Prime US REIT’s OXMU FY2022 results demonstrates that US office remains a challenging sector. And, following Manulife US REIT’s (MUST) BTOU results announcement on Feb 9, all three US office REITs have reported declines in FY2022 and 2H2022 DPU. All three REITs reported revaluation losses, with Keppel Pacific Oak US REIT (KORE) CMOU the lowest at just 2.2%, Prime with a 6.7% decline in valuation and MUST with a 10.9% decline in valuation.
For MUST, the decline in valuation was largely from Figueroa in downtown Los Angeles, Plaza in New Jersey, Penn in Washington DC, The Exchange in New Jersey and Centerpointe in DC.
All of Prime’s properties declined in value but the largest declines in valuation were from Reston Square in suburban Virginia, Village Center Station I, Denver, and One Town Center in Boca Raton Florida. As a result, its aggregate leverage rose from 37% a year ago to 42.1% as at Dec 31, 2022. This is below both the regulatory ceilings of 45% and 50%, while ICR at 4x is comfortably above the regulatory floor of 2.5x.
Prime’s gross revenue for 2H2022 was 4.1% lower y-o-y mainly due to termination income received in 2H2021, and a tenant departure at Reston Square in 3Q2022 post its acquisition by another firm. NPI in 2H2022 after adjustments was 4.5% lower y-o-y lower due to declines in rental income and higher operating costs as tenants returned to office.
Income available for distribution in 2H2022 fell by 10.8% y-o-y to US$35.8 million due to lower NPI, exacerbated by higher interest costs on Prime’s unhedged debt facilities. As a result, 2HFY2022 DPU fell by 12.2% y-o-y to 3.03 US cents. For FY2022, DPU of 6.55 US cent was down 3.4% y-o-y.
As an example of how vast the US office market is, Prime REIT’s messaging appears to be different from MUST’s which was somewhat downbeat. For instance, in its presentation, Prime pointed out that high quality Class A and trophy offices continued to see positive absorption in 4Q2022; rent growth continues to be positive albeit with increased lease incentives; the leasing market remains active, and new office construction was lowest in 2022 since 2014. In the meantime, return-to-office physical attendance was more than 50% for the first time since the start of the pandemic.
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RHB Research says: “Moving ahead, we expect some occupancy volatility (+/-3% from current levels) with media reports stating that Prime’s third-largest tenant Sodexo is likely to leave One Washingtonian Center to a new development in the nearby area by end of the year.”
In its outlook, RHB Research says it is lowering its FY2023 and 2024 DPU forecasts by 13% and 12%, adjusting for occupancy and financing costs.
Prime closed at 49 cents on Feb 9, down 6.6% overnight, but up 22.5% since the start of 2023. Even then at this price, its DPU yield is 13.3%, and P/NAV is 0.65x. At these valuations, acquisition growth is unlikely as equity is expensive. Most probably, Prime will be focusing on leasing and occupancy, with an eye on rental income to maintain its ICR of 4x in the face of higher funding costs.
