(May 27): Eagle Hospitality Trust, the second Singapore real estate investment trust (REIT) to list within a month, starts trading at 2pm on May 24, after this paper goes to print, following the IPO offer of 580.56 million stapled securities to raise around US$453 million ($624.4 million) in proceeds.
EHT’s IPO price is 78 US cents, an 11.3% discount to the net asset value (NAV) per stapled security of 88 US cents. Distribution yield at IPO is 8.2% for the forecast period of May 1 to Dec 31, 2019, or 4.27 US cents. For FY2020, distributions per stapled security (DPS) are forecast at 6.54 US cents, giving a forecast distribution yield of 8.4%. The first DPS for FY2019 will be paid next year, on or before March 30, 2020. Subsequent distributions will take place on a semi-annual basis. EHT’s distribution yields will be the highest among the hospitality REITs (see table).
ARA US Hospitality Trust, which was listed at a distribution yield of 8%, is now trading at 8.11%. Its forecast distribution yield for FY2020 is now 8.55%, compared with 8.2% at IPO.
EHT’s stapled security comprises a REIT that holds the properties and a currently dormant business trust that could be activated if it has to become a master lessee of last resort, such as when the REIT acquires hotels in the future without a master lessee. Eagle Hospitality Business Trust could be activated to undertake certain hospitality and hospitality-related development projects that may not be suitable for the REIT.
Based on the appraised assets, the valuation per room is US$234,000, but IPO investors are acquiring the portfolio at just US$205,000 per room, says Salvatore Takoushian, CEO of EHT’s manager. The portfolio’s capitalisation rate is about 6.5%, and with the discount to NAV at IPO, investors are buying into the portfolio at a capitalisation rate of 7%.
Unlike ARA US Hospitality Trust, which owns a portfolio of select-service and extended-stay assets, EHT’s assets are full-service upper midscale, upscale and upper upscale hotels in the US. Takoushian points out that since 2010, only 15% of new supply in hotels has been full-service hotels, compared with 80% for select-service hotels. “We’re in very good markets, where land is more expensive, making it cost-prohibitive to develop [new hotels], so we are insulated from new supply,” he notes.
EHT’s initial portfolio comprises 18 hotel properties with a total of 5,420 rooms valued at $1.27 billion. Of these, 17 are freehold properties. The 18th asset is a ship, the Queen Mary Long Beach, a retired ocean liner that is a floating hotel with a lease tenure of 66 years from Nov 1, 2016.
According to Takoushian, 60% of EHT’s hotels are in the top 10 markets in the US, which has 383 markets. With the exception of the Queen Mary, all the hotels in the IPO portfolio are branded by and operated under franchise agreements with the three largest global hotel franchisors: Marriott, Hilton and InterContinental Hotels Group.
These operators have the largest guest loyalty programmes, with 100 million guests per programme, Takoushian says. “Our portfolio is diversified [via] the largest loyalty programmes. In the US, 75% of all hotels are branded and guests are loyal to points, miles and hotels. Loyalty programmes also provide a base level of loyalty [customers] and [as a result] stable cash flow profiles.”
Flexible cost structure, growth opportunities
Takoushian argues that full-service hotels have a more flexible cost structure than select-service hotels. “Through an economic cycle, only 60% of our costs are fixed, and that allows us to manage costs,” he says. “With a greater component of variable costs, if there is fluctuation in revenue, we could manage costs better to defend our cash flow.”
Full-service hotels have different classifications. The properties in the portfolio are classified as upper upscale, upscale or upper midscale. Upper upscale properties offer a full range of amenities and services such as full-service, all-day restaurants, room service (in most cases), recreational facilities, a fitness centre and a business centre. In some cases, the hotels have concierges and spas. Upscale hotels have an F&B outlet offering breakfast (and in some cases, a three-meal operation), recreational facilities such as a fitness centre and amenities such as a business centre.
“[Our portfolio comprises] three- to four-star full-service hotels, and we offer affordable price points to guests. The US$150 average day rate (ADR) provides a value proposition and allows us to have a more resilient rate throughout the cycle,” Takoushian says. Full-service hotels have lower top-line volatility and very attractive margins, he adds.
Revenue per available room and gross operating profit are resilient during cyclical downturns, as ADRs remain affordable, according to EHT’s prospectus. Moreover, full-service hotels cater for weddings, corporate functions and events, providing ancillary revenue, diversifying income sources and generating demand for hotel rooms.
Ancillary services such as weddings and meetings are one of three growth channels identified by EHT’s manager. Takoushian says he expects growth from “value-added opportunities” within the portfolio. “For example, we have excess land at Sheraton Pasadena, which is a very special sub-market. Our Sheraton [hosts] 130 weddings a year,” he notes.
Elsewhere, Holiday Inn Resort Orlando Suites – Waterpark is near Disney World. Although the hotel’s gross operating profit (GOP) grew 125.1% between FY2016 and FY2018, Takoushian reckons that the property has further potential for growth. “The property is positioned to attract the leisure and business conference markets and we are exploring different ways [to attract] corporate clients during the low season,” he says.
Elsewhere, at EHT’s San Mateo property, sponsor Urban Commons has fully renovated two buildings out of three and rebranded them as Holiday Inn Hotel & Suites San Mateo. “The third [building] has yet to be rebranded. There is significant upside to rebranding because we can charge higher rates,” Takoushian says.
Urban Commons is a privately held US-based real estate investment and development firm that is active across a range of property types, with a specific emphasis on hotels. The company is relatively unknown in Singapore.
The other two growth channels are yield-accretive acquisitions and organic growth through renovations. Urban Commons has already spent US$174 million in renovations prior to the IPO, so limited capital outlay is required initially.
EHT has right of first refusal to one pipeline property, the 224-room Ramada -Hialeah hotel in Miami, Florida. A second property, The Wagner at the Battery, a 298-room hotel in Lower Manhattan, is also a pipeline property. The Wagner was initially built as a Ritz-Carlton hotel to five-star standards. “We will be very measured in acquisitions,” Takoushian says.
Queen Mary
Market watchers have questioned the valuation of the Queen Mary — which is expected to contribute 24% to GOP of US$80.17 million for the FY2019 forecast period. Its valuation of US$159.4 million is the second highest in the portfolio, behind Holiday Inn Resort Orlando Suites – Waterpark at US$162.8 million.
Isn’t a ship a depreciating asset? “A disproportionate amount of [a ship’s] valuation is in the engines and hull. Our ship is permanently moored. With respect to the hull, the sponsor is fortifying it and has hired marine surveyors, including divers with sonar, to assess the thickness and coat it with anti-corrosive paint. The hull is fortified with incremental steel,” Takoushian notes. Urban Commons has invested US$25 million in the last 18 months for the longevity and sustainable use of the ship.
The US$159.4 million valuation is based on the discounted cash flow method, and is a function of the cash flow from the ship, Takoushian explains. The valuation does not include the 45 acres of leasehold land adjacent to the ship that is currently used as a car park. The sponsor has begun the planning and entitlement process for a large-scale retail and entertainment centre on the land. Once approved, it could provide EHT with incremental rental income through a sub-lease opportunity to a third-party developer or the sponsor.
No institutional following
The cornerstone investors for the EHT offering are DBS Bank and its wealth management clients Gold Pot Developments, which is controlled by Gordon Tang; and Ji Qi, founder and executive chairman of Nasdaq-listed Huazhu Group — one of China’s biggest multi-brand hotel chain management groups — and co-founder of Ctrip.com. DBS Bank and its wealth management clients Tang and Ji will together own a 16.7% stake in EHT.
Howard Wu and Taylor Woods, who own the sponsor Urban Commons, will roll their equity into EHT and each hold a 7.6% stake, while Takoushian will own 1.2%. The rest of the placement tranche is likely to have been distributed to family offices and accredited investors.
On May 23, Eagle announced that while its placement tranche was fully subscribed, it received applications for merely 18.3 million shares of the 44.9 million made available to the public, suggesting scant retail interest.
A major concern is that the cornerstone investors are not institutional names, market watchers say, but high-net-worth individuals and mainland Chinese. Some fund managers are adopting a wait-and-see approach to investing in both EHT and ARA US Hospitality Trust, as these are new asset classes to -S-REIT investors.
The forecast net property income of US$51.05 million for the May 1 to Dec 31, 2019 period and the forecast NPI of US$81.34 million for FY2020 assume an occupancy rate of 78%, Takoushian says. Distributable income is expected to be US$32.23 million for the FY2019 forecast period (which is not a full year) and US$57.58 million for FY2020.
Whether EHT’s higher-than-sector distribution yields and discount to NAV are sufficient to support prices remains to be seen.
