Lendlease Global Commercial REIT IPO – The next Mapletree Commercial Trust?

In March, Straits Times reported that Lendlease was planning to raise up to US$500m with retail Reit listing on SGX. Few months later, Business Times reported that Lendlease was preparing for S-Reit listing that will include Orchard Mall and a property in Milan, Italy with an appraised value of S$1.4 billion. The long awaited Lendlease Global Commercial REIT IPO has finally arrived in Singapore with its initial prospectus lodged recently. You can refer to this website for their prospectus.

Introduction

Lendlease Global Commercial REIT is a REIT that will be listed in Singapore on 2nd October 2019. The REIT will focus on investing in stabilised income-producing real estate assets used primarily for retail and/or office purposes with key objectives to provide Unitholders with regular and stable distributions, to achieve long-term growth in DPU and net asset value (“NAV”) per Unit, and maintaining an appropriate capital structure.

The sponsor of Lendlease Global Commercial REIT is Lendlease Group and the manager of the REIT is Lendlease Global Commercial Trust Management Pte. Ltd., an indirect wholly owned subsidiary of the Sponsor.

Headquartered in Sydney and formed in 1958, Lendlease Group is an international property and infrastructure group with operations in Australia, Asia, Europe and the Americas. Lendlease Group has a market capitalisation of approximately A$9.5 billion at the time of writing. Lendlease Group has three main business segments namely – Development, Construction and Investments. 

For its development segment, it has a pipeline worth of developments such as urbanisation, communities, retirement living and infrastructure development that are valued close to $100 billion. Some examples of its urbanisation projects include Barangaroo South (Sydney, Australia), Melbourne Quarter (Melbourne, Australia), Paya Lebar Quarter (Singapore) as shown below. Lendlease Group announced in July 2019 that it has secured a contract with Google to develop mixed-use communities in the San Francisco Bay Area that will deliver more than 15,000 new homes over a 10-15 year.

Lendlease Development

Lendlease Group has been in the construction business for 60 years and as at 30 June 2019, it has a backlog revenue of $15.6 billion. Its construction business involves project management, design and construction services for both internal and external clients across a range of sectors such as residential, office, retail.  Lendlease Group also manages $35.2 billion of funds globally on behalf of 150 investors including the world’s largest sovereign wealth funds, pension funds and insurance companies.  

Portfolio

Lendlease Portfolio Overview

Lendlease Global Commercial REIT’s initial portfolio will comprise of 313@somerset, a shopping mall in Singapore located right at the heart of Orchard and Sky Complex, a freehold three office buildings located in Milan, Italy. Its initial portfolio value is worth about $1.405 billion as at 31 July 2019. 

313@somerset is a retail mall which spans across eight retail levels, comprising three basement levels and five levels above ground. 313@somerset is situated along Orchard Road, the major shopping belt and tourist attraction in Singapore. 313@somerset is easily accessible from the Somerset MRT Station on basement 2 and is connected to the adjacent retail mall of Orchard Gateway on levels 1 and 4.

Sky Complex, which comprises of three office buildings, is located in the southeast area of the Milan Municipality with a population of approximately 1.4 million. Sky Complex has excellent accessibility via the public transport system. The Rogoredo subway station is located about 150 metres away, providing access to Yellow-MM3 line of the Milan Metropolitana Subway network and served by two bus lines. In addition, the Milan property is located about 7.5km away from Linate Airport. It takes about 10 minutes to reach the airport by car and 40 minutes by public transportation. Furthermore, Milan property is close to two highways connecting Milan to Naples and Genoa.

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IPO Portfolio Committed Occupancy rate has been very solid for the past 3 years with rate over 99% for all three years. The improvement in overall portfolio’s occupancy rate is due to the increase in occupancy rate of 313 Somerset from 96.1% in 2017 to 99.6% in 2019. In addition, Occupancy rate at 313 Somerset is higher than 2018 Average Orchard Road occupancy rate of 94.8%. 

Lendlease 313 WALE

WALE by Gross Rental Income is 4.9 years. This is because the WALE of its Milan property (12.9 years) pushed up the overall figure significantly.  Looking at a big picture,  61% of leases will expire in the next three years. The figure is very high because about 70% of its rental revenue contribution comes from 313@somerset where its WALE is just 1.6 years. 86% of Singapore’s property leases will expire in the next three years. 

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I am a fan of higher WALE as having higher WALE means that the management does not need to find tenants thus providing stability in rental income. However, the con of having a longer WALE is that if the REIT will miss out any opportunity of rising market rental rates unless there are rental review in the lease. In the case of Lendlease Global Commercial REIT, the rental revenue from its Milan property will give stability to overall rental revenue of the REIT. However, Milan property only contributes about 30% of overall revenue so I feel that the stability effect is quite negligible.

As the WALE for Singapore’s property is low at 1.6 years, it is very important to look at the market research for Singapore’s Prime Retail Market provided by CBRE. 

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Overall, the future retail supply will drop significantly to 0.23 million sqft in 2020 from 1.12 million sqft in 2019. The existing supply in the Orchard submarket remains extremely limited as there were no new completions since 2015. As a result, the Orchard submarket has historically enjoyed relatively high occupancy rates. However, the sluggish performance of the overall retail market saw vacancy rates for the Orchard submarket peak at 7.7% in 2015. Since then, vacancies for the submarket have declined to 5.2% in 2018. CBRE Research expects vacancies in the submarket to tighten further on the back of an improving tourism market and limited new supply in the area.

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Looking ahead, pipeline supply in the Orchard submarket remains extremely limited in the next three years.  With the reduced supply pipeline, occupancy in the Orchard submarket is likely to improve further. CBRE Research expects a moderate rate of rental growth of 1.0% – 2.0% per annum for the next 3 years. The rental growth will not benefit all retail mall in Orchard submarket. Only those retail malls that have strong location attributes where it is directly connected or walking distance to a MRT station will benefit. 

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Rates at Orchard submarket started to decline due to rental correction since 2014 and it has since bottomed out in 2017 and increased by 1.3% yoy on the back of improving retail sales and robust tourism growth in 2018. The rental recovery happened in 2018 only benefited retail malls with strong location attributes such as easily accessible by public transport system. This shows that retail malls that are directly connected to MRT stations have have strong conversion of transient footfall and can exhibit resilience in market cycles.

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Lendlease Global Commercial REIT has 150 tenants. The problem with this REIT is that it has key tenant risk as its top tenant – Sky Italia contributes 28.9% of its gross rental income. Other than its top tenant, the remaining 9 tenants contributes 22.6% of its gross rental income. I hope that the REIT manager acknowledges that this REIT has tenant risk and would hope that they could try to lower the top 10 tenants contribution to gross rental income by acquiring more properties in the long run.

In my opinion, I think that this shouldn’t be a major concern because the top tenant is an established blue chip company in the world. Its Milan property is leased to Sky Italia, an Italian satellite television platform owned by Sky Limited. Sky Limited is Europe’s largest media company and pay-TV broadcaster by revenue, with 23 million subscribers and more than 31,000 employees. Comcast Corporation, the second largest broadcasting and cable television company in the world by revenue, acquired Sky Limited last year. In addition, Comcast has solid credit rating of A3 and A- by Moody’s Investors Service and Standard & Poor’s Global Ratings respectively. 

Investors do not need to worry about the contribution from top tenant because it only has an option to terminate the lease in 2026 which is 7 years from now. Meaning to say from now until 2026, the top tenant will not terminate the lease and will still contribute meaningfully to the REIT while the management continues to acquire more properties to reduce top 10 tenant contribution to rental revenue.

Lendlease 3

90.8% of the IPO Portfolio’s leases by NLA have an escalation component built in thus providing a stable and growing rental income stream. This means that the REIT can grow organically for the next few years without the need to acquire properties to increase its net property income. About 60% of 313@somerset’s NLA or 13.1% of portfolio NLA has an average built-in rental escalation of 3% while the Milan Property, has rental escalations that are pegged to 75% of ISTAT’s CPI index. A look at the chart shown below, it seems that the rental escalations for its Milan property will be quite insignificant as inflation in Italy is quite low lately with the CPI index only increased by 0.4% YOY in August 2019. With that being said, it should be noted that 313@somerset contributes 71% of rental revenue so the bulk of organic growth will come from its Singapore property. 

ISTAT

Debt

Lendlease DebtLendlease Global Commercial REIT is expected to have an aggregate leverage of approximately 36.4% and a weighted average remaining tenor of the loan is approximately 3.8 years. Although, the interest payable is on a floating rate basis, Lendlease Global REIT intends to enter into hedging transactions to ensure at least 50% of debt outstanding under the Facilities is hedged to fixed interest rates.

Management

Looking at their profile, I believe the managers of the REIT are not unfamiliar in managing a REIT as they have prior experience and knowledge in managing them or anything that is related to real estate. 

Take for example, the CEO of the Manager, Mr Kelvin Chow Chung Yip. He was previously the Managing Director of Investment Management in Asia in Lendlease Investment Management, where he was responsible for the overall performance of the Asia funds platform and asset management function. He was also the Chief Financial Officer of Keppel REIT Management Limited, the manager of Keppel REIT, from 2015 to 2018, where he was responsible for all finance and accounting matters, tax and treasury matters, overseeing the implementation of Keppel REIT’s short and medium-term capital structure, structuring new investment entities, fund management activities and financial condition.

The Executive General Manager of the Management, Mr Liaw Liang Huat Joshua, has an approximately 15 years of experience in real estate finance and banking. He is confident that he is familiar with the operations of Lendlease Global REIT and the properties comprising the IPO Portfolio with all his past working experience with Lendlease and Standard Chartered Bank, where he was responsible for finance matters across operating businesses, debt capital management, transaction banking and risk management for Lendlease. Before working for Lendlease, he was responsible for originating and executing real estate banking, and debt and equity capital markets transactions for Standard Chartered Bank’s client base.

Taxation

There will be a withholding tax of 26% for any profit distributions made by an Alternative Investment Fund (AIF) to non-Italian resident investors. However, this withholding tax can be exempted only if Pension funds and undertakings for collective investments that are established in a state included in the White List (Italy). A ruling has been obtained from the Italian tax authority to confirm that Lendlease Global REIT would meet the conditions of an undertaking for collective investments that is established in a state included in the White List (Italy) and hence the aforesaid withholding tax exemption should apply to the distributions made by the Italy AIF to IT SingCo. 

The Milan Property will be held by an AIF and with that being said, it should not be subjected to Italian income taxes on its income. 

Comparing with existing Retail and Office Reits

Lendlease Global Commercial Trust Mapletree Comm Trust Starhill Global Reit Suntec Reit
Price 0.88 (IPO Price) 2.29 0.75 1.93
Dividend Yield 5.8% 3.99% 5.97% 5.18%
P/B Ratio 1.08 1.43 0.85 0.92
% Retail / % Office

(Revenue)

71% Retail

29% Office

46% Retail

54% Office

87% Retail

13% Office

68% Office

29% Retail

3% Convention

% SG/ % Overseas (Revenue) 71% SG

29% Overseas

100% SG 61% SG

22% AU

14% MY

3% Others

77% SG

23% AU

% YOY DPU Growth N.A ~1% -1.5% -0.2%
Occupancy Rate 99.9% 98.9% 96.3% 99.1% (Office)

97.9% (Retail)

Lease Expiry / WALE 4.9 years

(Office – 12.9 years,

Retail – 1.6 years)

3 years

(Office – 3.2 years,

Retail – 2.8 years)

5.4 years 3.62 years (Office)

2.4 years (Retail)

Top 10 Tenants 51.1% 25.5% 54.6% 21.3% (Top 10 Office)

5.7% (Top 10 Retail)

Gearing Ratio 36.4% 33.1% 36.1% 38.3%
Interest Coverage N.A 4.5x 3.7x 2.9x
Fixed Rate >50% 80.5% 90% 85%
Weighted Debt Maturity 3.8 years 3.4 years 2.8 years 3.5 years
Funding Cost N.A 3% 3.28% 3.06%

The first thing I will look at whenever I do comparison would be to look at the price to book ratio (P/B ratio). Mapletree Commercial Trust (MCT) has the highest P/B ratio of 1.43, followed by Suntec Reit’s (SUNTEC) 0.92 and Starhill Global Reit’s (SGREIT) 0.85. A P/B ratio of more than 1 means that a unitholder is buying the assets at a premium while a P/B ratio of less than 1 means a unitholder is buying the assets at a discount. REITS have been very bullish this year with some such as MCT has risen by more than 35% while some REITS have laggard behind. There’s clearly a reason to explain their share performance this year and I would think it is because of its DPU performance. MCT is the only REIT that continued to grow its DPU though by just a marginal increase of 1%. SGReit’s DPU fell by 1.5% YOY while SUNTEC’s DPU fell by 0.2% YOY. Capital distributions occur when a REIT divests an asset and distributes back to unitholders. It is worth to note that SUNTECs capital distribution grew 32% yoy while its distribution from operations fell 4% YOY. 

Just looking at P/B ratio, we won’t be looking at MCT and will only look at the Suntec Reit and SGReit. The next factor that investors will look at will be the Dividend Yield. SGReit offers a much higher dividend yield of 5.97% compared to Suntec’s 5.18%. SGReit will be a go to REIT if you prefer a retail REIT with some diversification in offices while Suntec REIT will be a go to REIT if you prefer the other way round. Only MCT offers a more balanced industry profile where 54% of the revenue comes from retail while the remaining 46% comes from offices. 

For some investors who do not like REITS that have huge exposure to overseas assets, Suntec and Lendlease Global Commercial Reit will be a better choice as about 70% and 77% of revenue comes from Singapore for Lendlease and Suntec respectively. SGReit is pretty diversified in terms of geographical location as only 61% of its revenue comes from Singapore. 

Looking at WALE, I believe that Lendlease’s Global Commercial Reit’s 313@somerset WALE at 1.6 years is concerning everyone. Comparing them with other established REITs such as MCT and SUNTEC, it is indeed a worrying sign. MCT’s retail WALE is the highest at 2.8 years while SUNTEC’s retail WALE is at 2.4 years. In the previous comparison, I mentioned that the more properties the REIT owns, the lower the percentage of Top 10 tenants contributing to the rental income. I feel that when comparing retail and office REITS, the more tenants the REIThas, the lower the percentage of Top 10 tenants contributing to the rental income. SUNTEC Reit has one of the lowest top 10 tenant contributions of 21.3% for its Offices and 5.7% for its retail than SGReit’s 54.6% which is slightly worse than Lendlease’s 51.1%. 

After comparing, I would still give a chance to Lendlease Global Commercial Reit despite it being a new REIT. If I were to choose an established REIT, I will choose Suntec Reit despite the fact its dividend yield and price to book ratio is less attractive than SGReit. I think the main concern I have for SGReit would be its top 10 tenant contribution. As for Suntec Reit, I understand that distributions have already peaked,  I have not taken into account that two of its assets are under development so I feel that there will only be positive contribution once the projects are completed.

Closing Thoughts

What I like: 

  • Lendlease is the sponsor of this REIT. For Lendlease Global Commercial REIT to grow inorganically, there’s access to secured development pipeline either through the right of first refusal (“ROFR”) provided by the Sponsor or through other potential opportunities which may be sourced from the Sponsor from time to time.  What this means is that it is certain the growth story of this REIT will be bright, with that being said unitholders have to cough out extra capital to participate in equity raising activities.
  • Cornerstone investors for this REIT are solid. Some cornerstone investors are asset and fund managers such as BlackRock, Inc., Lion Global Investors Limited and Nikko Asset Management Asia Limited. Participation from such cornerstone investors just show the confidence they have in this IPO and REIT. Lendlease isn’t finding cornerstone investors for the sake of finding one. If I am not wrong, this is their first IPO so pretty sure they do not want to mess up and tarnish their own reputation. 
  • Extremely high occupancy rate – 313@somerset’s occupancy rate has risen 3 consecutive years from 96.1% in 2017 to 99.6% in 2019 despite the sluggish retail market in Singapore. In my opinion, I think the reason for this is because of the strong footfall of the mall due to its strategic location. Well, we do not have the rental reversion data but it seems that the management has the expertise in filling up vacant space despite the lacklustre market. 
  • I like it that over 90% of NLA have escalation component built to provide stable and growing rental income stream. This means that the REIT can grow organically for the next few years without the need to acquire properties to increase its net property income. What’s important to note is the 3% rental escalation from its main contributor – 313@somerset that will be making a big contribution to the organic growth of this REIT. 

What concerns I have for this REIT 

  • 313@somerset contributing 71.1% of the gross rental revenue and that its WALE is 1.6 years which is significantly less than other REIT such as MCT’s 2.8 years and Suntec’s 2.4 years. I would like to point out that when MCT IPO in 2011, Vivocity contributed 75% to its gross rental revenue and it wasn’t an issue to many investors because Vivocity is a gem where it is the only shopping mall in the vicinity. This isn’t the case for 313@somerset because there are just too many shopping malls nearby such as Plaza Singapura, ion Orchard that are popular among shoppers too. The fact that the management can improve 313@somerset occupancy rate close to 100% shows the ability to turn around things during bad times. 
  • Top 10 tenants contributing 51.1% to its gross rental revenue and that the top tenant contributing 29%  are a concern to many investors. I acknowledge that concentration tenant risk exists in this IPO but this top tenant isn’t some small companies that we won’t even know they actually exist. In my opinion, the risk of defaulting by its top tenant is near 0%. For sure, the management would need to do something to reduce the percentage of top 10 tenants contributing to its gross rental revenue. 
  • Price to Book Ratio at 1.081 at IPO price of $0.88. People subscribing to this IPO are paying 8% premium to this REIT that has its own flaws listed above. I could only think of three reasons why they are selling at a premium. First of all, $0.88 seems to be an auspicious number and secondly they do not mind selling at this price as REITs in general are bullish this year. They would expect many to chase at this price thus raising more money. Lastly, management believes that investors are not unfamiliar with Lendlease and that it is not a fly by night company, thus management is willing to price it at a premium. 

I am definitely interested in owning this REIT as I believe that one day it can become the next Mapletree Commercial Trust. I understand the flaws of this REIT and I feel that the flaws are quite manageable and not as risky as one would think it will be. I think many investors would ponder whether to subscribe to their IPO or to buy after it is listed on 2nd October. I myself am already feeling FOMO and I think it is better to consider investing in it after it is listed. The boat will always come back, knowing the fact that there are flaws in this REIT. It isn’t wrong to subscribe to its IPO if you are feeling FOMO because investing REIT isn’t a short term thing. MCT took more than 7 years to be what it is today. This REIT has bright growth story, we are just playing the waiting game to see it grow into what we want it to be.  

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