Enlarged, diversified portfolio increases OUE Commercial REIT's relevance and visibility

Greater portfolio diversification has reduced concentration risk and enhanced the resilience as well as stability of our income. As at June 30, 2020, no single asset represented 28% of total portfolio compared to 40% prior to the merger.

The broadened investment mandate also provided us with greater flexibility when assessing investment targets. With a larger capital base, OUE C-REIT has improved access to various sources of capital, and is now able to undertake larger asset enhancement initiatives and respond faster to potential acquisitions.

2. How does the enlarged portfolio support OUE C-REIT’s objective to provide regular and stable distributions to achieve long-term growth?

The stability of OUE C-REIT’s income has been underpinned by a diversified portfolio and relatively stable operating performance in the office segment, which recorded positive rental reversions in 2019 and for 1H2020. While demand in the Singapore hospitality segment has been impacted in the near term, the minimum rent component under OUE C-REIT’s hotel master lease agreements provides downside protection. Our 2020 priorities are on tenant retention through proactive engagement and flexibility in lease terms to sustain occupancy and preserve cash flows.

3. What is the outlook for OUE C-REIT’s various property segments in Singapore and China?

For the Singapore office market, we believe that while supply of new Grade-A office space in the medium term is limited, occupancy and office rents will remain under pressure due to economic uncertainties. However, as expiring rents are still below current market rents, we expect continued positive rental reversions for the rest of 2020, and hence operating performance to be stable.

• For hospitality: We will continue to seek alternative sources of demand for our hotel properties (e.g. guests on Stay-Home Notices, workers affected by border shutdowns, and staycations). The hotel master lease minimum rent will continue to provide downside protection.

• For retail: While shopper traffic has rebounded to approximately 70% of pre-Covid-19 levels at Mandarin Gallery, we expect continued business uncertainty in the retail operating environment.

For the Shanghai office market: We expect Shanghai’s office rental outlook to be subdued given intense leasing competition amidst the continued business uncertainties and significant office supply in the medium term.

4. Can you elaborate on the master lease arrangements for your hotel operations (Mandarin Orchard Singapore and Crowne Plaza Changi Airport)?

The master lease agreements provide income stability through the fixed rent component, which comprise a combined minimum of $67.5 million per annum which, in the current challenging operating environment, provides downside protection. As for the variable rent component, OUE C-REIT receives a percentage of the hotels’ operating income or revenue less fixed rent. This aligns the interest of the REIT and master lessee.

5. How has Covid-19 affected your operations or any financial impact? What measures have you put in place to mitigate the impact?

For the office segment, the committed occupancy is down 2.7 percentage points q-o-q to 91.6% in 2Q2020 as leasing and marketing activities were suspended during the “circuit breaker”, but Singapore portfolio continued to achieve positive rental reversions of 6.8% to 14.8% in 2Q2020.

The retail segment suffered business disruption in 2Q2020 due to the circuit breaker. Although tenants have since resumed operations in Phase Two, there are continued operating challenges amidst the pandemic. The hospitality segment generated a revenue of $33.8 million in 1H2020, which is the minimum rent under the master lease arrangements.

There are several measures in place to mitigate the impact of the pandemic. OUE C-REIT’s rental rebates committed to office and retail tenants to date amount to around $13.8 million. The REIT passed on in full property tax and cash rebates from the government; there have been various assistance schemes extended to eligible tenants. The REIT has suspended non-essential capital and operating expenditure.

The REIT is also more competitive in rental negotiations in Shanghai and has become more proactive in its lease management to retain tenants and sustain occupancy. Less than 6% of gross rental income of the office and retail segment remains up for renewal for the balance of 2020.

For hospitality, the REIT is also capitalising on the current weak operating environment to rebrand Mandarin Orchard Singapore to Hilton Singapore Orchard, adding new income-generating spaces to drive growth in sustainable returns.

6. How do you think distribution for FY2020 will be impacted, and how have the new measures announced to support S-REITs helped the REIT?

There is an estimated $19.9 million of support from the Singapore government comprising property tax rebates and mandated share of relief for tenants. To cushion the impact of business disruption on our tenants, we have also committed around $13.8 million of rental rebates for our tenants. The new measures for S-REITs by the Monetary Authority of Singapore (MAS) have lent some flexibility in managing cash flows.

As a prudent measure, the manager has retained $13.8 million of 1H2020 distribution to conserve cash for financial flexibility to address the challenges ahead. OUE C-REIT’s distribution in 1H2020 was $54.5 million, 12.1% higher y-o-y, translating to distribution per unit (DPU) of one cent. We will continue to monitor the situation closely, and are prepared to introduce further initiatives to support tenants as required. Asset values would have to correct by around 20% before reaching the higher leverage limit of 50% allowed by the MAS.

7. How will OUE C-REIT manage its debt profile to ensure the sustainability of its distributions?

We adopt a prudent capital management strategy by maintaining a healthy balance sheet with sufficient credit facilities to tap on where necessary, and employing an appropriate combination of debt and equity to optimise our capital structure. Our long-term optimal gearing is around 40% and we have consistently maintained that level.

We established a $2.0 billion multicurrency debt issuance programme in March 2020 and issued $100 million 4.0% notes due 2025 under the programme, to refinance borrowings. Advanced negotiations are ongoing for the balance of 2020 debt which will be refinanced ahead of maturity. Average cost of debt, at 3.1% per annum as at June 30 this year, is expected to remain stable. We also employ hedging strategies to manage interest rate volatility. As at June 30, about 80.7% of debt is on a fixed rate basis.

8. What are some key criteria in OUE C-REIT’s strategy for acquisitions? OUE C-REIT recently declined the Right of First Refusal (ROFR) offer to acquire a US asset from its sponsor, could you elaborate on this?

We aim to pursue opportunities in key gateway cities with strong fundamentals and growth potential, to provide attractive cash flows and yields, improving future income and capital growth to unitholders. In terms of investment criteria, besides DPU-accretion, we also review asset yields, asset quality and strategic value.

Aside from US Bank Tower in Los Angeles, we declined the offer to acquire Oakwood Premier OUE Singapore serviced residences from our sponsor’s pipeline in 2019. On the proposed terms, both acquisitions were assessed to not be DPU-accretive. In declining the ROFR, we believe we have shown discipline in evaluating acquisition opportunities.

9. For your office and hospitality segments, OUE C-REIT is focused on Singapore and to a lesser extent, China. Are there any plans to diversify into other Asian markets to add to your footprint?

OUE C-REIT has a global investment mandate so the Manager is not restricted to investments in Singapore or Asia. Our target properties would include offices in the financial hubs of key gateway cities where we believe there will be sustainable demand for office space. We would consider the acquisition of ancillary retail components that are complementary to our office properties (e.g. One Raffles Place Shopping Mall serving our office tenants at One Raffles Place Towers 1 and 2).

In addition, city hotels with a strong corporate customer base would be a focus for us. Hotels with master lease arrangements would also be preferred.

10. What is OUE C-REIT’s value proposition to shareholders and potential investors?

OUE C-REIT has built a $6.8 billion portfolio of high-quality, strategically-located landmark assets which have yielded resilient performance over the years and is managed by a Manager with an extensive track record and expertise in proactively managing assets to enhance operational performance since listing. High-quality, well-located assets are better positioned to maintain their values through economic cycles, even if they may experience temporary dips in operational performance in the short term.

We now have seven properties in the portfolio post-merger, and increased flexibility in investment management strategies such as asset recycling. We believe in having a diversified portfolio to reduce concentration risk, and our broadened investment mandate enhances our flexibility in assessing investment targets.