MANULIFE US Real Estate Investment Trust (MUST) reported on Thursday (Feb 8) a 13.3 per cent decline in distributable income for the second half of FY2023, despite higher gross revenue and net property income (NPI).

 

No distribution was declared for the second half ended December 2023 &ndash unchanged from the first half &ndash as the Reit manager will be halting distributions until end-2025 following the Reit&rsquo s recapitalisation plan that unitholders approved last year.

 

Revenue for H2 FY2023 grew 6.2 per cent to US$108.5 million, while NPI improved by 6.7 per cent year on year to US$59.2 million.

 

The stronger numbers were mainly due to higher lease termination fees. However, these were partially offset by asset divestments, as well as lower rental and recoveries income, as a result of higher portfolio vacancy rate.

 

Distributable income fell 13.3 per cent to US$36.3 million, mainly due to higher finance expenses, as well as the manager&rsquo s base fee and property management fees for H2 2023 being payable in cash.

 

For the full year, revenue was up 2.7 per cent to US$208 million NPI rose 1.3 per cent to US$114.6 million.

 

Full-year distributable income declined 15.5 per cent to US$74.3 million. This came as higher lease termination fees and car park income in FY2023 were more than offset by lower rental and recoveries income amid higher vacancies and increased property expenses.

 

Portfolio occupancy stood at 84.4 per cent as at the end of 2023, with 740,000 square feet of leases &ndash around 14.7 per cent of portfolio net lettable area &ndash executed last year.

 

Tripp Gantt, chief executive of the manager, said during a results briefing that 2023 was a &ldquo relatively good&rdquo year for leasing. &ldquo We&rsquo re encouraged by the momentum that we&rsquo re seeing in leasing. We executed several leases in the fourth quarter, and that momentum kind of carried over for us through the first quarter of this year,&rdquo he said.

 

He noted that the number of tenants who are out in the market looking for space has increased. However, many tenants are still downsizing, and those that come in need less space.

 

&ldquo I do think that in order to maintain occupancy and increase occupancy, we&rsquo re going to have to sign even more leases,&rdquo said Gantt. &ldquo We would certainly hope to hold occupancy with the kind of leasing momentum that we have now.&rdquo

 

As at Dec 31, 2023, the Reit&rsquo s aggregate leverage ratio stood at 58.3 per cent. Its earlier breach of financial covenant was waived upon execution of the Reit&rsquo s master restructuring agreement.

 

With MUST&rsquo s recapitalisation plan now approved by both lenders and unitholders, Gantt said its priorities for 2024 would focus on asset dispositions and maximising proceeds to further reduce indebtedness and fund capital expenditure.

 

The manager is targeting asset disposals of about US$100 million by the Q2 or Q3 2024.

 

Gantt noted that transactions are still not happening in the market, in the absence of lenders. However, the manager said it is constantly weighing when it wants to sell its assets, and what the value recovery for assets may be.

 

&ldquo The assets that we think might be more delayed in their value recovery, it might make more sense, in some cases, to go ahead and sell those assets now, and redeploy that capital into another investment where we can get a higher rate of return,&rdquo said Gantt.

 

Portfolio valuation for the Reit fell to US$1.4 billion, down 8 per cent from six months earlier. Most of the decline came from Tranche 1 assets that the Reit wants to sell.

 

Gantt noted that a lot of the worst-case scenarios have already been priced in by valuers in terms of cap rates and assumptions of vacancies. &ldquo It feels to me like we are near the bottom, in terms of these valuations and assumptions that are being made,&rdquo he said.

 

Looking ahead, the manager reminded all unitholders to continue submitting US withholding forms and certificates &ndash as the Reit would &ldquo have to bear the burden&rdquo of withholding tax based on the proportion of unitholdings of those who fail to do so.

 

&ldquo This would adversely impact (the Reit&rsquo s) income retained,&rdquo said the manager.

 

Chairman of the manager, Marc Feliciano, said during the briefing that for MUST to ultimately grow its NPI and enhance value for existing unitholders, it would have to take advantage of opportunities in the coming years.

 

He added that 2024, 2025 and 2026 are &ldquo going to be some of the best vintage opportunities that we have seen in the real estate market in the United States in a very, very long time&rdquo . These opportunities could even be better than those during the global financial crisis, he noted.

 

To tap potential opportunities in the market, MUST would likely have to raise equity at some point. Caroline Fong, deputy CEO of the manager, noted that the Reit would need to re-rate before that can take place.

 

&ldquo To do any equity fundraising at this price is not possible,&rdquo she said. However, the manager expects that the unit price of the Reit could recover as it works on executing on its asset dispositions.

 

&ldquo When we&rsquo re able to execute, we&rsquo re able to show the market that we are here to deliver, hopefully, we get back the confidence of investors.&rdquo she said.

 

THE valuation of the real estate portfolio of Manulife US Real Estate Investment Trust (MUST) fell by 8 per cent or US$123.1 million to US$1.4 billion as at end-December 2023. It was US$1.5 billion as at the end of the prior half-year period.

 

On Friday (Jan 5), its manager said that it expects the Reit to report a loss for FY2023 due to fair-value losses arising from the valuation decline. This is expected to result in the Reit&rsquo s net asset value declining by about US$0.07 per unit.

 

The manager said: &ldquo Taking into account the property rental income, Manulife US Reit is expected to be able to meet its interest payments and expenses as they fall due since fair-value losses are non-cash items in profit or loss.&rdquo

 

The fall in valuations was largely attributed to higher discount rates and terminal capitalisation rates for certain properties, along with the continued weakening of occupancy performance across the US office market due to a slowdown in demand and leasing activity.

 

Higher discount and terminal capitalisation rates reflected &ldquo risks posed by the volatile macroeconomic environment as well as idiosyncratic risks at the property level&rdquo , such as higher vacancy or weak sub-market fundamentals, said the manager.

 

On the other hand, it added that the demand and leasing activity slowdown led to higher vacancy levels and higher concession package assumptions needed to attract new or retain tenants. This in turn gave rise to higher leasing costs.

 

The four properties with the largest-percentage valuation declines were Figueroa, Plaza, Penn and Diablo, which collectively comprise 54.2 per cent of the overall portfolio valuation decline. Figueroa is in Los Angeles, California Plaza is in Secaucus, New Jersey Penn is in Washington, DC and Diablo, in Tempe, Arizona.

 

MUST&rsquo s manager said that US office valuations remain under pressure and may fall further in 2024. &ldquo Private market performance typically lags public markets, and the prevailing market sentiment is that these declines may continue through 2024, and perhaps beyond.&rdquo

 

After accounting for the repayment of loans, fair-value changes in investment properties and certain projections in the value of other total assets as at end-2023, the Reit&rsquo s expected aggregate leverage stood at 58 per cent.

 

The manager said that the aggregate leverage limit was, however, not considered to be breached, as the aggregate leverage of over 50 per cent resulted from circumstances beyond the manager&rsquo s control.

 

It estimated the Reit&rsquo s aggregate leverage to come in at 57 per cent, and its unencumbered gearing ratio to stand at 60:100. This came after factoring in a US$50 million debt repayment by Mar 31, 2024, which was part of the Reit&rsquo s ongoing recapitalisation plan.

 

In July 2023, MUST posted a 14.6 per cent fall in portfolio valuation from end-December 2022 levels. The Reit&rsquo s aggregate leverage ratio stood at 56.7 per cent as at end-June 2023.