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Saizen REIT: Is the half yearly DPU of 3.25c sustainable?

Tuesday, February 11, 2014

Saizen REIT has announced a slightly higher DPU of 3.25c compared to 6 months ago. Post consolidation, the DPU 6 months ago would be equivalent to 3.15c. This means DPU has gone up by some 3.17%. Income will be distributed to unit holders on 21 March 2014.

Unit price of Saizen REIT's closed at 92.5c. So, annualising 3.25c means a distribution yield of 7.03% per annum. This yield is quite attractive for freehold residential buildings in Japan.

I really do not have any major concerns with holding on to Saizen REIT as an investment for income. I believe it is a stable income generator in S$ terms even with the JPY at historic lows. After all, the REIT hedged the exchange rate risk at S$12.32 to JPY1,000. This is pretty darn low.

The REIT will be hedging exchange rate risk again for the next six months but will employ a range this time. S$12.20 to S$13.12 : JPY1,000. Everything else remaining equal, it means that we could see DPU 6 months later either declining by 1% or rising by as much as 6.5% in S$ terms. Sounds good? I think so.

The rest of the numbers, Saizen REIT has prepared very good presentation slides as usual and I am sure they are self explanatory. I am more interested in how more recent developments could impact DPU in future.

Remember that in November last year, Argyle Street Management, which holds 8.9% of the REIT asked for cash which the REIT was holding to be returned to unit holders? That amounted to JPY4.86 billion or more than S$60 million in cash at the time.

Now, if this were to happen, it would affect not just the NAV of the REIT but also its DPU. This is because Saizen REIT's loans are amortising in nature and why this is actually a good thing over the long run has been mentioned in this blog a few times before.

Amortisation or principal repayment should be from income generated by the REIT's properties. This is only logical. The REIT, however, uses its cash resources to effect this principal repayment which enables it to distribute more of the income generated by its properties to unit holders. Out of the half year DPU of 3.25c, this measure accounted for 1.19c or some 36.6% of DPU. This is significant.

Annual amortisation approximates JPY 633 million. So, this means that with the cash the REIT has in hand, it could continue to use its cash resources to effect principal repayments for almost 8 years which would help to maintain a higher DPU.

However, if the cash were to be returned to unit holders instead, then, we should expect DPU to decline to approximately 2c every 6 months or 4c a year. I would not expect unit price to stay at 90c then either. I would expect unit price to fall to the region of 70c a unit or a bit lesser and with a DPU of 4c, we would then be looking at a distribution yield of some 5.71%.

A distribution yield of 5.71% is still pretty good for the kind of assets the REIT owns, especially when the loans are amortising in nature. Of course, one has to remember that in such a scenario, existing unit holders would most probably have had received some 20c per unit in "special dividend" too. This is not bad at all especially if we got in at the lows.

Blogging about the results in this way is really to remind myself of what is the underlying reality in Saizen REIT's DPU and to prepare myself for change which could be on the way.

See slides: here.

Related posts:
1. Saizen REIT: DPU of 0.63c.
2. Saizen REIT: A special dividend?


AK71 said...

Hi Capricorn,

I have talked about this on and off since 2010. Took me a while to dig through my blog posts to find the one that talked about this in greater detail: Saizen REIT: AGM.

The REIT could use the money to pay down debt or do acquisitions. In the event that it is difficult to make yield accretive purchases, paying down debt is probably a good idea.

However, we have to remember that Saizen REIT doesn't have a choice. Since their loans are amortising in nature, they have to pay down debt regularly. This would lead to a lower DPU naturally. So, they are using their cash resources for loan amortisation which bumps up DPU to what it would have been if the loans were not amortising.

Finally, this could be a little known fact but as Saizen REIT owns only foreign assets and pays taxes in Japan, it does not enjoy the tax transparency given to REITs with Singapore assets. So, Saizen REIT does not have to pay out a minimum of 90% of its income.

We want to remember that S-REITs with properties in Singapore pay out 90% of their income to avoid paying taxes. The law allows this but it is not demanded by the law. This means that S-REITs have the option not to do 90% pay outs if they are willing to pay taxes. This is my understanding.

AK71 said...

Hi Capricorn,

The reply was a bit too long. I don't know how it happened but the entire paragraph two was missing.

After the first paragraph, you should see this link regarding loan amortisation: Saizen REIT: 1Q FY2011.

Then, there should be a paragraph on how Saizen REIT collected a lot of money from its warrants and how I learnt about the progress at its AGM. That is followed by the link on the AGM.

wirbelwind said...

Hi AK,

I am quite confused about the statement "uses its cash resources to effect this principal repayment which enables it to distribute more of the income generated by its properties to unit holders"

How does this create value for the investor? In my opinion, instead of giving the cash upfront to the investors, or using it to generate more profit from property acquisition, Saizen chooses to slowly draw down on its cash reserves to give a higher DPU. If what I understand is correct, that is a form of financial engineering that may not create any value for the investor, unless Saizen has means to earn a lot of interest through the cash, can get much better credit terms because of huge cash reserves, or has possible property acquisitions in mind.

In that case i rather take the cash, let the share price drop by the same amount as special cash payout.

AK71 said...

HI wirbelwind,

Well, I guess this is what Argyle is saying too. If Saizen REIT's management is unable to find better use for the cash on hand, then, it could be better to distribute it to unit holders.

However, I won't say that using their cash resources in the meantime to pay down debt does not add value to unit holders. Think of it another way: the REIT is paying down debt using its property income and giving out some of its cash on hand to unit holders. From this perspective, it would be closer to what you want which is a return of capital. :)

Same thing but it just depends on how we look at it. ;)

AK71 said...

Hi Capricorn,

You are over-reading. ;)

What I said, I meant. Nothing deep.

Saizen REIT has loans which are amortising. So, amortising loans being what they are, in the natural course of things, the debts are paid down. It is a contract with their lenders.

AK71 said...

We maintain our valuation of Saizen at S$1.03 assuming a JPY/S$ exchange rate of 81.

Its yield remains attractive at 6.8% in FY14F and 7.0% in FY15F. Its current PBR of 0.77x is low compared to PBR of 1.1x of listed peers in Japan.

Maintain Overweight.

The group is currently in the midst of a strategic review to enhance unitholder’s value.

Source: NRA Capital.

AK71 said...

Hi Capricon,

Nice set of numbers. Nothing much to say. No surprises. I still feel that Saizen REIT is a stable long term investment for income. :)

Near term catalyst could be the results of the study to unlock value for unit holders. We could see a return of capital and this could drive the REIT's unit price closer to the NAV/unit. An exciting thought. Of course, quite speculative. ;p

WK said...

What if their cash holdings depleted? No cash to sustain high div, share price also will drop. Are they sustainable for a long term? More than 8 years perhaps?

AK71 said...

Hi WK,

Everything remaining equal, eventually, the income distribution will reduce. However, it is unlikely that everything will remain equal.

One reason why I like Saizen REIT is the fact that its loans are amortising. So, they will get paid down over time like any normal housing loans and finance costs will reduce. Everything remaining equal, balance sheet will be stronger 8 years from now. If unit price should fall significantly, I would probably buy more.

After the strategic review which concluded recently, it seems that Saizen REIT will be making more purchases. Of course, these will be DPU accretive.

An aggressive acquisitive move will mean a need for more funds. I would not be surprised if some form of equity fund raising should take place in the near future. I will wait and see.

For now, it is still a good investment for income for me.

AK71 said...

Hi Capricon,

Actually, no. ;)

S-REITs usually have "bullet" loans that must be refinanced when they are due. They are usually short term too. 3 years loans are common.

Saizen REIT amortizes its loans and some are really long term in nature. This is a rarity amongst S-REITs. :)

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