Starhill Global REIT – Why I Believe This REIT Is Undervalued

Since the onslaught of the COVID-19 pandemic, retail REITs in Singapore have taken a huge beating relative to their Pre-COVID levels. However, they have rebounded strongly over the course of the last 2 months with a slew of positive news, starting with the Biden election win in mid-November to the announcement of successful vaccine trials by Moderna in late-November. The recent announcement by PM Lee on the commencement of phase 3 starting on 28 December 2020 couldn’t have come at a better time for retail landlords and tenants who have been struggling due to capacity constraints imposed as a result of social distancing measures.

I have summarised the key events that occurred in 2020 and how the share price of retail S-REITs have reacted in the chart below. Mapletree Commercial Trust and Frasers Centrepoint Trust are the best performing bunch, losing just slightly more than 10% YTD while Starhill Global REIT has fared the worse, losing ~30% YTD.

Source: S&P Capital IQ

Despite the recent run-up in share prices of the retail REITs, I believe that there are still pocket of opportunities to accumulate some of them at decent valuations. In today’s article, I will be focusing my analysis on Starhill Global REIT (SGREIT). This is a relatively less talked about REIT compared to the Mapletree and CapitaLand-backed REITs.

Overview of Starhill Global REIT

Starhill Global REIT is a retail-focused REIT that has 10 properties across 5 markets (Singapore, Australia, Malaysia, Japan and China). Referencing the below diagram taken from its latest 2019/20 Annual Report, a large part of its revenue is derived from 2 key markets, Singapore and Australia. These 2 markets collectively account for ~87% of gross revenue. In terms of revenue breakdown by asset class, ~14% of revenue is derived from office spaces that is predominantly contributed by the office component of its 2 Singapore assets, Ngee Ann City and Wisma Atria, with the office component of Myer City Adelaide making up the rest.

Source: SGREIT 2019/20 Annual Report

Given that a large proportion of its gross revenue is derived from the 2 Singapore assets i.e. Ngee Ann City and Wisma Atria, their performance will be key to the share prices’ performance going forward. For readers who are unfamiliar with Ngee Ann City and Wisma Atria, these are 2 high-quality retail assets located along Orchard Road with direct basement access to the Orchard MRT Station. In my opinion, the quality of the assets is not far off from ION Orchard if we discount the fact that ION Orchard is a more recent development.

Valuation

One of the key factors that attracted me to look further into this REIT is its relatively cheap valuation. 2 other listed Singapore REITs (S-REITs) that have a large exposure to Orchard retail are Lendlease Global Commercial REIT (LREIT) and SPH REIT (SPHREIT). I have separately done up an analysis for LREIT as well. If you are keen to have a read, you can check it out here.

From the table above, SGREIT seems to be severely undervalued as it is trading at 0.6x Price-to-Book Value while its competitors are both trading near the 0.9x range. A low P/BV could be a sign that the underlying assets are overvalued so we would have to check the cap rates applied to value the assets. In case the term cap rates sound foreign to you, you might want to check out my Valuation 101 article where I dive into the various valuation methodologies typically applied by professional valuers. Do note that SGREIT had recently taken a revaluation loss of approximately 5% of its asset value in its latest financial year FY19/20 (ending June 2020) to account for the negative impact of COVID-19 on its forward rentals. As such, I personally do not foresee any further markdown and even if there is, it is likely to be minimal.

Source: FY19/20 Results Presentation Slides

The table above taken from its FY19/20 presentation slides show the valuation cap rates applied for SGREIT’s properties. Since its Singapore properties account for close to 70% of its asset value, I will be paying closer attention to them. I observed that the cap rates used to value the retail component of Wisma Atria and Ngee Ann City is ~4.7%. This contrast with the 4.25% and 4.5% adopted by LREIT and SPHREIT respectively (refer to the tables below for more information). As such, it does not appear to me that SGREIT is artificially inflating the valuation of its assets. On the contrary, it seems to be more conservative relative to its peers in its valuation. I personally view this as a plus point and it is likely that there will be a revaluation gain realised sometime in the future when the economy picks up again. With a lower for longer interest environment, there is a possibility of a further compression in cap rates. Its office component does seem to be fairly valued as well as the cap rate applied is similar to the ones used by SPHREIT for its office component in Paragon. 

Putting the Singapore properties aside, there was one thing that stood out from the table above and that is the large revaluation loss realised for its Australian assets. The revaluation loss is ~17% for its Australian assets, which is a substantial amount of markdown. The management cited that this was due to lower passing rent and market rents in view of the softer retail outlook which was impacted by COVID-19. As COVID-19 is likely a one-off event, I do think that this revaluation loss is likely to be a one-off as well. Nonetheless, I will be paying close attention to the valuation of its Australian properties going forward.

Source: SGREIT FY19/20 Annual Report

Source: SPHREIT FY19/20 Results Presentation Slides

What I can conclude thus far is that from a cap rate point of valuation, it doesn’t seem like SGREIT is fudging its valuation. The next question that I asked myself is the remaining land tenure of its assets. As an investor, I will always favour a freehold asset or the asset with a longer land expiry all else equal.  

For the case of SGREIT’s Singapore assets, the remaining land tenure for both Wisma Atria (~40 years) and Ngee Ann City (~51 years) is significantly shorter than 313@Somerset (~84 years) and Paragon (~91 years). This could potentially explain the larger discount that it is trading at relative to its book value. 

Source: Starhill Global REIT 2020 Annual Report

Source: Lendlease IPO Prospectus

Source: SPH REIT 2018 Annual Report

Even with 40 years and 51 years of remaining land tenure left, there is still a long way to go before the land tenure ends. Thus, I personally think that the disparity in remaining land tenure does not justify the huge disparity in P/BV ratio. Moreover, it can be argued that this entire argument is a relatively weak one given that valuers would have likely accounted for the shorter land expiry of SGREIT’s Singapore assets in their annual asset valuation exercise. This brings me to the next point on the sponsors of the REITs and the track record of the REITs.

Sponsors and Track Record

I do believe that a REIT with a good sponsor should always trade at a premium to those that does not. This is the case for the Mapletree REITs which are all (with the exception of Mapletree NAC Trust) trading at a premium to Book Value. This is due to their track record of consistently being able to financially engineer an increase in DPU and NAV for its unitholders. SGREIT’s sponsor is YTL Corporation Berhad, a Malaysian infrastructure conglomerate listed on the Kuala Lumpur Stock Exchange (KLSE). As per the chart extracted from Google below, It’s share price has largely been trading sideways and has fallen considerably in recent years, losing half of its value since 2018. 

Source: Google

My personal opinion is that the sponsor YTL Corporation Berhad is certainly not as good as Mapletree. As for SPHREIT’s sponsor i.e. Singapore Press Holdings, it is questionable as to whether they are better than YTL since they are traditionally a news printing company. A strong sponsor could potentially be another explanation as to why LREIT is trading at a higher P/BV relative to SGREIT. For the case of SPHREIT, I believe it’s share price is supported by its strong track record since its listing. The table below taken from SPHREIT’s website shows that it has consistently generated an increase in DPU since its listing barring the COVID year of 2020.

Source: SPHREIT Investor Relations

As for the case of SGREIT, its DPU track record pales in comparison. The table taken from its FY19/20 presentation slide shows that its DPU has largely been on the downtrend since 2016 although it is showing signs of stabilisation in the 2 years prior to COVID. As such, its poorer DPU track record could help explain why it is trading at a greater discount relative to SPHREIT.

Source: SGREIT FY19/20 Presentation Slides

With this, the next question that I would ask myself would then be, why has SGREIT’s DPU been falling in recent years and is this a trend that is likely to persist Post-COVID?

Struggling SG Office Component and Australian Assets

Zooming into the DPU chart in the previous section, I noticed that there was a sharp fall in DPU between FY16/17 and FY17/18. As such, I have decided to dig deeper into the financials of those years. My initial analysis seems to suggest that the SG office component is struggling.

Source: FY17/18 Results Presentation Slides

From the above table, the office components at Wisma Atria and Ngee Ann City have registered a 9.4% fall and 16.7% fall in NPI respectively relative to FY16/17 figures. The sharp fall in NPI for the SG office component is largely attributed to the poor office occupancy rate. Looking at the occupancy rate table below, since June 2015, SG office occupancy has been on the downtrend, falling from a high of 99.3% in June 2015 to 90.3% in June 2018. The COVID-19 pandemic seems to have exacerbated this trend as SG office occupancy reached a record low of 87.6% in June 2020, suggesting that the SG office component may face further near term headwinds in the year ahead. In contrast, SG retail occupancy rate seems to be holding up well but it remains to be seen whether this will hold given its strong reliance on overseas tourists. That aside, I conclude that the SG office component should be something that I would pay close attention to in the quarters ahead. 

Source: SGREIT FY19/20 Results Presentation Slides

Another issue that I had picked up from the analysis of the FY17/18 NPI figures is the sharp fall in Australia properties NPI income of 9.2% relative to FY16/17 figures. According to the management, the fall was mainly attributed to the asset redevelopment at Plaza Arcade which was completed within the fiscal year of FY17/18 itself. If this was true, NPI for Australian properties should roughly retrace back to FY16/17 levels in the following year of FY18/19, holding all else constant. 

Source: SGREIT FY17/18 and FY18/19 Results Presentation Slides

However, when I looked at the Australia NPI figures for FY18/19 in the table above, I noticed that the NPI had not retraced back to the FY16/17 levels. The management explained that this was due to the depreciation of AU$ against S$. Taking a closer look at the AU$ to SG$ trend over the last 5 years in the below chart, I realised that the AU$ has indeed depreciated substantially since 2018 but it has recently rebounded strongly since the COVID-19 outbreak. Given the strong rebound in AU$ that had been observed so far in 2020, I do believe that the weakening AU$ is no longer a headwind for SGREIT going forward.

Source: XE Currency

To sum up my analysis in this section so far, the main overhang for SGREIT moving forward is the performance of its SG office component. The weakening AU$ which was seen as a headwind in the past has all of a sudden become a possible tailwind in the coming year given its strong rebound since March 2020

In my opinion, I believe that the strong run-up in AU$ recently could partially mitigate the weakening SG office retail landscape and provide some support to the share price in the near term. If SGREIT could reverse its SG office component’s decline that has been observed in recent years, there is a possibility that the market could be undervaluing SGREIT relative to LREIT and SPHREIT.

However, my analysis would not be complete until I take a deep dive into the SG retail component for SGREIT and how it stacks up against its peers.

SG Retail Outlook for Orchard malls

With the recent announcement of the closure of Robinsons at The Heeren, I do believe that malls that have an exposure to department stores would be deemed as being more risky than its peers. Fortunately, SGREIT does not have any exposure to the department store concept. To those who have been to Ngee Ann City, you might be wondering why SGREIT does not have any exposure to the department store segment despite Ngee Ann City housing the Takashimaya Department Store. 

It is important to note that SGREIT only owns 27.23% of the total strata value of strata lots at Ngee Ann City, with the remaining being owned by Ngee Ann Development. Another key point to note here is that Takashimaya’s floorspace at Ngee Ann City is split into 2 separate leases. The first lease signed with Takashimaya Singapore Ltd (a subsidiary of Toshin Development Co Ltd) accounts for the Takashimaya Department Store’s lease while the lease signed with Toshin Development Singapore Pte Ltd (also a subsidiary of Toshin Development Co Ltd)  accounts for the specialty stores lease that includes stores such as The Hour Glass, Louis Vuitton, etc. Both the specialty stores and Takashimaya Development Store collectively make up what is known as the Takashimaya Shopping Centre that is commonly known by Singaporeans. SGREIT’s key master lease tenant is Toshin Development Singapore Pte Ltd (which accounts for 22.1% of its Gross Rental Income) while the Takashimaya Department Store lease is signed with Ngee Ann Development. As such, SGREIT is not exposed to the department store segment. To confirm this, I have extracted a table below that is taken from DBS’ latest report showing the various Singapore retail REITs exposure to the department store segment.

Source: DBS

From the above table, SPHREIT does have a substantial exposure to the department store segment with Metro being its anchor tenant that accounts for 21% of its Gross Rental Income. Given SGREIT’s nil exposure to the department store concept, I am more convinced now that it’s excessive discount to its book value seems unwarranted relative to its peers. 

Given SGREIT’s disproportionate exposure to Toshin Development Singapore Pte Ltd, I have decided to take a deeper look into the financial statements of Toshin Development Co Ltd just to be sure that there is no sign of distress with the parent company. The table below shows Toshin Development Co Ltd’s forecast for its various subsidiaries for the year ending Dec 2020. From the forecast, the parent company had forecasted that its Singapore businesses will still be able to achieve positive operating income despite the negative impact caused by the pandemic. Even more surprisingly, the performance of the Takashimaya Department Store is forecasted to achieve a better operating margin than its specialty stores segment!

Source: Toshin Development Co Ltd FY2021 Results

As such, my analysis above thus showed that it is unlikely that Toshin Development Singapore Pte Ltd will have any issue fulfilling its rental obligations to SGREIT.

Having established that the SG retail component for SGREIT is likely structurally sound enough to weather any near term volatility, I would proceed to establish what the long term prospects of the retail scene for the Orchard malls looks like. 

The chart above taken from a CBRE Research offers a snapshot of the upcoming supply for retail spaces across Singapore. It can be seen that the retail floorspace supply will be very tight in the coming years in Orchard with limited new supply in 2021 and no new supply for 2022 and 2023. The tight supply will likely provide support to rents in the long run as retailers will have less bargaining power.

Concluding Thoughts

Based on the above analysis, I am inclined to believe that even after SGREIT’s recent 20% rally since the beginning of November 2020 to $0.505 (@ 0.62x of P/BV), the market seems to be overly pessimistic on SGREIT when compared against its peers who are trading at ~0.9x of P/BV. Such depressed valuation could potentially be a sign of impending risk but my analysis thus far has not picked up any major red flag to justify such depressed valuation. As such, I intend to hold onto my existing position in SGREIT and could potentially add to it. 

Do drop me a comment below if you think that I have missed out something crucial in my analysis. I am always looking forward to learning from each other. Cheers and happy investing!

 

Please note that the information that I have shared are for informational purpose only. It represents my personal opinion and should NOT be taken as a business, legal, tax and investment advice.

7 thoughts on “Starhill Global REIT – Why I Believe This REIT Is Undervalued

    1. Hi Vince,

      Thanks for sharing your view! I do concur with the 3 points that you have mentioned. It is definitely something that I will be monitoring closely, especially with the recent MCO restriction in Malaysia. I think it is lucky in a way that one of its Malaysian asset i.e. The Starhill is undergoing AEI. I personally see this more as a yield play and it is definitely not going to deliver huge capital upside.

  1. So detailed and cover both sides. Thanks!

    Was wondering if you could do one on lendlease too?

    I heard that they were the lowest or second lowest bidder for the Grange Road land. This seems like it’s yield accretive and something interesting to look into?

    1. Hi Valerie,

      Thanks for the support. Gotcha, will definitely do an analysis on Lendlease sometime soon! By the way, I had just uploaded an article on Valuation 101 which you might want to check out. I thought it might be useful for you to check out the various kind of valuation methodologies that valuers typically use in their valuation process if you are interested in REITs investment. Do let me know your thoughts and stay tuned for more!

      1. Wow I Iove the ‘Valuation 101’ write-up you did.

        Omg thanks so much. You are filling a knowledge gap that exists among many here.

        Good and useful.

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