DBS Group Research has upgraded OUE LJ3 Commercial REIT TS0U (OUE C-REIT) to “buy” with a target price of 35 cents after the REIT reported a strong sequential performance for the 3QFY2023 ended Sept 30.
On Oct 30, the REIT reported 3QFY2023 revenue of $75.8 million, 27.5% higher y-o-y. Net property income (NPI) for the quarter rose by 29.8% y-o-y to $62.7 million.
Its Singapore office segment recorded a positive rental reversion of 18.4% during the 3QFY2023 while its hospitality segment revenue rose by 67.6% y-o-y and 73.2% y-o-y to $28.3 million and $27.0 million respectively.
Revenue per available room (RevPAR) within the REIT’s hospitality segment rose by 12.8% y-o-y to $295.
In retail, the REIT’s committed occupancy at Mandarin Gallery reached 98.7% as at Sept 30. Its retail portfolio also recorded a high rental reversion of 31.1% on the back of a recovery in tourist arrivals and improving retail sales.
In their Oct 31 report, analysts Rachel Tan and Derek Tan stood positive on the REIT’s outlook, citing its record-high RevPAR, strong positive reversions from its Singapore commercial portfolio, as well as investment grade rating and lower interest costs.
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On Oct 30, the REIT manager announced that S&P Global Ratings assigned a “BBB-“ rating with stable outlook to the REIT as well as all of its outstanding notes, including the $150 million worth of 4.2% notes that are due in 2027.
The rating means the REIT’s $150 million notes will see a 25 basis point step down in interest rates. Though small, any savings on this front in the current high interest rate environment is favourable, note the analysts.
There are also no refinancing risks for the REIT in FY2024.
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“Given its strong performance, OUE C-REIT is likely to retain its remaining $5 million in capital distributions for the future,” say the analysts.
Further to their report, the analysts also like the REIT’s stable Singapore assets with growth from its hospitality portfolio.
The hospitality sector, in particular, continued to deliver strong growth, despite Hilton Singapore Orchard operating at its full capacity. This led to a recovery that surpassed the analysts’ expectations, they write.
The REIT’s asset enhancement initiative (AEI) at Crown Plaza Changi Airport, which is slated to be completed by December 2023, is expected to attract more travellers in 2024 and beyond.
“Our discounted cash flow (DCF)-based target price of 35 cents is based on a risk-free rate of 3.5% and beta of 0.95. This implies target yield of 6% and 0.6x P/NAV,” the analysts write. “Currently, it trades at more than 9% yield and 0.4x P/NAV, an attractive entry level, given its operational improvements while positioning for a turn in the interest rate cycle.”
That said, key risks to their outlook include a potential macroeconomic downturn, leading to a potential recession. A potential recession, in turn, may dampen the REIT’s growth, especially in its hospitality portfolio.
The potential sponsor pledging of OUE C-REIT’s units are another downside with the analysts noting that the recent pledging of First REIT’s shares by its sponsor may lead to similar action being taken by the sponsor towards OUE C-REIT.
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That said, the move, which may cause an overhang on the share price, is unlikely, as it has a deep discount to its NAV.
Finally, a potential medium-term dilution is another risk. At present, OUE C-REIT has $220 million in outstanding convertible perpetual preferred units (CPPUs). However, the analysts see that the conversion risk is low, although any potential redemption may require equity.
Units in OUE C-REIT closed 1 cent higher or 4.44% up at 23.5 cents on Oct 31.
