• Manulife US REIT continues to see resilience, underpinned by its quality assets, key locations, long WALE (5.7 years) and Work-Live-Play offerings. Minimal impact is expected from work-from-home policies and new submarket supply.
• On the acquisition front, management has not seen many distressed “Grade A” office assets, although the situation may change if the pandemic is prolonged.
• Maintain BUY.

Manulife US REIT's Company Update

• Manulife US REIT (SGX:BTOU) management shared on the US office leasing market, impact of work-from-home (WFH) policies and implications on Manulife US REIT in terms of rental collection, lease management and renewals.

Resilient distributions underpinned by key locations, quality assets, long WALE and integration with Live-Work-Play environment.

• Manulife US REIT’s properties are typically located in capital cities such as Atlanta (in Georgia State), Sacramento (in California), and Washington, D.C., supported by a highly-educated workforce and growing population. Its portfolio comprises nine prime freehold Trophy2) and Class A (7) properties, providing strong income in upcycles but remaining resilient in downturns.
• The pandemic era also means a preference for a highly integrated live-work-play environment, as office workers want easy access to workplaces and avoid taking public transport.

Manulife US REIT has a relatively longer WALE of 5.7 years by NLA

• Manulife US REIT has a relatively longer WALE of 5.7 years by NLA, when stacked against other Singapore office REITs, such as Keppel Pacific Oak US REIT (SGX:CMOU) (5.0 years), Keppel REIT (SGX:K71U) (office: 4.6 years), CapitaLand Commercial Trust (SGX:C61U) (office: 3.6 years), Suntec REIT (SGX:T82U) (Singapore office: 3.14 years).
• The US office market is also different compared with Singapore, where office leases are usually longer at five, 10 and 15 years (vs the norm of three years in Singapore) with no break clauses and early terminations.

Resilient tenant base provides stability.

• In terms of gross rental income, legal tenants (22%) are the largest, and unlikely to consolidate spaces as the majority has right-sized. The finance and insurance (19.9%) sectors have seen resilient in terms of low unemployment rate of 3.1% (vs 8.4% in the US in Aug 20), and may possibly see increased take-up of office space due to stricter social distancing measures.
• Excluding Amazon, the majority of retail trade are in children’s apparel (10%) which is considered to be essential retail as children outgrow their clothes quickly.
• The top 10 tenants (35% in terms of gross rental income) are mainly listed entities, government and headquarters, highlighting the credit tenants in its portfolio.

Positive Reversions (+7.9%) in 1H20 May Continue

• Positive reversions (+7.9%) in 1H20 may continue, supported by competitive passing rents and limited comparable supply. The majority of Manulife US REIT‘s passing rents are below the market’s (at -19% to -4%), such as Peachtree (-19%), Plaza (-7%), Penn (-5%), Figueroa (- 4%) and Phipps (-4%), providing some buffer for tenant negotiation.
• One notable exception is Michelson’s above-market passing-rent (+35%). Management sees the premium sustainable going forward as Michelson is a “Trophy” asset with modern specifications (eg roof-top garden) while the comp set data included “Class A” properties.

Only Three of Manulife US REIT’s Submarkets Have Upcoming Supply

• Only three of Manulife US REIT’s submarkets have upcoming supply, beginning with Buckhead Atlanta (340,000sf, 2021) that is unlikely to have much impact on Phipps as it is 100% leased with 7.6-year WALE. Midtown Atlanta (679,000sf, 2021) has been 40% pre-leased by Google and has an asking rent that is 80% higher. The supply in Washington, D.C. (482,000sf, 2022) is not comparable to Penn (Class A) as it is Trophy grade with asking rents that are 20% higher.

Rent Reversion Comparisons With Singapore Office REITs

• Management noted that the 7.9% rent reversion in 1H20 excluded its portfolio escalation (+1.9% p.a) passed through each year. It also pointed to the absence of step-ups in Singapore office leases. Due to these differences, Manulife US REIT’s reversion stats should include rent escalations when compared against Singapore office peers.

Manulife US REIT’s Higher Yields and the Lack of Compression (vs US-listed Peers) Explained

• When comparing against US-listed office REITs, management noted they typically offer 3-4% yields (vs Singapore-listed US office REITs: 6-8%).
• While Singapore REITs typically distribute 100%, US office REITs typically retain a portion (eg 50%) of their Fund From Operations (FFO) for capital expenditure and acquisitions. As a result, US REITs go to the market less for equity fundraising.
• According to management’s estimates, if US office REITs also adopt 100% payout, their trading yields will be similar to Manulife US REIT.

WFH Policies Are Relatively Embedded in the US

• Unlike Asia, most of US employees already have access to WFH benefits (ie defined as at least a day of the week of working from home), rising from 28% to 54% during 2011 to 2020. Due to well-established norm, the pandemic only resulted in an incremental 2% of US workers to WFH.

Acquisition Opportunities in Distressed US Office Assets

• Management observed that the US office leasing and acquisition markets have been on pause until around mid-Sep 20. Although there are distressed retail and hospitality assets, management has not seen a lot of such opportunities in the US office segment. So far, rental collection has held steady in the 90% for most Class A office assets. However, management believes the situation could change, depending on the duration of the crisis.

Source: UOB Kay Hian Research - 29 Sep 2020