AIMS APAC REIT (AA REIT) O5RU -0.7% - which owns a portfolio of 26 industrial properties in Singapore and three in Australia - reported a 5.1% y-o-y rise in distribution per unit (DPU) to 9.944 cents for FY2023 for the 12 months to March 31, supported by a distributable income of $71.7 million, up 6.5% y-o-y. Revenue and net property income (NPI) in FY2023 reported a 17.6% and 18.7% increase to $167.4 million and $122.5 million respectively.

 

Revenue and NPI growth were supported by higher rentals particularly from AA REIT&rsquo s logistics properties in Singapore, and full-year contribution from Woolworth&rsquo s HQ in Australia, which was completed in 2021. Woolworths is AA REIT&rsquo s largest tenant, accounting for 15.3% of gross rental income, followed by Optus, which contributed 11.2% to gross rental income (GRI). A third Australian company, Boardriders, which occupies a warehouse on the Gold Coast, contributed 2% to GRI.

 

Positive rental reversions of 18.3% in FY2023 were achieved mainly from its logistics portfolio. Altogether, the manager completed 38 new and 56 renewal leases, representing 156,176 sq m or 19.9% of the portfolio&rsquo s total net lettable area. For FY2024, 21.4% of leases are due for renewal, of which 90.6% are from the logistics properties where rentals are likely to be higher than expiring rents.

 

Russell Ng, CEO of AA REIT&rsquo s manager says warehouse properties comprised 41% of the reversion in 4QFY2023 (1Q2023). &ldquo The bulk of that was from 20 Gul Way and 27 Penjuru Lane. These are ramp up buildings and are high in demand. In addition to having good, modern ramp up facilities, there&rsquo s a supply demand imbalance in the market with the onset of Covid, construction was basically put to a halt, because costs did go up by about 50% but rents hadn&rsquo t increased. We&rsquo re seeing that start to improve now. Redevelopments look more feasible in the current environment,&rdquo Ng says.

 

According to Ng, the current rents for AA REIT&rsquo s portfolio are likely to be the highest over the past decade. The occupancy rate for the whole portfolio is 98%. &ldquo The bulk of our logistics properties are full. Whenever there' s any vacancy, a good two or three prospects are putting in offers,&rdquo he adds.

 

Plans for master leases

 

As industrial S-REITs focus on multi-tenanted properties as a result of the hangover from master lease fallouts by misaligned sponsors who used them as a financial engineering tool, AA REIT has plans to go in the opposite direction. At present, master-leased tenants contribute 43.8% to gross rental income, with multi-tenanted properties at 56.2%. The master-leased properties are likely to move up to around 48%, Ng indicates.

 

Following a $1.6 million AEI on 23 Tai Seng Drive, the property is now fully leased to Racks Central, a data centre operator, for an average lease term of seven years. This led to an NLA increase of 32%, and a valuation uplift to $38.8 million as at March 31 this year, compared to $26.2 million as at March 31, 2022. Racks Central is a data-centre operator.

 

&ldquo We are seeing demand coming from a couple of different segments, particularly for advanced manufacturing. They are looking at taking up the entire premises because it gives them economies of scale to the production, the operations, and warehousing. The increased NLA allowed us to increase the earnings and the contracted rates, and it allowed us to secure a long term lease with escalation,&rdquo Ng elaborates.

 

In the initial years of S-REITs, vendors of industrial property marked up rents with master leases to sell the properties into the REITs at higher prices. This would raise the valuation of the property, albeit temporarily. &ldquo We saw quite a bit of that during previous IPOs when vendors were selling their property with higher contracted lease in order to inflate the valuation,&rdquo Ng concurs.

 

Now though, Ng says he is working on a couple of different asset initiatives with tenants to upgrade the building and to convert a couple more multi-tenanted properties into master leased properties.

 

Ng is in advanced negotiation for the conversion of a multi-tenanted building into a long-term master leased building that would increase NLA by 17%.

 

The rent to be contracted by these master-leased tenants is not overly inflated as they are seeing the benefits of efficiencies of having their production, warehouse and office all in one place, Ng points out. &ldquo The rents we agreed with the tenants are not &ldquo over-market&rdquo but at the upper end of the market,&rdquo he says. &ldquo There' s also a third property we&rsquo re working with &mdash which I would say is warehousing space. It&rsquo s a way for us to upgrade the building, spend the right level of capital to attract these tenants for a long-term lease with rent escalations, providing income stability for the portfolio.&rdquo

 

Companies such as electric vehicle companies, robotic companies, data centre companies and advanced manufacturing companies are examples of companies that want to rent entire buildings.

 

Portfolio valuation declined

 

In April, AA REIT announced the divestment of a non-core general industrial asset &ndash 541 Yishun Industrial Park A &ndash for $12.9 million or an 8% premium to its valuation. Overall though, portfolio valuation declined to $2.2 billion as at March 31 from $2.27 billion as at March 31, 2022. The decline was from the Australian portfolio, caused by a loss in translation and higher capitalisation rates. As a result, NAV as at March 31 was $1.37 compared to $1.40 a year ago.

 

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AA REIT employs natural hedge for its Australian portfolio to mitigate further losses. &ldquo This is by maximising our Australian dollar loans. We' re currently at 60% loan-to-value for our Australian properties,&rdquo Ng says.

 

According to Ng, a price discovery process is taking place in Australia. &ldquo We are seeing quite a bit of new supply with a couple of billion dollars of assets on the market,&rdquo he says.

 

It appears that Australian REITs and funds are looking to divest. &ldquo We' re also hearing that credit has started to tighten. As a result of that, we expect to see some asset repricing which will present good buying opportunities in the market,&rdquo Ng says.

 

In some cities in Australia &ndash such as Brisbane, Perth and Adelaide - capitalisation rates for industrial properties are starting to rise. The equivalence is for property valuations to fall. &ldquo We think that there' s going to be a bit more movement and seeing some of these properties [cap rates] go up to the mid-6%,&rdquo Ng says.

 

The Singapore industrial sector has been very stable, although there is some supply building in the hi-tech sector. However, industrial property land leases are short. AA REIT&rsquo s average land tenure is 53.9 years. Only 20 Gul Way with 17.8 years of land lease, and 7 Bulim Street with 19.4 years of land lease are under 20 years. &ldquo At the moment, that' s not presenting any major concerns for us,&rdquo Ng says.

 

Whether JTC extends the land lease or not depends on a number of factors. An anchor tenant at the property is a key consideration capital investment is another JTC would look at whether the building has sustainability features, Ng suggests.

 

RHB says AA REIT&rsquo s 4QFY2023 and FY2023 DPU exceeded its and Street expectations. &ldquo Its portfolio occupancy rate is at a record high, while the strong double-digit rental reversions should continue &ndash supported by its under-rented logistics portfolio. It has no debts due for refinancing in FY2024, and a lumpy 88% of its debt is hedged. We see healthy organic and inorganic growth potential from ongoing asset enhancements and potential near-term acquisitions, as its gearing level remains comfortable,&rdquo the RHB report says.

 

The only cloud on the horizon is AA REIT&rsquo s interest coverage ratio of 2.3x. This is because a large 20% or so of its capital structure comprises perpetual securities. Ng says he is working on a way to lower the percentage as the portfolio grows.

 

Converting to green leases

 

On sustainability, AA REIT introduced green leases during FY2023, with 15% of its tenants now on clauses to &ldquo increase visibility of customer energy use&rdquo .

 

The focus of AA REIT&rsquo s emissions data reporting is on Scope 2, which are indirect greenhouse gas (GHG) emissions associated with the purchase of electricity, steam, heat or cooling. According to Ng, having green leases allows the REIT manager to collect such relevant Scope 2 data.

 

Ng says management is looking to increase the proportion of such green leases &ldquo in accordance with lease expiries&rdquo . By GRI, 19.4% of AA REIT&rsquo s logistics and warehouse leases are expiring in FY2024. &ldquo Whenever we have an expiry, we&rsquo ll seek to convert these into green leases,&rdquo says Ng.

 

Overall, AA REIT has committed to a 42% reduction in Scope 2 emissions by FY2030, compared to a FY2020 baseline.

 

AA REIT has engaged a sustainability consultant to undertake a carbon emission baseline study and gap analysis &ldquo with a view to develop our sustainability framework in alignment with Singapore Green Plan 2030&rdquo .

 

Ng says management will include an update in the REIT&rsquo s upcoming sustainability report, to be released in July.