• Stabilisation of ESR-REIT's earnings in 4Q20 led to a 1.9% q-o-q growth in core revenues.
• Identified 3-4 properties with AEI opportunities that will generate a ~7% return to drive organic growth.
• Targeting to acquire ~S$1bn of properties from the sponsor’s overseas pipeline in the next 3-4 years.

Key Details of ESR-REIT's 4Q20 Results

• ESR-REIT (SGX:J91U)'s core revenue of S$59.3m and NPI of S$43.6m were a 4.2% and 7.9% q-o-q improvement respectively.
• ESR-REIT's portfolio occupancy inched up slightly to 91.0% with ~1.1m sqft of leases signed and renewed in 4Q20.
• Rental reversions posted a slight 0.6% decline in 4Q20.
• Gearing was maintained at 41.6% and all-in cost of debt was reduced to 3.54%.

Our Thoughts

Quick recovery and stabilisation of core revenue

• Given the stability in operations and cashflow in 4Q20, ESR-REIT has distributed the remaining income (0.099 cents) that was retained earlier in the year.
• Core earnings of S$59.3m was a 4.2% q-o-q improvement; ESR-REIT does not expect to provide any significant rental relief or restructuring in FY21.
• ESR-REIT's core DPU of 0.741 cents was up 5.9% q-o-q.

FY20 core DPU was down 20.7% mainly due to rental rebates as a result of COVID-19 pandemic

• Rental rebates provided for SMEs and retail tenants; ~S$8.0m of rebates had been utilised in FY20.
• Negative rental reversions and lease restructuring.
• Non-renewal at several single-tenanted properties and the subsequent conversion of five single-tenanted buildings to multi-tenanted buildings.

Healthy occupancy rate a testament of quality portfolio and proactive lease management

• Despite the slowdown in leasing activities, ESR-REIT's occupancy rate remained healthy at 91.0%.
• 3.8m sqft of leases signed and renewed in FY20; signed 1.6m sqft of new leases in FY20.
• High tenant retention rate of ~85%.

AEI plans expected to generate a ~7.0% return on investment

• ESR-REIT plans to proceed with the development of a multi-tenanted high-spec addition at 7000 Ang Mo Kio Avenue 5.
• Identified another two or three properties for AEI in FY21; estimated cost of S$60-70m.
• Ongoing AEI at UE BizHub EAST and 19 Tai Seng Avenue on track for completion in 1Q21 and 3Q21 respectively.

Expansion overseas to support portfolio land tenure, supported by pipeline assets from Sponsor

• ESR-REIT will be focusing on overseas acquisitions in FY21 by tapping on Sponsor’s pipeline.
• Will consider both income-producing assets as well as development projects (JV with Sponsor).
• Acquisitions will include both direct purchase and investments in private funds.
• ESR-REIT’s current WACC is estimated to be ~5.5%.
• Targeting to acquire ~S$1.0bn over the next 3-4 years.

Pressure on rental reversions in FY21

• ~20.1% of ESR-REIT's leases due to expire in FY21; 18.0% from multi-tenanted buildings and 2.1% from single-tenanted buildings. Spike in new supply in FY21 will likely put pressure on rents at general/light industrial properties.
• Expect rental reversions to remain flat or slightly negative.

Expect further savings in borrowing costs

• ESR-REIT's all-in borrowing costs improved slightly to 3.54%. It is in negotiations to early refinance the S$191m of loans expiring in August and October 2021.
• Further savings in finance costs expected, but will only gradually see the savings towards second half of FY21; all-in costs could go down to ~3.1% by year-end.

Maintain Our BUY Recommendation on ESR-REIT with target price S$0.45

• Despite a y-o-y decline in core revenues, we believe that ESR-REIT’s 4Q20 earnings have stabilised and will continue to recover gradually going forward. The completion of the two ongoing AEIs during the year may provide further upside, and the ~S$59m remaining in capital gains will be utilised to any void in income from further AEIs.
• Given the current tightening in cap rates globally, ESR-REIT’s first overseas foray is likely to be in Australia. For accretive acquisitions, we believe ESR-REIT will rely on a combination of income-producing assets as well as development projects (via JV or investment in private funds). Its Sponsor’s sizeable pipeline, valued at more than US$26bn, provides ESR-REIT with ample opportunities to foray overseas.

Source: DBS Research - 21 Jan 2021