Expanding in New Sub-market

• MANULIFE US REIT (SGX:BTOU) has added a first California property to its portfolio - the deal is accretive and should strengthen its overall AUM profile.
• Strong tenancies and favourable lease structures support stable income growth and DPU visibility. Our DDM-based Target Price rises slightly to USD1.05 (COE: 7.6%, LTG: 2.0%).
• Valuation is compelling with DPU yields of 6.6-6.9% for FY19-20E vs 4.2-5.9% for office S-REIT peers.
• Post-deal, we see DPU upside with low gearing of 36.6% supporting further acquisition opportunities, and potential re-rating from an index inclusion.

Asset Well Placed; Fundamentals Positive

• The 29-storey freehold Class A office building (400 Capitol acquired for USD198.9m) enjoys 94.9% occupancy (averaging 92% over three years), a long 5.9-year WALE supported by high-quality tenancies, and +2.3% pa rental escalations. Manulife US REIT’s FY19-20 DPU rises 0.7-2.2% on a 7.2% cap rate. Its micro-market occupancy has improved steadily from 82.6% in 2014 to 93.7% in 1H19 as asking rents climbed by 4.1% pa from 2014-18 (according to Cushman & Wakefield).
• Supply is limited in the CBD and at ~USD700psf replacement cost, against the USD397 psf implied by the transaction, this supports growth in rents (currently 11.5% below market). We note that tenant retention rate is at above 80% with 11.9% of NLA already forward renewed to 2024 and beyond.
• Management is also optimistic about longer-term prospects with the city’s USD2b plan to rejuvenate developments within the vicinity.

Deal Accretive, Potential Re-rating Ahead?

• The deal – 70% funded by USD142.1m private placement cum preferential offering - is accretive as NAV rises 0.6% and DPU is up 2.3% (pro-forma). Leverage improves from 37.1% to 36.6% with UD330m in further debt headroom.
• Manulife US REIT views itself as a strong candidate for entry into the FTSE Nareit Developed Asia Index.
• Post-deal and backed by new equity, management expects its free-float market cap to rise to USD1.3b (from USD1.16b pre-deal) and above the USD1.22b index threshold. The announcement of the quarterly index revision is expected by year-end; we note FRASERS CENTREPOINT TRUST (SGX:J69U)’s dividend yields compressed 50bps towards its inclusion.

Source: Maybank Kim Eng Research - 19 Sep 2019