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Digital Core REIT lost 2nd largest customer! Things to note!

Tuesday, June 6, 2023

This is the transcript of a YouTube video I produced recently.

About three months ago, I wrote a piece on Digital Core Real Estate Investment Trust.

I said that I was not attracted by its seemingly high distribution yield because one of its largest customers could go bankrupt.

Today, I read that the Trust's second largest customer which accounted for almost 23% of its rental revenue has filed for bankruptcy protection on 4 June 2023.

During "Evening with AK and friends 2023", I warned that in an environment of heightened inflation and rapidly rising interest rates, many businesses which thrived on cheap money would find it hard to cope.

Unfortunately, many startups and tech companies fall into this category.

When money was cheap or even free, there were many investors who were willing to tolerate negative earnings while watching these businesses grew their market share.

With money having a real cost and a comparatively much higher cost at that, investors want to see positive earnings now.

Hence, the pressure for SEA Limited, Shopee's parent, to cut costs aggressively so as to turn profitable.

With interest rates having risen so much and so quickly, the chaos at the regional banks in the USA already led to 3 relatively large banks failing.

Apparently, deposits are still flowing out of regional banks into larger banks like JP Morgan.

Billions of dollars continue to flow into money market funds.

In a research paper with the following title.

"Monetary Tightening and U.S. Bank Fragility in 2023. Mark-to-Market Losses and Uninsured Depositor Runs?"

It was revealed that if a mere 50% of those uninsured depositors decided to withdraw their funds, 186 regional banks in the USA could be at risk of failure.

So, Warren Buffett and Charlie Munger could be right.

This isn't over yet.

While waiting to see if more regional banks could go under in the USA, businesses which are highly leveraged could fail one by one.

This could pick up pace as the USA sails into a highly anticipated recession.

Investors are less willing to pump in more money into "growth" businesses only to watch their money being burnt now.

If you want an example, we have one right here in Singapore.

Its name is "GRAB".

Why not borrow money from the banks instead?

Well, the chatter is that banks are becoming more cautious when they lend money now too.

So, even if businesses could get a loan, the cost is much higher.

Now, as investors for income, we are mostly concerned about any development's impact on our passive income.

So, what does this latest development at Digital Core Real Estate Investment Trust mean for those of us who invested in it?

When a customer goes bankrupt, it is worse than a customer downsizing or right sizing their rental requirements.

The rental income disappears overnight.

In this case, Digital Core Real Estate Investment Trust will lose 23% of its rental income.

In terms of dollars and cents, the manager has estimated a reduction of around 2 cents in distribution per unit.

At a unit price of 40 cents, this means distribution yield would plunge from around 10% to less than 5%.

That is a massive 50% reduction.

OK, don't panic.

The good news is that the many facilities which this customer currently rents are partially occupied by other companies.

So, if the Trust's manager is able to retain these other companies, the resulting loss of income could be lessened.

Still, we don't want a good lesson to go to waste.

We want to remember the following.

With interest rates likely to stay higher for longer, remember not to stay too optimistic about any business that has too much debt.

I do believe that interest rates will come down again one day.

However, we want our businesses to be able to keep their heads well above water until that day comes.

If AK can talk to himself, so can you!

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