First REIT released its 3Q results on 13 October 2015. 3Q FY15 distribution per unit grew by 3.0% year-on-year to 2.08 cts, compared to 2.02 a year ago. On a 9 month basis, the REIT has given out DPU of 6.21 cts. Annualized to 8.30 cts, this translates to an attractive yield of 6.17% based on the current unit price of S$1.345.
Background. First REIT is Singapore’s first healthcare REIT. It has an asset portfolio of 12 properties in Indonesia, three in Singapore and one in South Korea. These properties comprise of mainly hospitals, several nursing homes and an integrated hospital & hotel. Total assets under management and gross floor area amounted to S$1.17 billion and 251,339 sqm respectively, based on the REIT’s 2014 annual report. As of 3Q FY15, First REIT has a net asset value of S$1.0202 per unit.
At first glance, we like First REIT for
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Proxy to growth in Indonesian healthcare sector. Indonesia has been expanding its healthcare system, especially with the introduction of the universal healthcare scheme (Jaminan Kesehatan National or JKN) and First REIT is a proxy as more Indonesians gain access to healthcare.
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Strong branding in Indonesia. First REIT’s hospitals in Indonesia are run by the Siloam Hospitals group, whom we believe to be one of the top healthcare services providers in Indonesia. Siloam Hospitals was awarded the 2015 Frost & Sullivan Indonesia Hospital of the Year Award for the fourth time in a row in October.
We noted that Siloam Hospitals has piloted a public-private hospital format to offer treatment for lower-income patients at Siloam General Hospital (SGH). The number of outpatients (SGH) has more than doubled since the beginning of 2015, suggesting that the JKN system is also benefiting private healthcare operators.
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Strong sponsor. First REIT’s sponsor PT Lippo Karawaci Tbk has been actively expanding across Indonesia. Since the beginning of 2015, Lippo Karawaci has expanded its pipeline of hospitals from 30 to 46, with First REIT having the right of first refusal for acquisition.
Future catalysts include
New acquisitions. Catalysts include, for instance, the acquisition of new hospitals and asset enhancement initiatives. First REIT has previously identified at least six hospitals for acquisitions, based on the 2Q results presentation slides.
First REIT’s last acquisition was in December 2014 – Siloam Sriwijaya (SS). SS was acquired at a purchase price of S$39.2m and has a valuation on First REIT’s books of S$43.8m. Initial base rent was S$3.9m per annum. Therefore, the acquisition of SS has provided First REIT with a revaluation gain of 11.73% on purchase price and an annual base property income yield of about 8.90% on valuation amount – higher than the current DPU yield of First REIT. Assuming acquisitions of similar nature, future asset additions should be yield accretive to First REIT.
Asset enhancement initiatives (AEIs). In addition, First REIT plans to undertake certain AEIs at Siloam Hospitals Surabaya, East Java (SHS) and Siloam Hospitals Lippo Cikarang in East Jakarta. These two assets have a portfolio value of S$79.2m and annual rental of about S$7.5m, translating to yield of 9.47%, based on First REIT’s annual report. SHS is one of First REIT’s initial assets. Undertaking AEI at SHS will most likely expand its capacity and allow for higher yield.
To fund these initiatives, FIRST REIT has a S$500m multicurrency debt issuance programme. This programme has been recently updated to include perpetual securities to provide the REIT with more financing options. In addition, MAS is changing the debt ratio limit to 45%, which will increase the REIT’s capacity for acquisitions.
We were initially concerned about risks such as foreign exchange and interest rate risks. Upon further study, we realized that First REIT is well hedged against these risks that should not materially impair the REIT’s outlook and value.
Stable leases – Rental charged in SGD terms. First REIT’s leases are structured to offer stable returns. Existing properties are supported by stable and long term master leases that average about 10 to 15 years per asset. In Indonesia, First REIT collects its rental in Singapore Dollars, comprising of three parts – a) a fixed base rent, b) an annual base rental escalation pegged to the Singapore CPI, and c) a variable rental growth component tied to revenue.
Based on the acquisition of Siloam Sriwijaya, the base rental escalation component is subject to a cap of 0% and a floor of 2%. Hence, base rental does not drop in a deflationary environment. Indonesia has recently passed a law banning payment in foreign currency. However, this law does not affect existing contracts. Therefore, First REIT’s existing rental income base is not affected. We believe that, for future acquisitions, First REIT will work on entering into hedging arrangements to receive IDR payments in the SGD equivalent amount.
95.3% of debt on fixed rate basis. According to First REIT’s 2Q slides, almost all of its debt are on a fixed rate basis, as the REIT has entered into interest rate swaps with banks. As of end 3Q, First REIT’s total debt amounted to S$398.1m, none of which is repayable within one year. Based on First REIT’s debt profile as of 2Q, the earliest repayment will be in 2017. About S$141.1m or 35.1% of debt will be payable in 2017. Hence, refinancing and interest rate risk in the near term is low.
The larger risk is that rising interest rates may lead to investors asking for a higher return from REITs in general. However, First REIT’s high asset quality and stable lease structure suggest that investors may demand a lower yield from the REIT. REITs listed on the SGX currently have dividend yield ranging from 4.5% to more than 10%, with an average of 6.92%.
Conclusion. First REIT looks attractive based on the prospect of further yield growth on the back of asset acquisitions and enhancements. Assuming 10% DPU growth in 2016 to 9.13 cts per annum, First REIT will yield about 6.79%, translating to yield expansion of 62 basis points. Based on the projected DPU of 9.13 cts and a cap rate of 6.17% (constant dividend yield), First REIT may be worth S$1.48 per unit, translating to upside of about 10%.