SINGAPORE (Sept 30): At an IPO roadshow on Sept 18 for DBS private bank’s clients, investors were impressed by Ng Hsueh Ling’s presentation of the Singapore Exchange’s latest — and probably most successful — IPO, Lendlease Global Commercial Real Estate Investment Trust (Lendlease REIT). Ng, former CEO of Keppel REIT’s manager, is now a director of Lendlease REIT’s manager, while Kelvin Chow, former chief financial officer of Keppel REIT’s manager, is CEO of Lendlease REIT’s manager.
The interest in Lendlease REIT’s placement tranche implies that it will be the hottest IPO this year, following the tepid reception of the three REITs with US assets in May and June. The absence of well-known high-net-worth names that anchored the US REITs among Lendlease REIT’s cornerstone investors is definitely a positive factor, investors say.
On Sept 25, the REIT’s sponsor, Australian Securities Exchange-listed developer Lendlease Group, launched Lendlease REIT’s IPO, with the REIT manager selling 387.5 million units of Lendlease REIT at an offer price of 88 cents each. This consists of 365 million placement units and 22.7 million units for the Singapore public. In addition, cornerstone investors, including investment firm BlackRock, DBS Bank and Fullerton Fund Management Co, have agreed to subscribe to an aggregate of 453.8 million units.
The public offer closes at noon on Sept 30 and trading will commence at 2pm on Oct 2. Based on its IPO price, the REIT will have a market cap of $1 billion immediately upon its debut. Its initial property portfolio of $1.4 billion comprises two buildings: retail mall 313 @ somerset on Singapore’s Orchard Road and Sky Complex, a Grade-A office development in Milan, Italy.
The two properties owned by the REIT have a total net lettable area (NLA) of 1.3 million sq ft. It is forecast to offer a distribution yield of 5.8% for FY2020 ending June 30, 2020. Thereafter, a distribution yield of 6% is expected for FY2021.
From Milan to Somerset
Sky Complex, with a gross floor area of 92,820 sq m, consists of three Grade-A, freehold office buildings in the Milano Santa Giulia area, which is said to be one of the city’s newest and most vibrant office precincts. The facility is accessible by road and the metro. It is also accessible from Linate Airport, the closest international airport to Milan’s city centre.
Sky Complex has a single tenant, Sky Italia, whose lease expires in 2032. The tenancy comes with a break clause in 2026. Currently, Sky Italia is the REIT’s largest tenant in terms of gross rental income (28.9% in June) and is forecast to contribute around 35% to net property income (NPI) for FY2020, providing the REIT with stability. Sky Italia is a satellite TV company whose parent company, Sky, was acquired last year by television broadcast network Comcast. Tony Lombardo, chairman of Lendlease Global Commercial Trust Management and CEO of Lendlease Asia, -noted a positive demand for the property after a “take-up of over four million sq ft at [Sky Complex] last year, “the highest ever recorded”.
According to Lendlease, Sky Complex is located in a key metropolitan area that is “considered to be one of the top destinations for the office sector in Europe by investors and office occupiers”. Chow adds that the Milan metropolitan area has the fourth-largest economy in Europe, after Paris, London and Madrid.
Sky Complex is fully leased to Sky Italia under a triple net, 13-year lease with an inflation-linked rental step-up clause. A triple net lease agreement means the tenant pays all property-related expenses such as real estate taxes, building insurance and maintenance. “The 13-year lease with Sky gives us resilient income, almost a bond-like structure for 13 years,” says Ng.
The structure minimises operational costs and risks for the REIT through a rental rate step-up clause that tracks the variations in Italy’s consumer price index. With CPI levels being on an uptrend, the REIT can expect a steady income stream from the complex.
Back home, Chow expects steady contributions from the 313 @ Somerset mall, which is positioned to attract youths through stores such as Love, Bonito and Timberland, as well as amenities such as bowling alleys. The mall saw an annual shopper traffic of about 45.5 million between FY2017 and FY2019 — a number Chow expects to increase as the Somerset sub-precinct that the mall is in undergoes revamps under the government’s Orchard Road rejuvenation plan. The area is set to boast more youth-oriented offerings, in line with the mall’s current game plan.
The mall had an occupancy rate of 99.6% in FY2018 — higher than Orchard Road’s average occupancy rate of 94.8%. It has a three-year tenure comprising base rent and turnover rent, which is calculated as a percentage of the tenants’ gross turnover. Chow notes that 58.9% of the leases by NLA have a step-up structure, whereby there is a rental escalation of 3% for FY2020, thus providing a stable rental income stream.
However, the city state has been experiencing a decline in retail sales, with the figures for July — the most recent available data — falling 1.8% y-o-y, according to the Department of Statistics. This came on the back of y-o-y declines of 8.3% from furniture and household equipment, 3.6% from department stores and 2.2% from apparel and footwear. Malls are also facing a threat from e-commerce, with online sales making up 5.6% of a total sales value of $3.6 billion in July.
Even so, Ng believes that malls are an integral part of Singapore society, as they are “part of the social fabric and social life”. 313 @ Somerset is positioned as a mall that caters to the younger and family-centric crowd, and the products and offerings will continue to see demand, she adds.
Josh Liaw, executive general manager of the REIT’s manager, adds that the mall’s positioning has given online retailers such as apparel brands Love, Bonito and Pomelo a safe location to open their brick-and-mortar stores, as part of the so-called online-to-offline trend. He adds that these brands have “done well” since the opening of their flagship stores at 313 @ Somerset.
Ng says the REIT will ensure that the offerings at 313 @ Somerset are continually refreshed by maintaining a lease expiry of three years (versus a weighted average lease expiry (WALE) of 1.6 years by gross rental income, or GRI) and a retention level of 70%. It wants to continue to attract good companies to set up shop there and cater to the changing needs of customers. “You can expect one-third of the leases to be up for renewal so that the mall is kept fresh. We love long leases in office, [but not] for malls,” she says.
Some investors, however, are concerned about 313 @ Somerset’s GRI WALE of 1.6 years, as that could mean a high tenant turnover.
However, it is hard to make a comparison, as the company has not disclosed the historical financial data for its properties. It said they were “bought over from a fund” and it cannot vouch for the “reliability on how their books were maintained”. Chow says the income forecasts and projections were obtained from advice on reliable cash flow forecasts given by property managers.
Alignment with unitholders?
The REIT manager’s base fee is 0.3% of assets under management a year, in line with the 0.29% average for SGX-listed retail REITs. The manager charges an annual performance fee of 5% of NPI, which is not guaranteed. Most of the REITs that listed after 2013 have performance fees tied to distribution per unit (DPU) growth, which aligns their interest with that of unitholders. Examples of such REITs are Starhill Global REIT and Manulife US REIT (MUST), which have not reported performance fees since their listings.
Lendlease REIT’s manager will also be charging an acquisition fee of 1% and divestment fee of 0.5% which is common for all REITs including the recently listed US and European REITs such as MUST, Keppel Pacific Oak US REIT and Cromwell European REIT. But the manager says the fees are not an incentive for the REIT to grow without other considerations.
The property manager’s effective fee will be 2.5% of gross revenue and this will be impacted mainly by gross receipts/revenue and not margins. This raises concern because the property manager may not be interested in obtaining the most cost-effective yield but rather in what brings in the most revenue.
Whatever the case, DPU is likely to be relatively stable until FY2021. The REIT’s DPU is tied to NPI and GRI, which in turn depends on base rent and turnover rent. Base rent is expected to make up 98.4% of Lendlease REIT’s GRI for FY2020 and FY2021. The remaining 1.6% will come from turnover rent, which is calculated as a predetermined percentage of the tenant’s gross turnover. This means a substantial portion of projected distributions is somewhat guaranteed but with limited growth (at worst, 98.4% of the GRI can be obtained, which translates into a distribution yield of 5.7% and 5.9% respectively for FY2020 and FY2021). As a result, the manager may be tempted to acquire a property in the next two years to boost DPU.
Established sponsor
Lendlease REIT’s sponsor is no stranger to Singapore. It owns 20.1% of Jurong East Mall (Jem) and 30% of the recently developed mixed-use facility at Paya Lebar Quarter. These two properties were not included in the REIT. The remaining 70% of PLQ is owned by the Abu Dhabi Investment Authority. “Over time, as we work with various investors, the REIT may become the exit vehicle for PLQ and Jem,” says Lombardo.
Lendlease also has nearly 30 years’ experience in Italy, notes Lombardo. He says the company has developed several buildings in this time, giving it “strong capability on the ground”. It has a development pipeline of about A$100 billion ($93.1 billion) projects in countries such as Australia, Singapore, Malaysia and Italy.
While it is surprising that Australian properties were not represented in the -REIT’s IPO portfolio, Lombardo maintains it was a well-thought-out decision. “When we looked at our Australian assets and what we could put in the REIT, there wasn’t -anything that we [could include in the portfolio] to achieve the returns we wanted to achieve,” he says. For now, both Lombardo and Chow want to focus on the two properties in the portfolio and are in no hurry to buy more assets.
Lombardo says he will continue to look out for other properties globally and that this will be the only REIT Lendlease will list in Singapore. “Ultimately, Lendlease is branding a global commercial REIT, [which] differentiates it from all the other REITs in the Singapore market today,” he adds.
Worthy investment?
In spite of its heft as a sponsor, Lendlease Group was recently in the limelight for the wrong reasons. It was slapped with a shareholder class action lawsuit following a tumble in its share prices over a A$350 million writedown of its engineering business. In April this year, Australian law firm Maurice Blackburn sued the developer for deceiving and misleading its shareholders by not informing them about the serious issues in its engineering and services arm.
The writedown had caused its share price to plunge to A$14.25 on Nov 8, 2018 from A$17.45 the previous day.
The developer subsequently carried out a review of the relevant departments and announced in February that it would do away with them. It consequently booked restructuring costs of A$450 million to A$550 million. Investors of REITs need to recognise the critical role played by sponsors in any REIT and the same goes for potential investors in Lendlease REIT.
The lawsuit aside, Lendlease has proven its ability to win heavyweight projects, not just in its home market of Australia and in Asia but also in the US. One recent example was the US$21 billion ($29 billion) deal to develop Google’s three mixed-use facilities in the San Francisco Bay Area.
Vijay Natarajan, real estate and REIT analyst at RHB Securities, says the sponsor’s proven development track record and asset pipeline makes the REIT more attractive. He adds that its yields are cheaper than those of its listed peers. In an earlier prediction, Vijay noted that the absolute yields of S-REITs are 5.4%, down from an earlier projection of 6.2%, due to the global economic downturn and resultant rate cuts by the US Federal Reserve. Overall, he believes there are “merits for investors to consider the IPO”.
