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FCOT, CCT and K-REIT.

Friday, September 24, 2010

I got a SMS from the blog master of Time to Huat as I was on my way home. FCOT's volume surged as price action formed at nice white candle, closing at 15.5c, overcoming a many times tested resistance at 15c.

Buy signal seen on the MACD histogram, higher low formed on the MFI, OBV spiked and RSI rose into overbought territory. Momentum is positive, demand is strong, accumulation is strong and buying momentum is positive but it could be overdone.

Any reason for the optimism in FCOT? I did not see any announcement by the management which could have resulted in such an upmove in price today. Should we buy some? Could it go higher in price?  From a technical perspective, it does look promising.  Volume is, after all, the fuel that drives rallies and today's volume was impressive.

Let us look at the fundmentals:

FCOT's NAV/unit stands at 26c.  If all the CPPUs were converted, NAV/unit would be 25c. So, at a price of 15.5c, FCOT's units are trading at a 40% discount to NAV.  That's pretty steep.

Gross borrowings as a percentage of total assets (aka the gearing level) is at 40.4%. This is rather high and there is limited room to leverage up for any yield accretive purchases.  However, the 342,500,000 CPPUs have a conversion price of S$0.2369 per unit.  This would bring down its gearing level marginally and give FCOT more capital (S$81.138m) to fund yield accretive purchases in future in case all CPPUs were converted. 

The 3Q DPU was 0.25c. So, the annualised DPU should be about 1c. Based on today's closing price of 15.5c, the yield is 6.45%.  This is not very attractive if we were to compare to what we could get from AIMS AMP Capital Industrial REIT, for example.  Of course, these two REITs are in different real estate sectors.  Let us compare FCOT with CCT and K-REIT instead. 


CCT closed at $1.47 today. NAV as of 30 Jun 10 at $1.36. CCT is trading at a 8% premium to NAV. Gearing ratio is at 32.8%.  Plenty of room to leverage up for further yield accretive purchases. 1H DPU was 3.9c.  So, the annualised DPU should be about 7.8c.  This means a yield of 5.3% based on today's closing price. The yield might be lower than FCOT's but CCT has a much stronger balance sheet.

K-REIT closed at $1.31 today. NAV as of Jun 10 at $1.47. K-REIT is trading at an 11% discount to NAV. Gearing ratio is at 15.2%.  This is very attractive to me as it gives the REIT plenty of room to leverage up for potential yield accretive purchases. 1Q 2010 DPU at 1.33c.  Annualised DPU should be 5.32c which means a yield of only 4% based on the current price of $1.31.  K-REIT has, arguably, the strongest balance sheet amongst the three office property REITs discussed here.  The low yield might put off investors but its low gearing paves the way for future acquisitions which could bump up its DPU.

I have told my friends before that for me to buy more units in FCOT, it has to offer me a much higher yield. The much higher gearing and lower quality assets compared to CCT and K-REIT are justifications. There is also greater safety in CCT and K-REIT as their interest coverage ratio (ratio of year‐to‐date earnings before interest, tax, depreciation and amortisation to interest expense) are at 3.8x and 3.6x respectively while FCOT's ratio is at 2.74x.  There is little doubt that FCOT's fundamentals are the weakest of the three. So, naturally, a higher yield is necessary to compensate for higher risk.

See FCOT's presentation slides here.
See CCT's presentation slides here.
See K-REIT's presentation slides here.

26 comments:

la papillion said...

Hi AK,

As the master of irrelevant comments, I think the colour scheme you chose to highlight the different company summaries are very matching.

There's a F, there's a C, and there's a K...which company starts with U to complete the series? haha

Keep it up, haha :)

AK71 said...

Hi LP,

Haha... hmmm... in line with the drift of your comment, when you said "Keep it up", what was the pronoun "it" referring too? 8-)

Oh my, I would have to put up a warning sign for this section. "Mature content. Do not enter if you are under 18 years old." ;)

mark said...

hey AK

thanks for the analysis. it is very helpful. I learnt something interesting today. I think ive always known it but didnt really paid much attention to it. very obvious and fundamental but it still slipped my mind. Gearing vs room for further growth.

To be honest i prefer to take a lower yield with a lower geared reit, thereby giving the chance of new accuisitions, vs a 'slightly' higher yield for a reit that is geared at a high level. to be frank, if a reit is say, 50% gearing and has a yield of say 12%, i wonder with their debt and limited growth, how sustainable is it?

so perhaps a good way is to find that line, where yield and gearing converges. a good yield, for that level of gearing. naturally one has to look at their assets and other considerations before breaking a warchest.

mark said...

oops i typed out my comment much earlier but realised it was in preview. :(

-- charlesming

AK71 said...

Hi Mark,

Well, when you told me that a certain young analyst who recommended MPSF (puiz) to us a couple of years ago is accumulating units in FCOT, it got me fired up to look at the numbers. Once bitten, twice shy. ;-p

Mind you, it does not mean that FCOT's unit price could not go higher. After all, price is what we pay and value is what we get. Although I do not think there is value in FCOT, its price could go higher. Perhaps, it is in talks to sell off its Japanese commercial real estate? One never knows. Any buying now would be speculative, of course.

I am glad you found the post useful. I narrow down the selection criteria for REITs to NAV/unit, gearing and yield. This does a very quick sweep. Naturally, there are other factors to consider if we analyse individual REITs in greater depth.

I don't know about preferring a REIT with a lower yield and lower gearing to a REIT with a higher yield and much higher gearing. In the former, much depends on the quality of the management and whether they are able to leverage their stronger position to make yield accretive purchases. This is the most difficult thing to assess in any FA: the management.

So, what do we do? Well, the numbers are all we have to go by and they are past numbers (of course). We work with what we have. A near perfect combination might be a high yield, low or zero gearing and a big discount to NAV. Of course, we know it is not really that simple. ;)

AK71 said...

Hi Mark,

Sorry about that. Comments are 100% moderated so that I can filter out SPAM.

I get quite a lot of people leaving comments which are blatant advertisements: Car Insurance, Home Loans, Stock Brokers, Accounting Services, Web Services etc. It's terrible.

Please send me an email to arrange an advertisement contract. It's easy. Sounds reasonable, right? Anyway, you know what I mean. Haha.. :)

mark said...

errr... no.. i dont think high yield low gearing is ideal, simply because it makes me wonder how sustainable it is? referring to reits here, they work a lil differently. eg rules governing how much they have to pay out as dividends etc. low gearing high yield.. sounds a lil like low risk high returns. Scam? :P

Money has to come from somewhere. If one cannot determine with confidence where this money come from alarm bells should ring. Unless u would like to have the 'sun shinning' onto your face each day :P

My ideal is an acceptable yield given the gearing, quality of assets, management capability.. etc. These reits tend to trade above NAV pretty much like a reit blue chip.

One of my little strategies is to look at growth counters (including reits with room to grow) when the economy is picking up. In a recession I will see if I can pick up blue chips etc on the dips. A big bear market flushes the entire beach and one will realise who has been swimming naked all along. Flush these out and look at the survivors and perhaps, you get a pretty good growth potential in some stocks. Could stil pick up blue chips etc, but it usually wont be cheap anymore thats all. Like these days. More room on the upside sure, but just aint that cheap anymore. Remember how much kepcorp was back in 2008 when u and a fellow friend and I were talking about how low can low be. I would pick up blue chips then.. oil and offshore.. with good governance and stuff, but be weary at growth counters at that moment cause the flush wasnt complete yet. One lesson I learnt, one of my counters i used to own ended up being caught swimming with a life vest all along. That vest flew away and the 'swimmer' ended up a 'diver'.

If I have something to take away from the past 2-3 years, my quote is "yesterday's darling could be tomorrow's nightmare".

AK71 said...

Hi Mark,

Valid points, mostly. We have seen our fair share of darlings and nightmares, I am sure. Haha... :)

As for REITs (and trusts) with low or zero gearing and high yields, there are some which come to mind: First REIT, LMIR and K-Green Trust. Hence, my earlier comment. I am sure you can determine where their money is coming from with confidence. ;)

Anonymous said...

Another (often missed out) metric is the dividend payout ratio which is the ratio between its cash earnings (or core earnings) and its distribution to unit-holders. Generally those with high payouts are a little more riskier since there is no buffer hence any dip in earnings will be reflected with a similar drop in dividends.

Company A:
Core Earnings: $10
Dividends Paid Out $10
Yield: 10%

Company B:
Core Earnings: $10
Dividends Paid Out: $5
Yield: 6%

I rather buy B. Its NAV will grow with time and it has a nice buffer to protect my dividends.

Similarly, a trust dealing with rapidly depreciating assets (vessels, aircrafts, cars, railways, BOT water plants, concession highways, waste treatment plants etc) MUST retain a portion of their income due from depreciation in order to preserve the NAV. If such a trust is paying out its depreciation (or maintaining a 100% payout ratio), it is a self-liquidating trust since its NAV trends towards 0.

Cheers
Nick

AK71 said...

Hi Nick,

Such a question is essentially academic when we are talking about S-REITs since those with properties in Singapore are required to pay out 90% of their earnings to unit holders.

As for buying into a trust which pays out 100% of their earnings or 50% of their earnings, I feel that the buyer must know what he is getting himself into. This is most important.

So, if someone is buying into a trust which pays out 100% of its earnings, he should know that the trust would one day come hat in hand to ask for more money. If someone is buying into a trust which pays out 50% of its earnings, feeling the same way you feel, he should not however think that the buffer to protect his dividends is unsinkable (think of dishonest or/and incompetent managements and you get the idea). The management could still come hat in hand, asking for more money. So, it is either having the money now or (maybe) the money later. Personally, I like to have the money now rather than later.

Investors should know what they are getting themselves into and what to do in given scenarios. That's most important. :)

Anonymous said...

Hi AK,

With regards to business trust investing in depreciating assets (eg a shipping trust or an infrastructure trust), retaining a certain amount of income is a must. It has nothing to do with growth prospect (which is another matter altogether). Rights issue should be used to grow a Trust and not renew its assets from 0.

Lets have a very simple business trust model whereby the asset valued at $50 depreciates in 2 days.

Trust A 2 Day Statement:

Revenue Generated: $60
Distributions Generated: $60
NAV: 0

So Trust A ask shareholders to fork out $50 to recapitalize the Trust. And the cycle continues. With a 2 day cycle, the game is pretty obvious - the true payout is $10. But when the cycle takes place for a couple of decades, investors start to get confused and equate the distributions with core earnings. So while you may think that your yield is 10%, in reality it is a lot lower since at the end of the day, your base unit will be worth 0. Actually it is very obvious...just take a look at a biz trust financial statements - Does its NAV keeps decreasing over the past 4 quarters ?

Cheers !

AK71 said...

Hi Nick,

I understand where you are coming from but I think we both agree that the decision ultimately lies with the investor whether or not to put money in a particular trust.

Quoting from your last comment:
"But when the cycle takes place for a couple of decades, investors start to get confused and equate the distributions with core earnings. So while you may think that your yield is 10%, in reality it is a lot lower since at the end of the day, your base unit will be worth 0."

Well, this is why investors should know exactly what they are getting themselves into. If they don't, they have no one else to blame. Buyers beware. ;)

This is why I said:
"Investors should know what they are getting themselves into and what to do in given scenarios. That's most important."

Shipping trusts or business trusts could retain some of their earnings or distribute 100% of their earnings. The latter would make them self-liquidating investments. It is not a MUST that they retain any earnings. It is the management's call and as long as the facts are represented truthfully, I do not have a problem.

If investors get confused over time, well, they should not be. I only have a problem when there is misrepresentation (i.e. a self-liquidating trust giving the impression that it's not).

Anonymous said...

Assolutamente d'accordo con lei. In questo nulla in vi e 'una buona idea. Pronta a sostenere voi.
Assolutamente d'accordo con lei. Ottima idea, condivido.

AK71 said...

Hi Anonymous,

I didn't know my blog has Italian readers. Thank you for commenting. :)

For the benefit of most other readers, your comment translates to say:

"Absolutely agree with you. In this nothing in there 'a good idea. Ready to support you.
Absolutely agree with you. Good idea, I agree."

It is probably not a very good translation but that's what I got from Google Translate. ;)

Please leave your name or initials in future comments and do visit often. :)

Anonymous said...

I do agree with you.

Hence, the dividend yield (based on DPU/unit price) isn't an accurate depiction of the Trust's true yield if it is a self-liquidating vehicle.

Naturally, this is one of the reasons why I disagree that K-Green is a 7% yield based on their projected distributions.

Cheers :)

Anonymous said...

Wow AK got Italian readers...going transnational soon I see ? :)

Nick

AK71 said...

Hi Nick,

I see your point. However, for the sake of simplicity, I would refer to that 7% as "yield" anyway even if it is not the "true yield". ;)

How much would K-Green Trust have to pay to renew their concessions when they finally expire? That's anyone's guess although being part of the Keppel Group and the group being a baby of the Singapore government's investment arm, I do expect them to be well taken care of. However, that borders on speculation and I shan't go on. ;p

AK71 said...

Hi Nick,

I was somewhat dumbfounded when I saw the comment. Coming from someone as talkative as I am, that's saying something. Sorry for the multiple puns. ;-p

I didn't know what to make of it initially. Thank goodness for Google Translate. :)

Drizzt said...

i am somewhat intrigue by the direction of discussion here.

My take:

1) agree with most said by Mark and AK71. You pay out 100% but at the end of the day your assets worth is $0.

You need to buy new assets to keep that 10% yield.

If you pay out 6% and keep 4% as retained earnings, can you pay down debt significantly to make a difference? (like what rickmers is doing). can you buy assets or perform capital maintenance on existing assets? (utilities and telcos would be able to)

if you are not able to do that, then it is better to pay out to us investors to redeploy.

2) whether K-Green, MIIF, Frasers Commercial Trust makes money or screws us up is very dependent on the managers

i) integrity to make the decisions in the interest of you and me (not very likely. they tend to work for their sponsers more)

ii) sound management of debt cost vs cashflow yields. taking on debt is not wrong but not planning for catastrophic rise in interest rates and refinancing problems is bad management or out of their hands. in that case the favorable investment vehicle is one with low debts to begin with.

iii) buying the yield accretive assets. most are dumping grounds for sponsers really. does the manager sees this asset at the bottom of the rental cycle or property cycles and buys it? i don't think so they just buy it because thats what the sponsers want. how much cashflow you earn on NAV over x depreciating years depends on the ability in which the assets can generate cashflow above the price you paid for the assets, if not, we are just paying for rights issues and taking back our own money don't you think?

Drizzt
InvestmentMoats.com

AK71 said...

Hi Drizzt,

I think it is the first time I have seen such a long comment from you in my blog. Thank you. :)

I like it when you said "better to pay out to us investors to redeploy." Like I said in an earlier comment in reply to Nick, "I like to have the money now rather than later." Haha.. :)

Yes, we have to depend on the managers of the REITs to do a good job, to have integrity and to take care of our interests. Whether their intentions are honourable or whether they are driven by what sponsors want them to do, to me, as long as it is beneficial to unit holders, I have no quarrels.

If a certain rights issue or acquisition would translate into greater benefits for unit holders, I would go for it. I try to keep things simple, boiling down to the things which matter. :)

Anonymous said...

Hi Guys,

Please don't mistake my points as a pro 'income-retention' trust. I don't make a big deal about which capital structure is superior. I don't really care whether the Trust is retaining income or not...what I care about is its 'real yield'.

My main aim here is to point out the difference between the historic yield and the real yield. Most people tend to value their business trust by historic yield which simply means the ratio between the last year distributions and the current unit price. Hence if Trust A pays out $1 dividend while its share price is $5, we say that its historic yield is 20%.

Real yield is an entirely different story. It takes into account the fact that a business trust will go bust eventually. So our real yield is significantly lower than our historic yield. If the same Trust's NAV would go down to 0 in 10 years, its real yield is [$1 - ($5/10)]/5 X 100% = 10%.

As such, it is necessary to calculate what is your REAL yield. If your real yield is 2-4%, are you sure your investment justifies the risk placed on it ?

For a Trust that retains income to renew its assets (ie retain income due to depreciation), its historic yield is similar to its real yield since its NAV stagnates.

Is such a Trust superior ? Ultimately it doesn't matter as AK and Drizzt has pointed out. But it matters when people start equating the real yield for the historic yield. Similarly for KGT - its historic yield is 7% but what is its real yield ? Considering that its counter-parties are SG govt, I am quite certain that its real yield will be priced as SGS interest rates levels. In that case, wouldn't it be better to buy a bond ?

Worst still are Trust whose real yield is negative - the key lies in earnings...if they are posting losses, it means the real yield is most likely to be negative. Yet people are seduced by the high 'historic yield' and end up buying into it. Naturally, it is prudent to look at why it is making losses. If it is due to a overly-conservative depreciation policy (like depreciating a power plant or a vessel within 10 years), then we can re-adjust our calculations.

Ultimately, my point here is to urge investors to look beyond the share price yield. Instead, spend some time to first determine the following -

1) Is your Trust heading towards NAV = 0 if there is no recapitalization exercise ?

If yes -
2) Taking into account the fact that your stake in the Trust will be worth zilch in X years, what is your real yield ?

Then, 3) Are you happy with that yield ? If yes, because it is still pretty high, then go for it.

Cheers
Nick

AK71 said...

Hi Nick,

Thanks for taking the time to explain your point of view in such great detail. I understand where you are coming from.

Let's see if Drizzt has further comments. :)

Drizzt said...

good post nick. i agree with you though i am not sure how you came up with that formula. could you be kind enough to point me to more info regarding the calculation of real yield? is it a variation of internal rate of return?

ultimately we all get suckered into these deals because everyone thinks that REITs are perpetual! they are only perpetual if there are capital replacements and if you pay out near 90% of it, its basically like i buy a bond i get the money, i like the bond i buy it again and again.

the difference is that if i don't like this bond i dun want to buy it, but my share of my existing money gets diluted!

certain things to think about.

AK71 said...

Hi Drizzt,

You might wanna check out Nick's comments in my latest blog post: "Office S-REITs VS Industrial S-REITs". You will find some calculations there.

http://singaporeanstocksinvestor.blogspot.com/2010/09/office-s-reits-vs-industrial-s-reits.html?showComment=1285516979609#c7519628763882569633

As for being suckered into REITs thinking that they are perpetual, I think that comment precludes the possibility of REITs owning 100% freehold assets. Saizen REIT owns 100% freehold assets. It is, therefore, perpetual. Buy some? ;)

Cheers! :)

Anonymous said...

Hi Drizzt,

My formula is pretty rudimentary -

Real Yield: (Projected Cash-flow - Enterprise Value)/(Market Cap X Asset Life-span)

Projected cash-flow is average annual revenue X asset life span. This is difficult to value unless the Trust's asset life-span is short and its lease contracts last for a long time.

EV - Market Cap + Net Debt

Lets use AIMS REIT as an example:

Annual cash-flow: $31.5 million
Asset: $660 million
Net Debt: $160 million
Asset Life-span: 43 years
Market Capitalization (based on pre-rights price of $0.22): $322.6 million

So the projected cash-flow is (31.5 X 43)= $1.354 billion

But since the Trust will need to repay its loans eventually, we should deduct it. Moreover, our invested capital (or market cap) will hit 0 when the lease expires.

Real Cash-flow: 1.354 - 0.322 - 0.16 = $0.87 billion

This means that if I invest $322 million today, I will get 872 million over the next 43 years. This works out to $20.2 million annually.

Hence my real yield is 20.2/322 * 100 = 6.3%

This means that AIMS REIT would have a superior yield over its competitors if their yield is less than this.

This equation wouldn't work for biz trust that holds freehold assets or continually seek to replenish their assets through retaining income due to depreciation.

Cheers !
Nick

Drizzt said...

hi nick. thanks for the explanation. i think i get what you are trying to do. total projected income if it does not grow times number of years, minus the current mkt cap + debt - cash. divided by market cap x number of years.

somehow i feel its flawed. yet before i wreck my brains, its the best we have lol.

cheers

Drizzt
investmentmoats.com

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