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I RECEIVED quite a number of e-mail and text messages in response to my article last week which talked about how it is a myth to expect real estate investment trusts (Reits) to be a steady income yielding instruments. The fact is, Reit managers are always on the lookout to expand their portfolio under management. The bigger their portfolio, the more transactions they carry out, the higher their fees. But there is no denying that some managers do have the contacts and expertise to bag the right acquisitions at the right price, hence benefiting unitholders who chose to pump in more money to participate in the continued expansion of the Reits. One of the most common questions that I received in response to last week's article was: What would the return be if I don't subscribe to the rights?
'Internal rates of return are commonly used to evaluate the desirability of investments or projects. The higher a project's internal rate of return, the more desirable it is to undertake the project. Assuming all projects require the same amount of upfront investment, the project with the highest IRR would be considered the best and undertaken first. 'A firm (or individual) should, in theory, undertake all projects or investments available with IRRs that exceed the cost of capital. Investment, however, may be limited by availability of funds to the firm and/or by the firm's capacity or ability to manage numerous projects.' So how did the Reits do when we take into consideration additional capital injections? And would investors be severely punished for not taking up their rights entitlement? Out of the 18 Reits, 13 chalked up positive IRRs, but some just barely. Seven managed to reward investors with IRRs of more than 10 per cent. Ascott Residence and Ascendas Reit are among the top performers. And curiously, it is investors who opted not to participate in the rights issues who have come out ahead. And if these investors managed to sell their rights entitlement in the market, their return would have been even higher. By not participating in the rights, an investor in Ascott since its IPO days would have registered a 17.2 per cent IRR. For those who forked out additional cash to take up their rights issues, their IRR worked out to 13.4 per cent. I reckoned that this happened because the appreciation of Ascott's share price has not been as steep since its latest round of cash call last year. And also, very importantly, Ascott's rights issues weren't that dilutive in that the exercise price of its rights was only a slight discount to the then market price of its units. This was similar for Ascendas Reit, although the difference wasn't that great. The cash calls of Ascendas Reit have been relatively small.
But for most of the other Reits, it was a clear disadvantage if existing unitholders gave up on their entitlement to rights issues which were offered at a heavily discounted price to their then market price. If unitholders don't have the money to meet the cash calls, they can try to sell their rights shares in the market. This is of course conditional upon the fact that the market is relatively happy with the proposed acquisition of the Reit, and that the market price of the Reit remained higher than the rights exercise price. If the acquisition is seen as bad for the Reit, perhaps because the price agreed upon for the particular acquisition is too high for the benefits that it would accrue, then the market would sell the Reit causing its price to fall. Sometimes the decline is so big that the market price of the Reit approaches the rights exercise price, or even lower. In that case, the rights issue would most likely not be able to raise its intended amount of money. So the thing is, as long as the interest of unitholders and the managers are not aligned, there will always be the very real risk that a Reit will enter into transactions which are less than favourable to the minority unitholders. For example, the sponsor may try to offload not so attractive assets to the Reit.
growth and hence chalked up little capital appreciation - has managed an IRR of only 5 per cent since 2002.
'But note that industrial can trade at higher yields to hospitality as the former has shorter tenures. 'As for Hutchison Port Holding Trust and SP Ausnet, I would value them as companies rather than Reits, as usually the rates they charge are prone to fluctuations - unlike Reits and shipping trusts which usually lock customers up for years. 'SP Ausnet is not structured even as a business trust and pays its dividends out of net profit rather than cash profit. I think every year, it pays out the same dividend per share even though its earnings fluctuate. I would value it the same way I value SingPost.' So here you have it. I hope that we all are now a little clearer about the nuances of the various instruments out there.