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Saizen REIT: AGM on 19 Oct 10.

Tuesday, October 19, 2010

I managed to take leave from work to attend Saizen REIT's AGM with a friend today. The AGM started on time and there were few surprises for me as I have been tracking this REIT for about a year now. Nonetheless, I picked up some interesting points which might not be apparent from the presentation slides.

The management took pains to impress upon unitholders that even if YK Shintoku were to suffer a foreclosure, the rest of Saizen REIT would not be affected. The DPU of 0.26c for the months of May and June 2010 did not have any contribution from YK Shintoku. We could expect this DPU to be sustainable. So, even if YK Shintoku's loan remains unresolved, we could expect a DPU of 0.26c x 6 = 1.56c per annum, ceteris paribus.  This is a yield of almost 10% based on a unit price of 16c.  However, I would expect this to be diluted somewhat if all the warrants are exercised. A 7% yield could be more realistic then.  When we take into consideration that Saizen REIT owns freehold properties, this becomes quite attractive.

Depending on whether YK Shintoku's CMBS is refinanced and the size of its portfolio at the point in time if refinancing happens, yield would be adjusted upwards but the magnitude of such an adjustment would remain guesswork for now, at best.

The management's energy is now focused on the re-financing of YK Shintoku's CMBS. The main difficulty in getting the loan re-financed is the cautious stance of lenders. This explains why they are gradually divesting properties in YK Shintoku to lower the absolute quantum of the loan. This is a preferred alternative to having the portfolio foreclosed by the CMBS holders.

A smaller loan quantum would also make it more palatable to potential lenders, of course. In fact, Mr. Raymond Wong mentioned that a bank in Tokyo is willing to lend them more money provided that they resolve the YK Shintoku CMBS first. A chicken and egg problem, it seems.

Mr. Wong further revealed that in the last two years or so, they met up with about 60 different banks and managed to refinance all but YK Shintoku 's CMBS. The absolute size of this CMBS remains a challenge although it has been reduced through divestment of properties over time from the original JPY 7.953 billion to the current JPY 5.9 billion. It was also said that YK Shintoku has a cash reserve of JPY 0.6 billion which would reduce the outstanding loan balance to JPY 5.3 billion.

The problem with CMBS is that it has to be fully repaid and there is no amortising feature. So, the challenge is now to find a lender willing to lend JPY 5.3 billion to refinance YK Shintoku's CMBS.

The management revealed that it collected $14.56 m from warrant proceeds as of 18 Oct. Potentially, it could receive another $30.18m if the rest of the warrants are exercised. If enough properties from YK Shintoku were divested to make the outstanding loan balance payable using warrant proceeds, we might not even need to refinance the loan. JPY 5.3 billion is (at today's rate of 1 JPY = 0.01575 SGD) equivalent to S$83.475m.  For such an option to work, it seems that Saizen REIT would have to divest another $40m worth of properties from YK Shintoku's portfolio.

Both Mr. Raymond Wong and Mr. Chang Sean Pey agreed that it is not the best time to sell properties in Japan. In fact, it is a time to buy properties in Japan (which could explain partially why GLP and MLT bought so many properties this year in the country). Unfortunately, the lack of willing lenders for YK Shintoku's refinancing bid leaves them little choice but to continue divesting properties until a time when it is no longer necessary. Like Mr. Wong said, it beats having the portfolio foreclosed.

The successful refinancing or discharging of YK Shintoku's CMBS would represent a bonus for unit holders since it would resume contribution to the REIT's distributable income. This is not, by any means, certain. Therefore, I would not buy Saizen REIT with this as the primary motivation. It is just a bonus that could very well materialise.


The management's tact to present the REIT as a safe income generating instrument was not lost on me. However, some unitholders were clearly not impressed and asked if there were plans to have greater coverage of Saizen REIT by brokerages and whether there would be further re-rating upwards by Moody's. It is a fact that Saizen REIT's units are trading at a huge discount to NAV and the yield is very high.  This was explained by Mr. Raymond Wong, quite candidly, because of the market's perception of the REIT which has remained unfavourable as well as the negative perception of the Japanese economy as a whole.

Having said this, understanding the need to have increased coverage for Saizen REIT, the management has met up with the largest retail brokerage in Singapore yesterday and will conduct a briefing for analysts today. Of course, positive coverage could give Saizen REIT's unit price a shot in the arm.  After all, it remains a strong value proposition.

Mr. Chang made a very good point that the depressed value of Japanese residential real estate is not because rental rates have plunged. Rental rates have remained relatively stable. It is because liquidity has dried up but this is slowly changing. The recent successful divestment of various properties in YK Shintoku shows that buyers are back and liquidity is returning. Things could only get better from here, in my opinion.

So, was there anything I did not like about the AGM? Resolutions 3 and 4: Allowing the manager to make or grant convertible instruments and to issue by way of placement at a discount of 10 to 20% of the unit price at the point in time. Although Mr. Raymond Wong assured unitholders that it is a formality and that they would not do any placements at such a steep discount to the current very depressed unit price, I voted against these resolutions.  I do not like share placements as they exclude small investors like me from taking part in the enlarged capital base.  I much prefer a rights issue.

In general, I enjoyed the AGM. Both Mr. Raymond Wong and Mr. Chang Sean Pey were polite and shared information freely. They answered questions candidly, acknowledging the difficult circumstances surrounding their efforts to refinance YK Shintoku's CMBS. Mr Arnold Ip, the Chairman, whom I have always imagined to be a Chinese gentleman but turned out to be Eurasian, said that they are now a lot more optimistic about the REIT and its future when, only a year ago, they were thinking of the worst case scenario.

After attending the AGM, I am more convinced than ever that Saizen REIT is a value proposition that is hard to ignore.  It is an income instrument that would continue to deliver a relatively high yield at the current price and the potential upside is more than any potential downside. I would continue to accumulate on weakness, if the opportunity presents itself.

AGM presentation slides here.

Related post:
Saizen REIT: Divestment of 3 properties.
Saizen REIT's properties: Would I buy?
Saizen REIT: Better than expected DPU.

28 comments:

Anonymous said...

Very good article.

Just a bit lost on the history - "YK Shintoku's CMBS". What is this and it's going on ?

Kiam sia & huat ah for all...

SnOOpy88

AK71 said...

Hi SnOOpy88,

All of Saizen REIT's property portfolios were financed by CMBS and the only one left is YK Shintoku's CMBS which Saizen REIT defaulted on last year in November.

CMBS require a full payment of the loan amount at maturity. Saizen REIT was unable to do so and the CMBS went into maturity default. YK Shintoku has been paying a default interest rate of 7.07% (up from 3.07%) since.

For Saizen REIT,
"If YK Shintoku were to suffer foreclosure, the nett effects would be a 22% decrease in nett property income, a 10% reduction in NAV and its gearing level would decline from the current 36.9% to 27.4%."

This is the worst case scenario which I blogged about earlier in May.

Saizen REIT: 3Q FY2010 Results.

However, no foreclosure has taken place and the CMBS holders have allowed Saizen REIT to divest properties to pay down the loan.

Like I said, things could only get better from here. :)

Anonymous said...

Hi AK,

Nice write up.

One question, why don't management just do a rights issue to solve the CMBS problem.

Thanks
KL

AK71 said...

Hi KL,

I think the backlash from unitholders would be quite scary. From the AGM, I gathered that many unitholders are from Saizen REIT's IPO days. Imagine asking them for more money again. It would be a PR nightmare.

Unlilke AIMS AMP Capital Industrial REIT which issued rights for yield accretive purchases, issuing rights just to pay off debt which would lead to yield dilution could only be frown upon, to put it lightly.

On top of this, at the current very depressed unit price, the cost of fund raising through equity would be too high. It would be cheaper, if possible, to secure a bank loan and that is what the management is trying to do.

Of course, this is my interpretation and I cannot say that I am speaking for Saizen REIT's managers. ;)

Anonymous said...

so desu ne!

One of the unitholders did highlighted that with their decreasing rental, I think it's a drop of 4%, their income would follow south as well. Essentially 0.26c x 6 would be an overestimate.

However during lunch one of the management did mention that to increase rental, they would need to improve some of their properties. Though it would incur additional costs, they'll be spending good money on improving a freehold property =)

Oh there was also mention of expanding into the Tokyo residential scene after the CMBS storm is finally over to occupy roughly 10% of their portfolio. One could interpret that as a hint of them having progress with the CMBS Shintoku or that they're dreaming a little too much ;p guess we shall see.

-piggo

AK71 said...

Hi piggo,

Yes, valid points. At this stage, thoughts of buying residential retail properties in Tokyo are likely to belong in the same class as day dreams. ;)

This is a reason why I decided not to mention it in this blog post although it was mentioned by Mr. Wong at the AGM as something that they would like to do in future.

As for rental reversion downwards of 4%, they failed to mention how much of their rental income suffered such a downward reversion. Perhaps, they did and I did not capture it.

It would have little material impact on their total rental income if, say, 20% of their total rental income suffered a 4% discount. That would result in their total income reducing by only 0.8%. :)

Anonymous said...

Thanks for the excellent write up AK. :)

Nick

AK71 said...

Hi Nick,

You are welcomed. The pleasure is mine. ;)

My secret ambition: to be a business desk writer for The Business Times. ;p

Anonymous said...

Thanks for the clarifications. I seriously think that it is better to resolve a problem early, then to be faced with a black mark on their records - which will have an impact on future loans.

The bottomline : Is there any dividends for us ?

SnOOpy88

AK71 said...

Hi SnOOpy88,

It takes two hands to clap. If lenders are not willing to lend, what is left for a would be borrower to do? ;)

As for dividends, it has resumed and unitholders can expect the next payout in March 2011.

I estimate the DPU to be between 0.5c to 0.6c (excluding YK Shintoku's income, of course). :)

bummy said...

thanks AK for your neat summary of the AGM. Very useful.

If 2 months dpu for may and june is 0.026%, shouldn't the march 2011 dpu for period july to dec be 0.026 x 3 = 0.078c ?

AK71 said...

Hi bummy,

2 months' DPU was 0.26c but that was based on slightly less than 1 billion units in issue, if I remember correctly.

As revealed at the AGM, Saizen REIT now has 1.1 billion units in issue as many exercised the warrants. So, expecting that more could exercise the warrants before the next payout in March 2011, I am being conservative in my estimate. :)

Of course, a stronger Japanese Yen, possible higher occupancy rates and possible resolution of YK Shintoku's CMBS could bump up DPU. Hard to be precise. ;)

iisterry said...

Actually I believe the current estimated yield of 9.X% based on 16c should have peaked for the foreseeable future.

Any upside from the YK Shintoku issue will be offset by the dilution due to the exercise of the warrants.

AK71 said...

Hi iisterry,

A more realistic estimate of the yield is 7%, taking it as all warrants being exercised. This excludes any contribution YK Shintoku might make in future.

Basically, if all warrants are exercised, Saizen REIT would end up with 50% more units in issue (roughly).

So, a DPU of 0.26c for two months would be down to 0.173c. Multiply this by 6 would give a DPU of 1.038c per annum. Based on the current price of 15.5c, that is a yield of 6.7%.

If YK Shintoku's reduced CMBS is refinanced soon and if we do not see more divestment, we could see an interest payment savings of about JPY177m (interest rate from 7.07% to 4%). This could contribute about 0.18c to the annual DPU.

In such an instance, YK Shintoku's free cash flow could contribute another JPY100m ($6.6m) to distributable income annually. This is assuming a nett yield of 7% and would bump up the DPU by another 0.1c.

So, in such a case, we would see a DPU of 1.318c for a yield of 8.5% based on the current unit price of 15.5c.

I believe this is being optimistic since the management has indicated that it would have to continue divesting properties and that refinancing does not seem probable at the moment without a willing lender. However, it does show the potential upside YK Shintoku could provide to Saizen REIT's DPU if not for its CMBS.

Of course, we do not know if all warrants would be exercised before March 2011 and we do not know if YK Shintoku's CMBS could be refinanced before the REIT goes CD. All guesswork for now. :)

iisterry said...

Hi AK

Yep. That what I mean by "the yield has peaked @ 9.X%".

Regardless, it seems decent as a long term holding instrument given the nature of the Reit. Perhaps expanding to the larger cities might provide a boost. However at only a 10% weightage of the portfolio, we should still see DPU at around the same level.

It did appear that Saizen is trying hard to rebrand itself. They got a new CO-CEO on board. His resume on paper looked to be quite substantial. Along with securing a capital market license from SGX.

Their IR leaves much to be desired though. I have written an email through the channel before and yet to receive any acknowledgement.

AK71 said...

Hi iisterry,

Well, we can only hope that the management would do better in time. I too sent them an email through their website many moons ago but did not get a reply from them. I eventually found the answers I want but through secondary sources.

I agree that Saizen REIT is a decent long term investment if we are investing for income and not too concerned about capital gains.

Downside should be pretty limited given the current huge discount to NAV and relatively high yield. A big plus is the fact that it owns freehold properties. :)

Anonymous said...

AK,

u write better than the BT business desk writer. One day u will realized your dream ;)

KM

AK71 said...

Hi KM,

You are very kind. :)

However, I think I prefer blogging. I stay anonymous and have no boss to answer to. However, I don't get paid either. :(

So, please visit my sponsors and give my ZUJI banners a chance if you are planning to travel in future. Thanks. ;)

Anonymous said...

AK71,

Do you have a view as to why Saizen's management did not float the idea of using the unencumbered property portfolio as collateral to refinance the outstanding local from YK Shintoku?

And did the management state if they were going to use the warrant exercise cash proceeds towards the partial repayment of YK Shintoku's loan as well? 7.07% pa is a punitive amount of interest to pay....

I went to Saizen's AGM too, but was not allowed to enter as there were overwhelming attendance from unitholders, hence warrantholders like me were not allowed in as observers....

AT

AK71 said...

Hi AT,

The management has, in past announcements, raised the possibility of using the two unencumbered property portfolios to help in securing refinancing for YK Shintoku.

By my estimate, the current size of YK Shintoku's loan would represent a gearing level of under 40% instead of the current 80% if its assets include those of the two unencumbered portfolio. I believe that this is an option which the management is exploring.

As for using the warrants proceeds to date in partial payment of YK Shintoku's CMBS, I believe that the management is being cautious.

A CMBS has no concept of amortisation. It has to be a full payment of the loan. Otherwise, foreclosure could still take place.

All of Saizen REIT's property portfolios are ring fenced from each other and any portfolio's liability is non-recourse to the others. Even if YK Shintoku should suffer foreclosure, the rest of Saizen REIT is intact.

So for YK Shintoku's CMBS, unless there is sufficient resources to pay off the entire CMBS in a single stroke, the management should not utilise any resources from the rest of Saizen REIT towards payment of the said CMBS.

Right now, the management has to do two things:

1. Continue talking to potential lenders to see if there is any willing lender to re-finance the CMBS either in full or partially, which could work with a loan that is sufficient upon addition of Saizen REIT's internal cash resources, including warrant proceeds received to date.

2. Continue to divest properties from YK Shintoku to reduce the size of the CMBS to make refinancing more palatable to potential lenders. This could make refinancing happen earlier than later.

This is a two prong approach and I have the feeling that the management is doing exactly this.

This is the final hurdle for Saizen REIT to clear. Things are looking up. :)

Anonymous said...

AK71,

Many thanks for your comments. Like you, I am hopeful that Saizen's prospects are looking up indeed.

As a curiosity, did you ever think of buying at least one unit of the YK Shintoku CMBS, since you (and I) are both confident that Saizen should be able to refinance? Since this CMBS is in default, it will trade at a significant discount from par value, plus the coupon of 7% is certainly attractive!

Is this not your definition of an attractive investment? I honestly am interested to buy a YK Shintoku bond, the only problem is I think the absolute price of one unit is too high for me (I think its a minimum of US$250K at par for one bond)

AT

AK71 said...

Hi AT,

I think someone asked me this question before. My reply is still the same. I am an investor, not a lender. ;)

In any case, I do not have the financial muscles to be a lender in such instances. ;p

This is my lot in life.

left_ray said...

Thanks for the info.

I did an simple estimate and concluded I should invest more at 0.135 which would give me about 8% dividend with all warrants exercised.

Do you think foreclosure is not a bad thing? Would it hurt Saizen's credibility? I mean thing will only get better if they get rid of this thorn once for all. This way management need not to worry about YK Shintoku's CMBS and put their 100% effort on growing value for unit holders. I am also hoping foreclosure will drive the price down to 0.10 or lower. Ha.

AK71 said...

Hi left_ray,

It would be nice to own some Saizen REIT at 13.5c. I have some at 13c. ;-p

Foreclosure will not affect the fundamentals of Saizen REIT as YK Shintoku has not been contributing anything to the REIT since it went into maturity default.

I believe the current price of Saizen REIT has taken in the worst case scenario (i.e. a foreclosure of YK Shintoku).

If YK Shintoku were foreclosed and if all the warrants were exercised, the NAV/unit for Saizen REIT would be 28c. At a unit price of 16c, the REIT is trading at a 43% discount to NAV!

The estimated DPU in such a situation could be 1.04c per unit which gives a yield of 6.5% at the current price of 16c per unit. Taking into consideration that Saizen REIT owns freehold property, this yield is very attractive.

If YK Shintoku's loan was refinanced successfully, it would be a positive catalyst for the REIT in more ways than one.

If YK Shintoku were foreclosed, the REIT would be unaffected.

For anyone wondering about going long here, ask these questions for starters:

1. Is a 6.5% yield on freehold properties attractive?

2. Is purchasing freehold properties at a 43% discount to NAV attractive?

If the answers are 'YES', Saizen REIT might fit the bill. ;)

Anonymous said...

" if all the warrants were exercised"

Er, what warrant ?

SnOOpy168

AK71 said...

Hi SnOOpy168,

I think you might want to read the latest annual report or at least look at the AGM's presentation slides (for which I provided a link in the post above). ;)

Anonymous said...

Updated date of Result Release for Q3 2010:

Saizen Reit NOV 10 (AM)

Lets hoped that there is DPU annoucement for Saizen. ^-^

Huat ah....

SnOOpy168

AK71 said...

Hi SnOOpy168,

I think you mean 1Q2011. ;)

Saizen REIT might announce the DPU for 1Q but they won't pay till March 2011 since they have a half yearly payment policy.

It would be interesting to see how much the DPU is for the months of July, August and September 2010. :)

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