LMIR: Gearing ratio and margin of safety.

A reader asked me why did LMIR's gearing ratio go up so much. It was 34.3% in the last quarter ending 31 Dec 2013 while it was only 28.2% in the quarter ending 30 Sep 2013. That is a 21.63% increase!

There is a simple explanation.





LMIR issued new debt in October 2013 and this was reflected in last quarter's report. The money raised was used to retire a loan facility in January 2014 which was, of course, not reflected in last quarter's report. This was why the gearing ratio jumped.

You might remember that I said that a good thing happened:

"When I blogged about LMIR in August last year, I said that the REIT's term loan maturing this year in June worried me but this concern was addressed when they used the proceeds from the issuance of a 3 year bond to repay the term loan a few months early. This also lowered the REIT's average cost of debt from 6% to 5.3%. A big improvement."

So, we should see gearing ratio come down again the next time LMIR announces results, everything else remaining equal. 





However, if the Rupiah were to continue weakening, gearing ratio will continue to increase. The REIT's assets are denominated in Rupiah but their debt is denominated in S$.

To illustrate this point, look at the presentation slides for 3Q 2013.

Debt at the end of 31 December 2012 and 30 September 2013 was the same at S$472.5 million. However, the gearing ratio went up from 24.5% to 28.2%. This was because property values fell in S$ terms.

Comparing 3Q and 4Q 2013 presentations, we see that property values in S$ terms fell again by 6.4%. 

So, with this in mind, it should not surprise us if the gearing ratio stays above 30% in the next results presentation even after taking into consideration the retired loan facility mentioned earlier.

Although I have said that the Rupiah will recover and that it always does, it is anyone's guess as to when it would recover. 





Whether LMIR will continue to be a good investment will depend on its future performance which is very much dependent on the Rupiah's future performance too.

Having said this, even if the Rupiah stays at the current level, we are likely to see DPU in S$ terms recovering in the next quarter as financial expenses normalise and I have estimated that a DPU of 0.66c is realistic. Is this attractive enough though?

Well, if we were attracted to LMIR because of the estimated 8.6% distribution yield in the recent past, then, we would probably want the same 8.6% yield to be attracted now. 

With a prospective DPU of 0.66c a quarter, to get a yield of 8.6%, unit price has to fall to 30.5c a unit. That is quite a bit to fall from the current 40.5c.

If we were to include the 10% savings from a reduction in the average cost of debt, we could see a DPU of 0.7c in the next quarter. To get a yield of 8.6%, unit price has to be about 32.5c.

So, as anyone can see, unless we are expecting a dramatic decline in unit price, I think an 8.6% distribution yield from an investment in LMIR is probably wishful thinking now, no matter how we slice it. This is the new reality.






If an investor says that he is quite happy with a 7% yield, then, he could get it by investing in LMIR at 40c a unit. 

However, if a 7% yield is all he wants, he could get it from some other S-REITs in Singapore without having to worry about foreign exchange issues. 

If he were to invest in LMIR, he would do well to demand a bigger margin of safety.

For anyone interested in investing in LMIR now, I would say that there really isn't enough margin of safety (i.e. need much higher distribution yield) although for anyone who has been vested for a long time at prices much lower than now, there is probably lesser harm in holding on since he would have benefited from many rounds of income distributions and would also be sitting on some paper gains.

Related post:
1. LMIR: 4Q and FY2013 results.
2. LMIR: There and back again.