Suntec REIT

[CY09]

https://officefinder.com.sg/suntec-reit-...ice-units/

Due to its close to 45% leverage and 2.0 ICR (below MAS 2.5 times ICR if Suntec REIT exceeds 45% leverage), Suntec faces the prospect of the need to shore up its balance sheet. CEO has come out to clarify he will not be doing rights raising but instead selling of strata office spaces in Suntec will be done.

Interestingly the office space in Singapore has one of the lowest Cap rate in the world (besides Japan that of I know), so this makes Singapore office spaces one of the most resilient (you can also say overvalued) investment in the property market. Good job by the CEO of planning to offload expensive assets to others. I would commend him on making an astute choice

[CY09]

Suntec Valuation of it Singapore assets and its reported weighted SGD issued loans has given me a thought

Suntec's 33% JV in One Raffles Quay and MBFC has an overall valuation of SGD$3.142 billion and earns $109 million (cap rate of 3.4% for its office space and 4.25% for its small portion of retail). Suntec has SGD$3.486 billion debt at an average weighted debt cost of 4.6% interest rates. Annually Suntec REIT is paying $160.35 million in interest.

A sale of its JV at say SGD$3.1 billion (nett of 1% divestment fee) and using its proceeds to pay down its Singapore SGD loan will result in an interest savings of $142.6 million and an income loss of $109 million; however, this means Suntec unitholders will see a SGD$32.6 million increase in annual distribution

A sale of Suntec's 33% JV can increase DPU by 15.7% making it a 7.5% dividend yielder, in addition, its leverage ratio will be reduced to 16.52% making it the least leveraged REIT in Singapore

So why is the REIT manager not making such a move of putting its JV stake out for a sale to monetise it. It is both DPU accretive and delverages the REIT

[hancheng08]

Suntec Valuation of it Singapore assets and its reported weighted SGD issued loans has given me a thought

Suntec's 33% JV in One Raffles Quay and MBFC has an overall valuation of SGD$3.142 billion and earns $109 million (cap rate of 3.4% for its office space and 4.25% for its small portion of retail). Suntec has SGD$3.486 billion debt at an average weighted debt cost of 4.6% interest rates. Annually Suntec REIT is paying $160.35 million in interest.

A sale of its JV at say SGD$3.1 billion (nett of 1% divestment fee) and using its proceeds to pay down its Singapore SGD loan will result in an interest savings of $142.6 million and an income loss of $109 million; however, this means Suntec unitholders will see a SGD$32.6 million increase in annual distribution

A sale of Suntec's 33% JV can increase DPU by 15.7% making it a 7.5% dividend yielder, in addition, its leverage ratio will be reduced to 16.52% making it the least leveraged REIT in Singapore

So why is the REIT manager not making such a move of putting its JV stake out for a sale to monetise it. It is both DPU accretive and delverages the REIT

Sounds right on theory but don't think it will happen.
1) The manager is paid by AUM size, the higher the better. so is a loss of income to the manager, unless their fee is based on DI, then it make sense. 

2) office cap rate of 3.4% is low, not sure if they can really manage to fetch this amount in the open market ?  mapletree anson transact at 3.8% yield, so maybe 3.6-3.7% is more realistic.

[CY09]

Thanks hancheng, if there is a conflict of interest in how the REIT manager is acting to the detriment to Unitholders, are there any course of action Unitholders can take besides voting out the REIT manager?

It seems to be a significant conflict of interest if ARA's base fee is indeed based on AUM. This is because they are trying to earn more fees while Unitholders suffer a loss. Even at a cap rate of 3.8%, the sale of a Singapore Office Property could potentially outweigh the interest accurred from the SGD denomianted loan. Something is not right and this is a possible conflict of interest that borders on legal implications or that the Singapore valuer is overstating asset value by too wide a degree

[weijian]

Just a few additional notes to the discussion:

(1) Looked at Suntec REIT's AR23, REIT managers' fees are a combination of base + performance fees. Base fee is calculated based on % of property value (reflection of AUM size) and performance fee is calculated based on % of net property income. Financing increases acquisition ability and boost AUM size but on the other hand, financing costs does not impact net property income (Financing costs only impact distributable income). Putting the fact that Sponsors are normally paid in units which aligns them in terms of distributable income, there seems to be little alignment in terms of the fees wrt to financing costs. Or rather on paper, REIT managers are probably incentivized to maximize financing.

(2) REIT managers' fees are not the only manner in which Sponsors "benefit" from. The Manager who controls the asset also determine the appointment of the property manager who operates it. This is also why AUM (asset under mgt) is more valuable than AUA (asset under administration) in terms of stickyness.

For context, Capitaland Investment for FY23 (as per AR23):
- Fund Mgt earnings as % of AUM: 46bp
- All-in earnings as % of AUM: 81bp (All-in includes fund mgt, property/commercial/lodging mgt)

So in essence, the non-asset/fund mgt fees will add another 70-80% of asset/fund mgt fees and almost double total fees.

(3) When property cap rates are lower than interest costs, it make sense to sell properties to pay the loan. However, the opposite also holds true, ie. it make sense to buy properties when property cap rates are higher than interest costs. So there are 2 different actions depending on where interest rates are. Since asset managers are takers of interest rates and can't control them, one probably have to account for them over the "interest rate cycle", rather than looking at them at a particular moment in the cycle. For example, it might be mathematically logical to sell your "expensive" asset to pay your "more expensive" loan. But if interest rates do get lower in future, one may have to pay a "more-more expensive" price to buy back a similar asset to replace the "lost income". IMHO, taking the middle path, ie. acquiring good assets and not over committing during good times, is the most sustainable path for both Sponsors and REITs. In a more cliche term, Sponsors need to share equitable value with their FUM for their own long term value creation.

(P.S. All these is coming from a person who prefers asset managers over assets)

[hancheng08]

Thanks hancheng, if there is a conflict of interest in how the REIT manager is acting to the detriment to Unitholders, are there any course of action Unitholders can take besides voting out the REIT manager?

It seems to be a significant conflict of interest if ARA's base fee is indeed based on AUM. This is because they are trying to earn more fees while Unitholders suffer a loss. Even at a cap rate of 3.8%, the sale of a Singapore Office Property could potentially outweigh the interest accurred from the SGD denomianted loan. Something is not right and this is a possible conflict of interest that borders on legal implications or that the Singapore valuer is overstating asset value by too wide a degree

The conflict is always there, is an inherent risk due to external manager model. This will truly eliminate if the manager is internalised but I doubt this will happen in Singapore. Just look at the mess right now with Sabana REIT.

The whole game is grow the AUM and increase DPU, so everyone is happy. just that the manager cannot be too greedy early.

[CY09]

Thanks all, what triggered my thoughts was how MPACT divested mapletree anson.

In the divestment it showed how the sale was DPU accretive. And it was to secure gains over latest valuation and purchase price

Suntec JVs too were purchased years ago and the current REIT has rather weak ICR ratio. A divestment of a JV of a top Grade A office would strengthen the balance sheet and be accretive by 15%.

One may say in the future interest rates go down and it becomes worthwhile to buy building. But do note for suntec cap rates, it has been weird. In 2020, it's cap rate was 3.8%, now it has gone down to 3.4%. despite the rise in SORA from 0.25% to 3.7% if valuation says so, I thought it is good time to divest. One has to also remember suntec sg property are leasehold by nature so it seems to be an opportune moment to divest it's SG office when it's valuers feel it's property potential classifies it as a Grade A asset that is better than risk free

[weijian]

One may say in the future interest rates go down and it becomes worthwhile to buy building. But do note for suntec cap rates, it has been weird. In 2020, it's cap rate was 3.8%, now it has gone down to 3.4%. despite the rise in SORA from 0.25% to 3.7% if valuation says so, I thought it is good time to divest. One has to also remember suntec sg property are leasehold by nature so it seems to be an opportune moment to divest it's SG office when it's valuers feel it's property potential classifies it as a Grade A asset that is better than risk free

Well, i am not privy to how valuations are conducted in detail. But I do know that if facts are what they are - our job as OPMIs is to accept the facts and then interpret them accordingly to form the basis for our own understanding.

SORA looks to be relatively short term sort of rates. The yield curve is currently inverted and so longer term yields had risen less and also yielding less than short term. Could this indicate that "SORA isn't a consideration for cap rates" is a fact after all?

There are a lot of SG real estate yielding at <2% cap rates (eg. those shophouses). I used to think fools overvalued them until I realized I was the fool undervaluing them. In the absence of a bubbly crowd of excess capital, investors can't be any less rational focusing on capital gains rather than rental yields. Prime real estate will only get better over cycles. Prime real estate reminds me of certain growth stocks actually - they are cheap when they have "super high PEs/low cap rates" but when the facts finally do change, their PEs become lower/cap rates become higher, and actually they become more expensive.

So there we have it - high PEs/low cap rates are actually cheap. And low PEs/high cap rates are actually expensive. Investing has to be counter intuitive, isn't it?

[owq]

This is a good case study for us regarding management fees and their incentives. Suntec's fees are tied to Assets and NPI. MPACT fees are 10% of DI and 25% of DPU growth. In fact, before the merger, MCT's fees were tied to Assets and NPI, similar to Suntec. The new fee structure was likely inherited from MNACT as part of the merger.

If the management fee structure did not change, would MPACT still perform this move?

[CY09]

Definitely I will say. Managers are incentivised by the metrics you want them to perform by. If your performance bonus is determined by how well GDP grows, you would ignore the externalities such as social cohesion or lack of national identity.

On a smaller level, if MPACT had still stuck to the old incentive fee structure, Mapletree Anson wont have changed hands. Many of the newer listed REITs are now on the 10% DI and 25% DPU growth for performance fee. IMO, its a much fairer incentive structure in favour of OPMI unitholders

<Not vested in Suntec REIT, but again Im hoping mgmt work in favour of OPMI shareholders, which has mostly not been the case in Singapore>