Stapled securityholders of CapitaLand Ascott Trust HMN (CLAS) can sleep easy with the knowledge that its manager is focused — not on AUM growth in the manner of many other S-REIT managers — but on stable distributions per stapled security (DPS).
CLAS became a stapled trust in 2019 when it acquired Ascendas Hospitality Trust (A-HTrust). A-HTrust comprised a REIT that held five properties and a business trust that owned nine properties. In A-HTrust’s case, the business trust was activated to manage the nine properties. In the Singapore stapled security context, business trusts are sometimes dormant but are activated to be master lessees of properties.
Sponsor CapitaLand Investment’s (CLI) lodging business comprises platforms and management companies that handle properties owned by CLAS, CLI’s funds and third parties. In 1QFY2023, CLI had 161,000 units under management. Its lodging management fee-related earnings in 1Q2023 was $76 million, up 38% y-o-y.
In July 2022, CLI acquired Oakwood from Mapletree Investments for an undisclosed sum. The Oakwood properties remain under third-party ownership.
CLAS is CLI’s listed trust with AUM of $8 billion. CLAS owns around 18,000 units in 105 properties in 15 countries. These 18,000 units are just 20% of the units managed under CLI’s various lodging brands such as Ascott, Somerset, Citadines, The Crest Collection, Quest, and so on.
While CLI is focused on AUM growth and fee income in general, when Serena Teo, CEO of CLAS’ manager, was asked whether her focus was growing AUM or keeping DPS stable, she had no hesitation in opting for stable DPS.
See also: CICT's manager proposes to acquire ION Orchard at $1.85 billion, subject to EGM
“To be able to deliver stable returns to stapled securityholders is the priority. That would mean even if we were to grow AUM it has to be accretive. Overall … whether it is CLAS or CLI, we won’t chase AUM. I also don’t have AUM as a KPI,” she reveals.
“Both AUM growth and DPS are important but if I were to choose one, I would choose stability and that has been clearly articulated. Our mission is to provide the security holders with a stable set of DPS. That is why during bad times we topped up distributions to have a more stable level of DPS,” Teo elaborates.
In FY2020 and FY2021, CLAS’ manager topped up distributions with divestment gains. As part of the normal course of business, a foreign exchange gain was also used to top up DPS in 2021. During the depths of the pandemic, CLAS’ DPS fell from 7.61 cents in 2019 to 3.03 cents in 2020 (including partial gains from divestments). The DPS rebounded in 2021 to 4.32 cents, followed by 5.67 cents in 2022.
See also: CICT's manager proposes to acquire ION Orchard at $1.85 billion, subject to EGM
During Covid, which stress-tested CLAS portfolio, occupancy of the operational properties fell to 46%. At the time, the manager further stress-tested the portfolio and found it had sufficient resources to continue operating.
“We stress-tested with zero income during the pandemic. At any time when there was zero income the trust had enough reserves to cover fixed expenses for three years,” Teo shares.
Types of diversification
To achieve stable DPS, CLAS’ manager has adopted a combination of strategies: asset and geographical diversification, and different contract types.
Firstly, on the asset diversification front, CLAS has a mix of asset types. Rental housing and purpose-built student accommodation (PBSA), which accounts for around 20% of AUM, are long-stay types of accommodation, with tenancies ranging from a year to as long as three years. Teo sees these as countercyclical.
Serviced residences are also long-stay accommodation, where average length of stay varies but is around 6–9 months, shorter than PBSA and rental housing but longer than hotels. CLAS inherited 14 hotels when it acquired A-HTrust.
“At different periods of time, certain strategies would have been emphasised more than others,” Teo says, alluding to the different types of income that various asset classes provide.
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For instance, in 2007, a year after its listing in 2006, CLAS invested in rental housing in Japan. Around 50% of Japan’s population rents. Hence, rental housing provides very stable income but not much upside, with tenants renting for 1–2 years.
As at March 31, 50% of CLAS’ AUM comprises serviced residences, followed by 32% hotels, 12% PBSA and 6% rental housing. In all, CLAS owns 57 serviced residences, 18 hotels, 21 PBSA, and nine rental housing properties.
Geographical diversification is an obvious form of diversification. For one thing, emerging and developed markets are often in different economic and business cycles. Even among emerging markets, some grow faster than others. The China-plus-one phenomenon points to companies using parts of Asean such as Vietnam, Malaysia and Thailand as plus-ones.
As at end-March, 60% of CLAS portfolio by AUM is in Asia Pacific (Apac), 21% in the US and 19% in Europe. Asia has a combination of serviced residences and hotels, the US has hotels and PBSA, and Asia has a combination of serviced residences, rental housing and hotels.
Within Apac, emerging Asia is small, with China accounting for 4% of AUM, Vietnam 3%, The Philippines 2%, and Indonesia and Malaysia 1% each.
“We are present in 15 countries and 12 foreign currencies, and we are predominantly in Apac,” Teo describes. In Apac, the big contributors are Japan (17%), Singapore (17%) and Australia (13%).
Thirdly, CLAS has different contract types to ensure a balance between stable income and growth income. These contract types are mainly for its serviced residences and hotels. There will be certain contract types and income streams which are more stable or those with growth income.
In addition to income from rental housing and PBSA, CLAS has master lease agreements, management contracts with minimum guaranteed income, and plain vanilla management contracts.
Excluding two properties under development, CLAS’ contracts comprise 32 master leases, eight management contracts with minimum guaranteed income, and 63 management contracts. Of the 32 master leases, 21 have fixed and variable rent components.
“Master leases and management contracts with minimum guaranteed income will always guarantee a certain level of income. There is downside protection but the upside is capped,” Teo points out.
CLAS’ growth income is from its plain vanilla management contracts where the trust gets the full upside, but also the full downside.
In 2022 and 1Q2023, 60% of gross profit was from stable income, and 40% from growth income. As a result, in its 1Q2023 business updates, CLAS manager announced that gross profit rose 59% y-o-y, and revenue per available unit (RevPAU) rose by 90% y-o-y to $127.
Acquisition boost
FY2023’s DPS should be boosted by the acquisition of nine properties which were completed in November last year. These were an additional 45% of Standard at Columbia, a student accommodation in the US; the beautiful La Clef Tour Eiffel Paris; a serviced residence each in Brisbane and Haiphong; and five rental housing properties in Japan.
Of the nine-property acquisition in November last year, 92% of the properties’ gross profit are from stable income sources, and will raise CLAS’ stable income to 71% (from 69%) on a pro forma basis.
A pressing challenge for S-REIT managers is the rising cost of debt. Although CLAS’ cost of debt is relatively low at 2.3% as at March 31, this level is higher than FY2022’s 1.8% and FY2021’s 1.6%.
Generally, analysts have been lowering DPU forecasts because of rising interest rates which would inevitably eat into S-REITs’ net property income or gross profit.
Teo says CLAS’ revenue is increasing faster than its costs. “The topline coming in from RevPAU is increasing faster and more than able to offset the increase in financing cost for us,” she says.
This is borne out by CLAS’ interest coverage ratio (ICR). Its 12-month trailing ICR in 1Q2023 was 4.4x compared with FY2021 when ICR was 3.7x and cost of debt much lower.
Aggregate leverage as at March 31 stood at 38.7%. Teo says she is comfortable with “40% or less”.
Last year, CLAS raised $170 million to partly fund the $318.3 million acquisition for nine properties.
Aggregate leverage is a function of valuation. In some years, such as the Covid years, of 2020 and 2021, valuations fell.
“If I ignore the effects of divestments and acquisitions of the portfolio, from 2019 to 2020 portfolio valuation came down; from 2020 to 2021, there was a write-down. From 2021 to 2022, there was a 2% rise in valuation. We are still not back to the 2019 level yet,” Teo says.
When asked about property yield versus CLAS cost of capital, Teo says that she prefers to be guided by the ratio of DPS versus net asset value, or 5%. The trading yield of CLAS is at around 5.25%.
Managing 12 currencies
At first glance, capital management at CLAS looks like a complicated job with its 12 different currencies. The trust’s hedging is in two steps. First is balance sheet hedging. CLAS usually uses the debt in the acquisition currency. Hence, it borrows in Australian dollars or AUD to match AUD acquisitions in Australia or in yen for rental housing in Japan.
“The second level of hedging is distributable income. Not all currencies move at the same time to the same extent, and there is a natural diversification in the baskets that offset the impact. In some key currencies, we take deliberate hedging positions to lock in forex,” Teo says.
In the 17 years it has been listed, CLAS has managed to keep the impact of foreign currency on its gross profit within a tight band of plus or minus 3%. In FY2022, the impact of foreign exchange hedges on gross profit was a 2.8% loss. In 1QFY2023, the impact was just –0.1%.
“This year, we don’t have a lot of movement yet. I don’t target but we try to keep that to an immaterial level and a tight range,” Teo says.
What’s next?
Following the acquisitions in 2022, Teo does not necessarily have acquisition and divestment targets. Divestments depend on the cycle of a particular property depending on the opportunity.
CLAS has a strategy to increase allocation in longer-stay properties to the 25%–30% range compared to 19% currently. In addition to the 2%–3% CLAS sets aside annually for “wear and tear”, asset enhancement initiatives (AEIs) may offer more opportunity for valuation uplift.
“Of the 105 properties, there are growth versus redevelopment versus AEI opportunities,” Teo says.
AEIs can change the positioning of an asset and raise its gross profit, or help lift gross floor area in instances where it is underutilised. Riverside Hotel Robertson Quay is undergoing AEI this year and will be rebranded as a Crest property, The Robertson House. The Ascott will bear the key money and has undertaken to pay a minimum guaranteed income post-renovation.
Elsewhere, the refurbishment for Citadines Les Halles Paris in France and Citadines Holborn-Covent Garden London in the UK are expected to be completed in 1Q2024 and 2Q2024 respectively. For Citadines Kurfürstendamm Berlin in Germany, refurbishment is expected to complete in 1Q2024.
REITs and property trusts may be out of fashion as investments during the current interest rate cycle. But investors looking for stability need look no further than CLAS.
