What a shocking announcement being made by First REIT this afternoon. Lippo Karawaci plans to default on the rental income support for Siloam hospitals stipulated in the rental agreements. The sponsor has cleverly crafted it as a "rental restructuring" instead of a planned default. First REIT share price dropped from S$0.885 to an all day low of S$0.635 this afternoon- a whopping 28% crash in valuation. Even before the announcement, I was puzzled to see the price suddenly corrected by over 12% in the morning. Looks like some insiders managed to get the news first and escaped by dumping their stocks. SGX regulatory team immediately raised query on the abnormality. First REIT management team had no choice but to call for a trading halt immediately. Then a few hours later, news came out that the sponsor is unable to provide the huge rental income support. According to First REIT, its sponsor, Lippo Karawaci, had not approached it with regard to the "lease restructuring".
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| First REIT Response To The Surprised Announcement By Sponsor Without Prior Notification |
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| Announcement Extracted From Lippo Karawaci and Posted by First REIT |
Income support of up to 80% by Lippo Karawaci and Internal Organisation Politics?
Please see here on my previous posting of: "First REIT Review PART 2- Super High Yield of Over 8% And Possibility of 80% Drop in Rental Income For Upcoming Renewal Of Expiring Hospitals" on 18th October 2019.
Lippo Karawaci had just thrown a spanner into the works on upcoming lease renewals of the 5 hospital leases at the end of 2021. This time round, Lippo Karawaci decided to activate the nuclear option as it disclosed this material announcement without touching base with the current First REIT team. Is this due to internal politics and major disagreements on the current discussion? I reckon that this may have risen due to local First REIT management or OUE team putting up a fierce fight for a fair renewal of contractual terms that are not prejudicial to the interest of the current unit-holders.
The sponsor now declares that it is not just the 5 properties expiring in 2021 up for new terms and conditions, but for all the properties of Siloam hospitals under rental support by the sponsor as it is under intense financial pressure from the COVID-19 recession. In short, Lippo Karawaci is not going to honour the rental income support commitment. Worst case scenario will be that Lippo Karawaci just walk away from the previous signed contractual obligations. This is like holding a knife to the throat of the management of First REIT.
Personal thoughts on the current soap opera
I do not like the current development. Lippo Karawaci had just completed a USD 1 billion rights issue last year and also raised funds by selling away a shopping mall to Lippo Mall Trust. It had even set aside hundred of millions (USD 315Mil) from the rights issue exercise for REITs rental payment for FY2020. However, upon being hit by COVID-19 pandemic recently, Lippo Karawaci decided to activate the nuclear option of potential default of rental payment to First Reit.
I am currently still vested in First REIT. But luckily since the March 2020 crash, have pared down 60% of my significant holdings and concentration risk in First REIT and diversified more of my holdings into Mapletree Commercial Trust, Suntec REIT and AIMS AMP in view of the possible devastating COVID-19 impact in Indonesia. Saying that, I am still vested in 40,000 units. Will probably sell off another 25% of my current First REIT units this week based on the worrisome historical track records of the owners. Personally, I think there is enormous destruction of shareholders' value in Lippo Mall Trust and OUE Commercial Trust. So I guess it is now First REIT's turn at the slaughter house to butcher if off.
Summary- To buy more units, hold or panic sell all your units?
The price of First REIT had dropped from its heyday of S$1.30 per unit to the current S$0.680 per unit due to the uncertainty of the upcoming lease renewal on a triple net charging basis. The key to answer whether to buy more, hold or panic sell rest on:
(i) whether this is just a strategic move by the Sponsor to force the First REIT management and OUE folks to agree on more favourable terms and conditions for Lippo Karawaci or
(ii) is it really due to threat of bankruptcy facing Lippo Karawaci?
By decreasing the dividend income, the yield of First REIT will go down. This may make it easier for OUE Healthcare to sell off some of its assets into First REIT as yield accretive to unit-holders in future to reduce reliance on only 1 main healthcare client concentrated in Indonesia. One thing is for certain, that is, retail investors are always the ones getting the shorter end of the stick either way.
very depressing indeed !
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Deleteit's a bit hard to believe the two brothers fail to reach an amicable sharing of contractual guarantee and resorted to such destruction of value, unless the Indonesian healthcare business with First Reit in Singapore as a capital recycling exit proven to be unprofitable in the mind of the Lippo Group.
ReplyDeleteWhen the DPU drops, price will follow... Yield for this REIT is always around 8% due to the various risks (LPKR, currency & tenant concentration). They will find it hard to find an asset which is yield accretive from the new sponsor. That explains why there were no acquisitions since the last one back in 2017.
ReplyDeleteHi WK888, the good thing is not much currency risk with First REIT as the agreements are all pegged to SGD. But as per what you have pointed out, the tenant concentration risk is a real killer here esp with this recent episode, the sponsor's reputation for honouring agreements has gone down the drain. So yup, you maybe right that most investors will demand 8% which means price will plunge further if Victor Tan is unable to stop the new Lippo CEO from breaking all the agreements and imposing unfavorable new terms immediately.
Deletelooks like they want to cut the scrap and have a one-off re-negotiation now for all hospitals involved. But even they cut rental guarantee and effectively cut DPU ( and price ), why yield will go down ? It may stay at 8% or even higher after a sudden default.
ReplyDeleteHi Alick, you are right. If Lippo gets to break-off, then this maybe the more likely scenario. From a contractual law perspective, Lippo cannot just decide to get out of the contract like that. The only contracts that can be renewed on new terms that are more favourable to Lippo Karawaci will be the 5 rental agreements expiring in Dec 2021. Hence CEO of First REIT, Victor Tan, has stressed on "subject to applicable legal and regulatory requirements" for the remaining agreements. It will be interesting if First REIT sue Lippo Karawaci for breach of contract and it will be an ugly family scandal that does no party good.
DeleteThe structure of First REIT charging mechanism is actually not a commercial viable model with "up to 80% income support" by sponsor on behalf of Siloam Hospital Group. The fixed rental and the pegged to SGD components will breakdown in extreme economic situation such as the current COVID-19 pandemic.
I would prefer a model with moderate weightage on fixed rental (rather than the current super high fixed rental component) and also a weightage on variable factor based on revenue of Siloam in order for it to be sustainable but that will mean First REIT is probably worth only 20 cents per unit. My original thoughts are that if the commercial model is viable rather than the current airy fairy charging mechanism, the yield demanded will be lesser due to significant lowering of going concern issue. If I recalled correctly, there was a time when First REIT was hovering around yield of 6.1% to 6.5% when there were more certainty with regard to the future of the REIT.
Lippo Karawaci is strange. If Siloam group did extraordinary well, the Group CEO will never want to give extra bonus rental to First REIT. But when he is losing lots of money, he will want to exit the rental agreement by "re-negotiating".
i think lower the investors' confidence, higher the yield will become......
ReplyDeleteI think many years after IPO, Lippon Kawaraci had come to a conclusion that this whole First Reit asset re-cycling vehicle is loss-making, mainly due to the long term guarantee on the exchange rate of rupiah. If the yield did not go up from 6% to 8%, they still had a hope of dumping more assets into First Reit. But since the yield had gone up to 8%+, this hope was gone too. Thus, the pandemic lockdown in Indonesia is the last straw on the camel's back. They can't take it anymore and the pandemic provides a face-saving excuse. Whether OUE group has any internal conflicts with Lippo Kawaraci, I don't know. This is the most mysterious part.
ReplyDeleteI am surprised that the price is holding up quite well around 70 cents instead of much lower to reflect the possible 80% cut in DPU with rental guarantee.
ReplyDeleteHi Alick, may have been oversold for now if Lippo Karawaci is just using this announcement to arm twist First REIT management to accept the changes in terms and conditions for the 5 agreements expiring in Dec 2021 and support these changes at EGM with unit-holders.
DeleteThey may not have the real intention to want to change the terms for all the hospital agreements. A similar incident happened in 2015 whereby Lippo Karawaci announced that due to more favourable double taxation ruling, they are planning to move Lippo Mall Trust and First REIT management team from Singapore back to Indonesia. But First REIT and Lippo Mall Trust themselves were unaware and thereafter, the move never materialise.
So keep your fingers crossed that prices will recover. Saying that, I have started to dispose my remaining units in First REIT and will only be holding some of it. Personally to me, Management integrity and honour are essential attributes in business. The new CEO John Raidy had made an announcement that wants to restructure something that was legally binding is extremely disappointing. In addition, by not communicating these thoughts and touching base with First REIT management team beforehand and just announced something like this on their own to effect panic selling that leads to the crash in valuation in one single day speaks volume of the characters of Lippo Karawaci's new management (personal opinion only).
cannot agree more. There is an obvious disrespect for the unit holders. This incident brought out an interesting topic. When a reit sponsor provides a long term rental/exchange rate guarantee to unit holders, what happens if sponsor sells their units and the management company ? It becomes such a mess. The interests are totally not aligned. SGX should look into the matter. It is no small deal. Anyway, I told myself that the moral of the lesson is that no yield premium is enough for a sponsor/major shareholder of bad reputation. High yield comes with a reason. Must check sponsor background inside out.
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