SINGAPORE (Nov 5): Although Manulife US REIT (MUST) posted a 2% drop in its 2Q19 distribution per unit (DPU) to 1.48 US cents, market watchers are quick to highlight that this is by no stretch an indication of trouble for the REIT.
In its latest earnings call on Monday, MUST noted that the decline was attributable to an enlarged unit base on the back of the issuance of private placement units as well as new units pursuant to a preferential offering - both of which were to partially finance the acquisition of 400 Capitol Mall in California.
Conversely, other financial metrics revealed that the REIT was in good shape. Income available for distribution to unitholders for the quarter came in 7.8% higher at US$20.8 million ($28.2 million), while gross revenue rose 13.3% to US$45.7 million. As a result, net property income grew 11.8% to US$28.1 million.
And while the associated equity fund raising may have been responsible for the minor stumble in MUST’s DPU figures, analysts opine that this could well steer the REIT towards meeting the index inclusion criteria for the FTSE EPRA Nareit Developed Asia Index.
“This should help in the REIT’s re-rating, in terms of liquidity and visibility,” says RHB analyst Vijay Natarajan in a Tuesday report.
“MUST is also awaiting the finalisation of proposed US tax regulations – the REIT should be able to roll back to its IPO tax structure, resulting in additional tax savings of 1.5%,” adds Natarajan.
Apart from the potential inclusion, analysts believe that the REIT’s strengths lie in its balance sheet and portfolio. Maybank Kim Eng Research favours MUST for “its DPU visibility, supported by stable income growth and low leasing risks.”
While analyst Chua Su Tye admits that it was a quiet quarter for MUST on a leasing front, the limited supply in each sub-market is likely to work well in the REIT’s favour.
“All assets, except for Michelson, are trading at 5-10% below market rents. We expect both occupancies and rents to be supported due to limited new supply in each sub-market,” says Chua.
He adds that the weighted average lease expiry (WALE) for the portfolio was stable at 6.2 years with 62.3% of leases by net leasable area (NLA) expiring from 2024 onwards - implying a low leasing risk.
In addition, although Chua notes that MUST’s gearing has risen steadily to fund six acquisitions since its initial public offering (IPO) in May 2016, its gearing level after its 400 Capitol acquisition remains at a “comfortable” 37.4%. This translates to some $250 million in debt headroom for the REIT.
“We expect acquisitions to provide upside to DPUs, supported by its sponsor’s strong deal pipeline of real-estate assets concentrated in the US,” says Chua.
“Valuation is compelling with DPU yields of 6.5-6.8% for FY19-20E vs 4.5-5.5% offered by its office S-REIT peers,” Chua adds.
In light of the recent concerns regarding co-working spaces, Natarajan highlights how this segment only constitutes some 1.8% of the overall portfolio. In addition, he notes that MUST only has a 1% exposure to WeWork, which is one of the key tenants in its recently acquired asset, 400 Capitol.
“Management noted that the WeWork lease for the property is fairly long at 15 years with a break clause available only at the end of the ninth year,” says Natarajan. “Thus, it does not see any risk from co-working operators in its portfolio.”
Moving forward, Natarajan attests that the REIT is well-placed to thrive in the near term, given that its current portfolio average rents remain 5-15% below market levels with the exception of Michelson.
“We expect mid-single digit rental reversions [for FY20F],” says Natarajan, citing that about 2.2% and 6.9% of leases by rental income are pending renewal for 4Q19 and FY20 respectively.
Chua also says that downside factors for MUST include spikes in interest rates, value-destroying acquisitions and changes in the REIT’s tax regime that could affect its tax efficient structure.
On the back of positive growth prospects and DPU visibility, both brokerages are keeping their “buy” calls on Manulife US REIT. Maybank Kim Eng has an unchanged target price of US$1.05, while RHB has a target price of US$1.00.
As at 4.32pm, units in Manulife US REIT are trading flat at 92 US cents. This translates into a price-to-book (P/BV) ratio of 1.1 times and a dividend yield of 6.6% for FY19F according to RHB valuations.
