ESR Group plans US$750 million to US$1 billion of divestments this year,which could include Cromwell, to focus on new economy

 

ESR Group announced its FY2022 ended Dec 31, 2022 results on March 22. This is its first set of full-year results following its acquisition of ARA Asset Management which was completed on January 20, 2022. Since then, ESR&rsquo s share price is down 46%. In recent weeks, ESR&rsquo s share price may have been affected by its undertaking to underwrite ESR-LOGOS REIT&rsquo s (E-LOG) $150 million equity fundraising (EFR), some market watchers reckon.

 

In answers to unitholders, E-LOG&rsquo s manager has said that the funds raised of around $300 million from a placement and EFR would be used for redevelopment, asset enhancement initiatives (AEI) and acquisitions if any. Among the New Economy assets in E-LOG&rsquo s portfolio with leases of more than 40 years is Cold Hub which has unutilised GFA.

 

In January 2022, ESR completed the acquisition of ARA Asset Management for US$5.2 billion ($6.9 billion), satisfied with 90% of shares and 10% of cash. Along with the acquisition were parts of ARA that were non-core to ESR, including listed entities such as Cromwell Property Group and a few REITs that do not fit in with ESR&rsquo s New Economy focus.

 

During a results briefing on March 22, Jeffrey Perlman, chairman of ESR, was pretty frank about ESR&rsquo s share price performance. &ldquo I am going to start and address the elephant in the room. We are very disappointed with our share price performance since our very strong 1HFY2022 results in August. We believe strongly in creating long-term shareholder value and I will be laying out some additional steps shortly that we are laser-focused on to further deliver on that unwavering objective,&rdquo he says in his opening remarks on March 22. This includes simplifying the business and divesting non-core assets.

 

In 2022, ESR achieved US$15 million of cost synergies from the integration of ARA and part of the LOGOS business. As part of its plan to streamline and simplify the business, ESR divested its 18.16% stake in China Logistics Property Holdings and will divest a further US$750 million to US$1 billion of assets. In addition, Perlman indicates that the group will lower its co-investment stake to 7.4%, placing it in a good position to take on greater development capacity without increasing its existing balance sheet annual commitments.

 

ESR&rsquo s general mandate for its share repurchase programme allows it to buy back 10% of the number of shares issued. In 2022, the group bought back around 69 million shares for a total of US$169 million.

 

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&ldquo We were active in terms of share buybacks, we are also mindful of the opportunity set that we see in the market. But trading at 10 times ebitda, there&rsquo s logic in looking at share buybacks. But we have to think again about returning capital to shareholders, especially as we continue to recycle. We&rsquo re quite happy to reduce the size of the balance sheet that will release even more capital, which again, gives us more opportunities, whether that&rsquo s in the form of new projects or continued share buybacks which we will evaluate,&rdquo Perlman elaborates.

 

Finding the holy grail

 

&ldquo In terms of this business, it has reached that point of being self-funding and cash generative, which is the holy grail of a fund management business,&rdquo Perlman adds.

 

ESR is structured such that it is divided into three segments: Investment, fund management and New Economy development. In turn, the investment segment is divided into three main categories: Properties that the group holds on its balance sheet co-investment funds, investment vehicles and REITs the group manages as well as other investments.

 

The fund management segment earns fee income which includes base, asset management, performance fees as well as acquisition, divestment and leasing fees. ESR also receives promote fees upon reaching or exceeding certain target internal rates of return and after the group&rsquo s capital partners have received their targeted capital returns. In FY2022, these amounted to US$200 million.

 

In FY2022, in terms of revenue, fund management was the largest, followed by New Economy development and then investments. Overall, revenue grew 7.1% y-o-y to US$821 million when measured against a pro forma revenue in FY2021 which includes ARA.

 

On that same basis, with the ARA inclusion, total ebitda increased by 10.2% to $1.15 billion compared to a pro forma US$1 billion. Patmi grew 9.3% to US$655 million. On a standalone basis, ESR&rsquo s actual revenue, ebitda and patmi growth were 127.7%, 63% and 73.5% respectively.

 

&ldquo If not for the substantial weakness of most Apac currencies versus the US dollar in 2022, total ebitda and patmi would have risen by 20% and 24% compared to 2021,&rdquo notes Perlman,

 

The patmi translates into earnings per share (EPS) of US$0.13 per share while net asset value is around US$1.86. ESR reports in US dollars but is listed in Hong Kong. Based on its latest share price, its price-to-earnings (P/E) ratio is 14 times while P/NAV is 0.94 times.

 

Planned divestments this year

 

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For local investors, the most interesting aspect of ESR&rsquo s briefing is its plans to have a simplified business structure. &ldquo We are transforming and simplifying the business, and focusing on, New Economy, alternatives [such as infrastructure] and [scalable] REITs,&rdquo Perlman says.

 

The group is readying around US$700 million to US$1 billion of assets to divest. &ldquo We&rsquo ve mentioned there is about US$700 million to US$1 billion of non-core assets we are looking to divest. We&rsquo re very clear. We are evaluating our stake in Cromwell. They have embarked on their own value maximisation exercise. We&rsquo ve said we will look at the other REITs we manage. We want to have scalable REIT vehicles. If those REITs can&rsquo t be scaled further, we are going to monetise those. That&rsquo s the top of our priority list and we see the opportunity to get that done this year,&rdquo Perlman says, adding that he would like to divest the REITs which are sub-scale.

 

Cromwell is listed in Australia and was the sponsor of Cromwell European REIT (CEREIT) when it was listed here. CEREIT has been busily rejigging its portfolio to have a greater focus on warehouses but remains weighted in favour of offices in Europe.

 

ESR holds around 30% of Cromwell while Gordon Tang holds a 16% stake. Cromwell itself has earmarked a capital-light strategy aiming for more efficient use of capital. Cromwell has announced that its Cromwell Polish Retail Fund (CPRF) and Italy Urban Logistics Fund (CIULF) portfolio are non-core assets. Cromwell has also been steadily reducing its co-investment stakes in its REITs and funds over time. It is also planning to list its Australian office portfolio as a REIT.

 

ESR is the sponsor and major unitholder of E-LOG, which it supports with a pipeline and financial backing should it be required. REITs that ESR inherited from ARA which ESR manages but is not a sponsor of include Suntec REIT and ARA US Hospitality Trust, which is viewed as sub-scale. ESR also has stakes in AIMS APAC REIT and Sabana Industrial REIT and owns Sabana REIT&rsquo s manager.

 

ESR-Logos Real Estate Investment Trust (Reit) announced on Friday (Feb 17) that its private placement was three times subscribed.

 

Each unit was priced at S$0.33 apiece, with 454,545,000 new units issued. This represents an approximately 5.8 per cent discount to the volume-weighted average price (VWAP) of S$0.3502 for all trades on the Singapore Exchange on Wednesday, before the manager called for a trading halt on Thursday.

 

The price of S$0.33 per unit also comes at the lower end of the earlier consideration for private placement. The manager said on Thursday that it had intended to issue between 447.8 million and 454.5 million new private placement units, at an issue price ranging between S$0.33 and S$0.335.

 

Trading of the private placement units is expected to start at the opening bell on Feb 27.

 

Additionally, the price for its preferential offering has also been fixed at S$0.325 apiece and will be launched if the resolution passes through at the next extraordinary general meeting.

 

This represents an approximately 7.2 per cent discount to its VWAP of S$0.3502 per unit.

 

The Reit&rsquo s manager said it would announce details of the preferential offering at the appropriate time.

 

ESR-Logos Reit intends to raise S$300 million through the private placement and preferential offering &ndash with both exercises raising S$150 million each.

 

The manager plans to channel S$293 million towards future potential acquisitions and finance redevelopment or asset enhancement initiatives of the Reit&rsquo s properties, while the remaining S$7 million will be used to pay for fees and expenses incurred by the Reit over the fundraising exercise.

 

Units of ESR-Logos Reit fell 5.7 per cent on Friday to close at S$0.33. The counter traded as low as S$0.325 during the day, down S$0.025 or 7.1 per cent from Wednesday&rsquo s closing price of S$0.35. The last time the Reit&rsquo s units traded near such levels was in October 2022.

 

Some 71.3 million units worth S$23.7 million were traded during the day.

 

At its closing price of S$0.33, the units are trading below the theoretical post-placement price of S$0.349. ESR-Logos Reit unitholders will also be diluted further if the proposed preferential offering goes ahead.

 

In a report on Friday, Maybank Securities reduced its target price on ESR-Logos Reit to S$0.45 from S$0.51, after lowering its forecast for the Reit&rsquo s FY2023 distributions per unit by 11 per cent due to the expanded share base.

 

However, the research house maintained its &ldquo buy&rdquo call on the stock, noting that the dividend yield is &ldquo attractive&rdquo at 7.7 per cent.

 

Maybank analyst Li Jialin said that the Reit&rsquo s fundamentals remain healthy, with additional income from two portfolios acquired in April 2022 making a full-year contribution in FY2023. She also noted that the Reit completed development of four more assets, available for acquisition in Singapore and Japan.

 

Based on pro forma estimates, the Reit&rsquo s net asset value per share will dip to 35.9 cents after the equity fundraising, while its aggregate leverage will drop to 38 per cent.

 

&ldquo We see this as a good opportunity for ESR-Logos Reit to de-risk the balance sheet and to prepare for more actions in FY2023,&rdquo said Li.