UOB Kay Hian Group Research analyst Jonathan Koh has kept a “buy” rating on Frasers Logistics and Commercial Trust (FLCT) with a lowered target price of $1.60 from $1.65.
Koh’s report comes amid a slowdown in Germany’s economy due to supply chain disruptions, surging energy prices and the slowdown of its second largest export market, China. In particular, the auto manufacturing industry suffered the hardest hit. In his report, the analyst said that the German economy could be the REIT’s “Achilles’ heel” even if its logistics portfolio remains resilient.
For context, energy prices have increased by 10 times since the Russia-Ukraine war started and are 50% higher compared with neighbouring France, where Germany imports 55% of its natural gas from Russia through the North Stream pipeline. The Bundeskbank warned that an immediate ban on Russian gas imports would reduce GDP growth by 5 percentage points, dragging Germany into a deep recession.
German foreign minister Annalena Baerbock has cautioned that the Russia-Ukraine war could drag on for years. In addition, heat waves and dry spells have lowered water levels on the Rhine, which hinders the movement of barges to transport raw materials and finished goods in Germany’s most heavily industrialised areas, causing more supply chain disruptions.
FLCT’s Germany portfolio fortunately has a long weighted average lease expiry (WALE) of 6.3 years, which benefits from higher inflation as annual rental escalation is consumer price index (CPI)-linked. Rental reversion was up 3.3% in 1HFY2022, with occupancy maintaining at 100%.
Meanwhile, Australia has seen some favourable demand-supply dynamics, with e-commerce penetration inching slightly higher by 0.3ppt h-o-h to 14.6% in 1HFY2022. Vacancy rate declined 0.5 ppt y-o-y to reach a record and global low of 0.8% in 1HFY2022. The pipeline of new supply for 2022 is 53% pre-committed due to pent-up demand, though supply of logistics space is expected to fall in 2023 and beyond, according to Koh.
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According to CBRE Group (CBRE), super prime properties rose 13.1% on a nationwide basis in 2QFY2022, with Sydney seeing a 22.8% increase y-o-y, Melbourne witnessing a 13.9% increase y-o-y and Brisbane experiencing a 3.7% increase y-o-y. Incentives fell 2 percentage points..
CBRE expects super prime rents to grow at a CAGR of 5.0% during 2022-2026.
Australia’s portfolio has a long WALE of 4.2 years, with it benefitting from annual rental escalation averaging 3.1%. Rental reversion was up 6%-7% in 3QFY2022, with occupancy maintained at 100%.
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However, the structural limited supply of logistics space and rising costs of land and building materials have fed into steep increases in asking rents, observes Koh. Prime rents have increased 7% to €96 ($134)/sq m per year in 1HFY2022. Financing costs have also increased as reflected in the increase in yield for 10-year bonds, which reversed from -0.18% to 1.60% in 8MFY2022. According to CBRE, yields for prime logistics properties were pressured by higher interest rates and expanded 15bp to 3.15% in 1HFY2022.
At the same time, FLCT completed the sale of leasehold property at 18, 20 and 22 Cross Street, also known as Cross Street Exchange (CSE), for $810.8 million in March. The consideration represents a 28.3% premium to book value of $632.0 million as at Sep 2021. “The divestment of the non-core leasehold central business district (CBD) commercial property is in line with FLT’s portfolio rebalancing towards the logistics and industrial asset class,” says the analyst.
“Assuming 49.2% of the net proceeds are used to repay outstanding debt, FLCT’s aggregate leverage is expected to be lowered by 4.4ppt from 33.7% to 29.3% on a pro forma basis,” writes Kog. “50.8% of the net proceeds from divestment of CSE are expected to be deployed for acquisitions of logistics and business park properties.”
FLCT has also committed $290.5 million of capital into acquisitions of one suburban office building, three completed logistics properties and one logistics property under development.
Firstly, FLCT completed the acquisition of a freehold five-storey grade A suburban office building with NLA of 78,540 sqft at Mount Waverly, Melbourne for A$60.3 million ($57.1 million) in May. The property is fully leased to nine tenants, including two retail tenants on the ground level, with a long WALE of 5.0 years.
Next, FLCT moved forward with the acquisition of three freehold logistics properties in Truganina, an industrial precinct within the City of Monash at Melbourne West, for A$61.0 million. The properties were newly completed in May and fully leased to four tenants with a long WALE of 6.6 years and fixed annual rental escalation of 3.0%.
Additionally, FLCT saw the acquisition of a freehold logistics property to be developed at Ellesmere Port, Cheshire in Northwest England for £101.0 million ($163.3 million). The property sits on a 14.4 hectare site and has total net lettable area (NLA) of 667,185 sq ft. It is expected to be completed in 2HFY2023 and will be leased to Peugeot Motor, a subsidiary of global automaker Sellantis Group, for 15 years. The property will serve as the national distribution centre for Peugeot Motor in the UK.
Further to his report, Koh has his FY2022 distribution per unit (DPU) forecast by 6.5% to factor in divestment of CSE and raised FY2023 DPU forecast by 3.0% to factor in contributions from recent acquisitions.
As at 12.09pm, units in FLCT are trading flat at $1.35 at a FY2022 P/B ratio of 1.0x and DPU yield of 5.3%.
