Another Singapore REIT bites the bullet.
Actually, I’m surprised the privatization offer is quite fair at 70 cents per unit.
Not that cheap. Not that expensive.
I’ll explain. Let’s dive in.
Background on Frasers Hospitality Trust (FHT)
FHT IPO-ed in 2014 with 12 properties across Singapore, Malaysia, Australia and the UK. These are high-quality properties leased to some of the most well-known global hotel operators, including InterContinental and Marriott. Today, FHT has 14 properties.
These hoteliers get into a long-term master lease arrangement with FHT.
For instance, both InterContinental Singapore and Novotel Darling Harbour 20 + 20 lease agreement — lease for 20 years with an option to renew for another 20 years.
FHT was hot stuff. Back then, FHT was 19 times subscribed with a projected 7% distribution yield.
What happened?
The problem, over the last 8 years, was FHT’s lessees were struggling to produce growing income in a highly-intense hospitality industry.
Despite locking in long-term lease agreements, a large part of these agreements are driven by variable rent — FHT shares upside of profit growth and decline.
Source: FHT’s IPO prospectus, latest annual filings
There’s little protection to FHT’s rental profits.
This is different from retail leases where a rent is usually fixed (sometimes with a smaller variable rent component).
And because FHT’s hotels are located in some of the most competitive cities, this Singapore REIT has troubles growing its DPU.
In fact, even though FHT has been growing its assets over the last 8 years, DPU kept dropping.
Source: FHT’s latest annual filings
FHT’s tricky situation
FHT’s gearing ratio is already at 42% (MAS gearing limit: 45%). Going forward, FHT will find it hard to raise debt to comfortably diversify away from hotels and serviced apartments.
And FHT simply can’t sell its hotels right now. COVID has depressed hospitality asset prices.
In other words, FHT’s in a tricky situation.
With a mid-sized S$1.34 billion market cap, and rising rates, FHT will eventually have to pay higher interest costs.
Today, FHT’s interest coverage is only 2.3 times. In my opinion, that’s not enough margin of safety.
Source: FHT’s latest annual filings
Currency risks
Lastly, FHT is also facing headwinds due to currency depreciation.
Since IPO, FHT’s operational currencies have weakened against the SGD dollar by over 10%.
This contributed to its weak revenue growth.
Source: FHT’s latest annual filings
Don’t forget, over the last two years, COVID has wrecked the entire hospitality sector, including FHT’s hotels and serviced apartments.
Even with the world opening up, it will take time for some of the key cities to recover tourism. This is on top of the fact that FHT still has to go back fighting against competition.
Why I like FHT’s cash offer at 70
Actually, I’m delighted FHT decided to privatize. I think 70 cents per unit is a fair deal.
That’s roughly about the same valuation as its book value. And this is a slightly higher valuation compared to its hospitality REIT peers.
COVID, intense competition, rising rates, weakening operational currencies, all these could put FHT’s hotel tenants under pressure (see chart below).
With FHT’s shares stuck in the bargain bin for a long time.
Privatization Timeline
If you need to know the timeline:
Is Singapore REIT market dying?
Singapore is still one of the big for REITs.
First, Singapore’s flushed with a strong savings rate, stable SGD dollar and deep capital markets.
Banks are willing to lend to property owners.
And there’s a huge pool of investors willing to invest in SGD assets.
Unlike other emerging counties, Singapore doesn’t bear the burden of a very high, volatile and uncontrollable interest rates.
If you ask me, I’m not worried about a shrinking Singapore REIT market.
In fact, I think Singapore REIT market is going to continue doing well. REITs borrow in SGD and invest in higher yielding asset across the world.
Final Thoughts
I think FHT privatization is good news.
This stops shareholders from throwing good money into bad assets in this environment — intense competition, COVID, rising rates, weakening operational currencies.
On top of that, right now, it’s a tricky situation for FHT — a high gearing ratio means it cannot comfortable diversify away from hotels and serviced apartments.
With rising rates, it’s going to be expensive for FHT to borrow debt AND raise rights issue.
Actually, I’m surprised FHT’s sponsor is willing to take it out at a fair price. Because, honestly, many Singapore privatization deals have been disappointing — FHT is one of the better deals.
Sometimes, investing can be simple.
Always here for you,
Willie Keng, CFA
Founder, Dividend Titan
