To The Moon

$Lendlease Global Commercial REIT(JYEU.SI)$

LREIT reported its 1QFY23 business update yesterday. Although there are some positive signs of a strong recovery in retail business and Sir Bahamut saw many sell-side brokers singing praises of LREIT, but there are some red flags that investor should look out for too.

Portfolio occupancy remained stable at 99.7% compared to 99.8% as at end FY22. On a portfolio basis, tenant sales continued to surpass pre-COVID levels in 1QFY23, with sales at 313@Somerset surging to c.125% of pre-COVID levels in the quarter. Footfall gap has also moderated to 90% of pre-COVID levels. Retail reversions was at a positive 1%, while office rental income grew by 4% on annual escalations. Grange carpark AEI is still in early stage and likely only start to contribute next year. Overall, business fundamental looks okay.

However, the average cost of debt increase was very alarming! In 3Q22, the cost of debt was 0.98%, it increased to 1.69% in 4Q22, and now it increases to 2.24% in 1Q23! That is 60+ bps a quarter! By 2Q23 the cost of debt could even reach 3%. A quick check on the debt metrics will tell you the reason: the fixed rate borrowing is only 61% as at 1Q23, so LREIT is very vulnerable to rising interest rate compared to other REITS with higher % of fixed rate. The capital management of the REIT is not well done in my opinion, especially for a stable income vehicle like a REIT.

Also take note, the interest coverage ratio (ICR) is now only 2.3 times, computed in accordance to the Property Funds Appendix of the Code on Collective Investment Schemes. (You have to see the tiny footnote in their IR deck to get this information). This is important because based on MAS’s regulations, if the interest cover falls below 2.5 times, this will result in a lower regulatory gearing limit of 45% from 50%. So, in the event if the valuation of LREIT’s assets get impaired (due to cap rate expansion), there is a risk that LREIT may need to raise new equity to maintain gearing requirements, like what happened to First REIT in 2020. So far, Sir Bahamut thinks this risk is low, but the low ICR is also a reflection of balance sheet stress, notwithstanding that LREIT is likely to have to contend with even higher cost of debt from its floating rate loans or refinancing. It may impact future credit rating as well.

LREIT now trades at 300-350 bps spread to risk free rate, which I think its fair. But there are risk that the DPU will decline in next quarter earnings.

@Daily_Discussion@TigerStars