due to the enlarged units base (95.7 million new units were issued due to the conversion of Convertible Bonds), the distribution per unit (DPU) of 2.493 cents was  marginally lower than 2Q16 DPU of 2.501 cents.

For the first half of 2017 (“1H 17”), the distributable income of S$127.9 million was 3.7% higher year-on-year. The DPU of 4.918 cents for 1H17 was 0.9% higher year-on-year.

Operating environment continued to be challenging for Suntec but it has delivered a
higher distributable income and DPU for the first half of 2017. The  assets in Australia, 177 Pacific Highway and Southgate Complex contributed to the financial performance this quarter.

Return for 2Q17 after tax: $34.5 million (-23%)

Return for 1H17 after tax: $80.8 million (+2.9%)

Total current assets as of 2Q17: $190 million

Total current liabilities as of 2Q17: $136 million

Upon looking at the balance sheet, I was surprised that the current assets exceeded the current liabilities. Due to the nature of the business model, REITs often need to leverage in order to support growth. Suntec REIT is no different. However, by managing the short term liabilities, it showed the prudence of the management. The decrease in current liabilities was due to a S$100 million loan due in the fourth quarter of 2017 which had been refinanced through an issuance of S$100 million euromedium term notes.

Net operating cash flow for 2Q17: $62 million

Capital expenditure: $412,000

Purchase of plant and equipment: $241,000

Although the cash flow was excellent for 2Q17, I doubt management would embark on another acquisition following Olderfleet as the focus is now on the development work for the new Grade A commercial building at 9 Penang Road (the former Park Mall). The development is estimated to cost approximately S$800 million and the building is scheduled to complete by end 2019.

Because of the sheer size of the costs involved, the 9 Penang Road project is undertaken through a joint venture with Haiyi Holdings Pte Ltd, SingHaiyi Group Ltd and Suntec Real Estate Investment Trust, with an interest of 35.0%, 35.0% and 30.0% respectively. This $800 million project is the largest since the remaking of Suntec City Mall which cost about $410 million.

Suntec REIT

Operational Performance

As a result of the management’s proactive asset management, the occupancy level rates remained high. The overall committed occupancy for the office and retail portfolio stood at 98.7% and 99.0% respectively as at 30 June 2017. Moving ahead, the management expects the office market to “remain under pressure” because of new developments entering the market. Retail market will also face challenge as the market sentiments for the Singapore retail sector remained weak in the second quarter of 2017. To counter these challenges, Suntec REIT is actively its tenants.

Another strength of the management is its proactive capital management. Debt-to-asset ratio stood at 34.7% and all-in financing cost for 2Q17 was 2.41% per annum. The refinancing for 2017 was completed and the loans due in 2018 are less than 20% of the total loan portfolio. Total weighted average debt to maturity was extended to 2.96 years.

My strategy for Suntec REIT

Since my last article on Suntec REIT, this counter has been on a rising streak. The share price rose from $1.70 level to the $1.86. I am not sure if the bull run is sustainable but the share price is still trading below the Net Asset Value (NAV) of $2.119. So in this respect, I don’t think that Suntec REIT is grossly overvalued.

Based on the overseas expansion initiatives and prudent financial management, the growth potential of Suntec REIT is definitely there. But due to the execution risks of the 9 Penang Road and the Olderfleet projects, I am still keeping monitoring this counter closely and could make a move at $1.70.

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Updated: September 24, 2017 — 1:45 pm

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