• Stay BUY and SGD1.35 TP, 25% upside and c.6% yield. We see strong merits in internalising Suntec REIT’s manager due to its unique positioning of differing asset class focus and strengths compared to its Sponsor, high free float and low sponsor stake, and its large size with high quality assets. As such, we believe that internalisation could be a win-win for all stakeholders and result in a healthy DPU uplift over the long run. This in turn should narrow the huge trading discount of ~50% to book value (-2SD level).

• Why Suntec REIT fits the bill for internalisation? Suntec REIT, with a sizeable portfolio AUM of SGD12bn, has historically had a limited reliance on its Sponsor for acquisition and fundraising. In addition, the REIT is different from other sponsor-led S-REITs as: i) The current sponsor, ESR Cayman, focuses on new economy assets compared to Suntec’s office and retail portfolio, ii) High free float and limited shareholder concentration with the Sponsor holding a mere 10% stake, and iii) no visible sponsor growth pipeline.

• Proposed internalisation structure. In order for a successful internalisation, majority unitholder approval (>75%) and amendments to the trust deed are needed. We therefore believe it is important to align all stakeholders including the Sponsor and minorities. This, in our view, can be done by buying the REIT manager at a fair market value and also fully retaining the existing management team. Based on our initial analysis of past REIT manager transactions, the fair value range has been 7-9x of the historical management fees (Figure 1). Considering Suntec REIT’s matured growth profile and size as well as limited embedded growth from the internalisation process, we believe a fair value estimate should be at a slight discount, or in the 5-7x range of FY23 management fees (base and performance fees) or c.SGD307- 430m. This could be satisfied fully through shares or a combination of majority shares and cash, taking into account its high gearing while providing upside incentive for the Sponsor from share price appreciation.

• Potential mid-single digit DPU accretion. Based on Accounting and Corporate Regulatory Authority’s (ACRA) filings, Suntec REIT manager (FY22) posted net profit of SGD 33m. We believe unitholders should be able to reap >SGD30m pa in additional distributable income (DI), even including the initial setup costs (c.SGD10-15m). Assuming a SGD30m increase in DI translates to a pro-forma (FY23) operational DPU accretion of 3-6%, based on our assumption of 100% consideration (SGD307-430m) paid in new Suntec REIT units @ SGD1.10/share. Gearing should also be lowered from equity issuance while there will be a slight NAV dilution. In addition, there will be future savings on acquisition fees (1% of value) and divestment fees (0.5%). We see limited impact to overall debt cost for the REIT due to its large and high quality asset base and potential lowering of its cost of equity.

Source: RHB Research - 1 Apr 2024