AFTER weeks of watching Lippo Malls Indonesia Retail Trust (LMIRT) and Sabana Shari' ah Compliant Real Estate Investment Trust (Sabana Reit) make headlines for all the wrong reasons, the privatisation offer for Soilbuild Business Space Reit (Soilbuild Reit) announced earlier this week was probably something of a breath of fresh air for many investors.

 

The deal, which involves Soilbuild Group' s executive chairman Lim Chap Huat teaming up with Blackstone Real Estate to acquire the holdings of minority investors, is being done at a seemingly reasonable price of S$0.55 per unit, which is close to Soilbuild Reit' s book value.

 

More importantly, in explaining the rationale for the deal, the manager of Soilbuild Reit displayed a degree of perspicacity that its counterparts at Sabana Reit and LMIR Trust plainly lack.

 

Soilbuild Reit' s manager noted that Soilbuild Reit' s ability to grow by making acquisitions that would be immediately accretive to its distribution per unit (DPU) has been limited by the high DPU yield at which its units trade.

 

Highest DPU yields may not deliver highest total returns

 

Indeed, Reits that trade at the highest DPU yields do not necessarily deliver the highest total returns. The reverse is often the case.

 

While Soilbuild Reit has traded at DPU yields in excess of 8 per cent for years, it has actually provided unitholders with a total annualised return of only 1.6 per cent from the point of its IPO in 2013 to the end of 2019, before Covid-19 became an issue.

 

The Straits Times Index delivered a total annualised return 3.5 per cent over the same period.

 

Reits that face such limited investor appetite tend to be incapable of remaining effective securitisation platforms. In 2019, a preferential offering by Soilbuild Reit ended up being only 82 per cent subscribed despite the new units being priced at a discount to the market and offering a trailing yield of nearly 9.6 per cent.

 

In these situations, trying to enlarge the Reit through acquisitions funded by capital raisings is likely to drive the market price of its units ever lower - which seems to have happened at LMIRT.

 

On the other hand, transactions like mergers or privatisations only work if investors can be convinced they are being offered a fair price, which Sabana Reit learned the hard way.

 

For its part, the manager of Soilbuild Reit said it had considered " potential strategic transactions" with parties ranging from private equity firms, real estate funds and property development firms before bringing the deal with Blackstone to minority investors.

 

Reason for scepticism

 

Nevertheless, many investors might not be immediately convinced that what' s currently on the table is the best possible deal.

 

For starters, coming in the midst of the Covid-19 crisis, the timing of the transaction seems opportunistic.

 

The updated valuation of Soilbuild Reit' s portfolio is S$34.4-S$50.9 million lower than their previous carrying value as at Sept 30, 2020.

 

This effectively lowered Soilbuild Reit' s net asset value as at Sept 30, 2020, by 2.7-4 cents per unit, to 55-56.3 cents per unit.

 

Moreover, Mr Lim is choosing to remain invested in most of the Reit' s portfolio alongside Blackstone, suggesting that he is expecting to be able to extract attractive long-term returns after the privatisation exercise.

 

Mr Lim and his family currently own 30.28 per cent of Soilbuild Reit. Under the deal, Mr Lim will end up owning 30.28 per cent of the offeror with Blackstone owning the remaining 69.72 per cent.

 

In conjunction with the deal, Soilbuild Reit will also sell its Australian properties to Blackstone on terms that would result in a net loss of A$31.2 million (or almost S$30.5 million).

 

In short, Mr Lim will retain his family' s proportionate exposure in the Singapore assets of Soilbuild Reit' s portfolio.

 

When approached for comment on how value might be added to the Singapore portfolio after the privatisation, a spokesperson for the offeror said a review of Soilbuild Reit' s operations and portfolio will be conducted.

 

" The privatisation will dispense with general constraints of being listed, such as debt headroom and development limits," the spokesperson added.

 

The offeror downplayed the significance of the sale of the Australian assets, referring to it as a mere " structuring step" within the whole scheme. " The sale of the Australian assets is solely intended to effect the proposed acquisition in the most time efficient manner which gives unitholders maximum clarity," the spokesperson said.

 

No future for small Reits

 

Whether unitholders of Soilbuild Reit are persuaded by the specific terms of its privatisation, they should keep in mind that their interests and those of the Reit' s manager and sponsor are fundamentally misaligned, which will make for an unhappy business relationship over the long term.

 

As with Sabana Reit and LMIRT, the stubbornly high yield at which Soilbuild Reit trades makes it impossible for the manager and sponsor to achieve their overarching goals of raising funds and expanding its portfolio.

 

Taking the struggling Reit out of the public market at a price close to its net asset value makes a great deal of sense for all parties involved.

 

It would enable the manager and sponsor to experiment with strategies to create value that are not possible for a small Reit in the public market.

 

It would also enable unitholders to redeploy their capital with Reits that have the necessary heft, access to high quality assets and management talent to thrive in the public market.

 

This is not a call for unitholders of Soilbuild Reit to accept the privatisation deal in front of them, but to recognise the big picture.

 

Even if they decide to test the willingness of Mr Lim and Blackstone to pay more, they should keep in mind that small Reits trading at high yields do not have much of a future.

THE proposed privatisation of Soilbuild Business Space Reit on Monday marks the latest in a string of founder buyouts of Singapore-listed businesses that have found their share prices pressured by Covid-19 challenges this year.

 

There have been about nine such transactions in 2020, spread across a range of sectors including real estate, construction, consumer retail, industrial, commodities and food & beverage. Perhaps this shows the pandemic is no respecter of industries.

 

BreadTalk co-founders, husband-and-wife pair George Quek and Katherine Lee, started the ball rolling in February when they made a S$0.77-per-share offer for the company, which reported FY19 losses hampered by poor performances in its China, Thailand and Hong Kong units.

 

Then there was a deal drought during the " circuit breaker" , after which privatisation deals followed in quick succession.

 

Some notable ones included that of Perennial Real Estate Holdings by a consortium which CEO Pua Seck Guan was part of Teckwah Industrial by a consortium which includes an entity involving executive chairman and managing director Thomas Chua SK Jewellery by siblings Lim Yong Guan, Lim Yong Sheng and Lim Liang Eng who all hold senior positions in the firm and Lum Chang, by Singapore-listed Ellipsiz and certain members of the Lum family.

 

Most of the offerors proceeded or planned to delist the companies, except for those of Lum Chang who have said that they plan to keep it listed, and may conduct a review of the business after the offer closes.

 

Persistent undervaluation and poor trading liquidity have been the biggest reasons these companies delist, evident from the mostly huge premiums to historical trading prices that offerors dangle before shareholders.

 

Furthermore, the low share prices have made it more challenging for some of these listed companies to operate or raise capital. In Soilbuild Reit' s case, it found itself between a rock and a hard place - unable to make yield-accretive acquisitions given its limited debt headroom and languishing unit price.

 

This was not the first time Soilbuild' s chairman and co-founder Lim Chap Huat has taken a company private he had also privatised Soilbuild in 2010 for more flexibility to manage the group' s businesses. At that time, Soilbuild shares also suffered from poor trading liquidity.

 

The narrative of founders swooping in to buy back their companies is not new. Homegrown businesses in Singapore that have chosen the private route due in part to poor trading performances have included traditional Chinese medicine retailer Eu Yan Sang, lifestyle product retailer Osim International, and property developer Sim Lian Group.

 

Business owners naturally feel attached to the companies they have built, but Choe Tse-Wei, head of strategic advisory at DBS Bank, says founders cannot afford to cling to sentimentality at the risk of business failure in a crisis.

 

In an article in The Business Times in September, he noted the need for mergers and acquisitions to " rationalise industry capacity" to respond to permanently changed lifestyles in a post-Covid world.

 

He said that founders know the intrinsic value of their companies and so will likely make the decision to buy over their companies when their market valuations fall below a certain threshold.

 

Consolidation, cost-cutting and unlocking capital from idle assets will all become new realities for industries facing structural challenges and a long-term decline in demand, he added.

 

Even with a vaccine available, consumption patterns could have changed for good. Therefore, more privatisations may come down the road, whether the global economy recovers fully or not.

Reit' s limited ability to buy assets that are DPU accretive main motivation for privatisation

ANALYSTS largely showed support for the privatisation offer of Soilbuild Business Space Reit by Soilbuild Group' s executive chairman Lim Chap Huat and Blackstone Real Estate via a trust scheme of arrangement, announced on Monday.

 

Units in the Reit rose as high as 5.5 per cent to hit an intra-day high of S$0.54 after its trading halt was lifted post-lunch. They ended the day 4.9 per cent higher at S$0.535, with 11.8 million units changing hands.

 

The scheme consideration is S$0.55 in cash per unit, although this will be reduced by the amount of any distribution declared by the Reit for Q4 2020 and Q1 2021. The offeror Clay Holdings III is indirectly owned by Mr Lim and Blackstone Real Estate. Mr Lim and his three sons owned a combined 30.3 per cent stake in the Reit as at Dec 14.

 

The proposed consideration represents a premium of 34.5 and 53.2 per cent over the volume-weighted average price for the one- and six-month period up to Aug 31, respectively. It also implies a price to adjusted net asset value (NAV) - following a portfolio revaluation - multiple of 0.98 to 1.0 times.

 

The main motivation for the privatisation was the Reit' s limited ability to make acquisitions that are accretive to its distribution per unit (DPU), partly due to its high DPU yield. That also hindered the Reit from bidding competitively for third-party assets. A delisting will thus allow the manager to not be constrained by the 50 per cent leverage limit, and provide more flexible access to capital markets.

 

Jefferies analyst Krishna Guha called the offer price " fair" compared to the Reit' s book value. He also noted that the current sponsor of the Reit, Soilbuild Group, is not selling its stake.

 

Soilbuild Reit' s units were just about flat year-to-date before the privatisation announcement, compared to an approximately 8 per cent drop in the FTSE ST Reit Index this year, but since 2016, it has generally underperformed the Straits Times Index and FTSE ST Reit index.

 

This was despite efforts to expand into Australia and dispose of some Singapore assets. Its unit price remained low and now faces more uncertainty. In Monday' s briefing, Roy Teo, chief of the Reit manager, said that the impact of Covid-19 on the Reit' s performance this year up until Q3 has been muted due to the government and landlord' s grants to the tenants.

 

" The uncertainty really starts from Q4 towards next year and can (come from) people working from home, in the office and business park environment."

 

He added that there have been times that the manager tried to acquire quality assets despite the lack of DPU accretion, and unitholders showed their disapproval by withdrawing support in the Reit' s preferential offering announced in August 2019. The offer ended up being only 82 per cent filled.

 

" My take is investors still want yield accretion as a key priority. That is very difficult for us to grow... It is very difficult for us to move forward with any acquisition moving ahead."

 

To aggravate matters, the Reit has a relatively low debt headroom of about S$70 million, assuming a 40 per cent loan-to-value ratio, which is its target leverage level. This has hampered its ability to grow its portfolio.

 

Mr Lim, who is also co-founder of Soilbuild Group, said that the group has considered many options and discussed potential transactions, including a privatisation, with parties comprising private equity firms, real estate funds and developers across Hong Kong, China, Australia and the United States over the past few years. Merger proposals have been considered as well.

 

" We believe that this proposal by Blackstone presents the best option for minority unitholders based on the offers received, representing the highest price received," he said. It is also the " most credible" and offers the " greatest deal certainty in terms of timing and execution" , backed by Blackstone' s track record of privatisations. This will be Blackstone' s second privatisation of a real estate trust in Singapore its first was of Croesus Retail Trust in 2017 for about S$900 million.

 

In conjunction with the trust scheme, Soilbuild Reit has also signed a deal with entities of Blackstone to dispose of its Australian assets. With this, the Lim family will no longer hold any stake in the Australian assets upon disposal. The Australian assets disposal will also not reduce the scheme consideration.

 

The proposed trust scheme will be voted on by unitholders and is expected to be effective by March 2021.

 

The manager plans to engage with substantial unitholders to gain their support for the deal. Some of the substantial minorities include Schroders, Vanguard, BlackRock and Deutsche Asset Management.

 

Citigroup Global Markets Singapore, DBS Bank and United Overseas Bank are handling the deal, while KPMG Corporate Finance will advise Soilbuild Reit' s independent directors on the trust scheme.