The Curious Case of Elite Commercial REIT Downfall and Rights Issue.

Normally, I tend to stay away from writing any post on Elite Commercial REIT (“ECREIT”) as it can lead to personal attacks and persistent online hustling by disgruntled loyal investor who only wants to hear good points on this investment. But I decided to still press on to write-up on ECREIT here as a personal documentation. It has its share of bad points such as over dependent on one major tenant and on the flip side, good point on ease of capital raising during crisis times which are way superior to other SREITs which have properties in USA such as Manulife US REIT, Keppel Pacific Oak REIT and Prime REIT. 

1. Why did ECREIT ended up on the brink of 50% breach of MAS aggregate ratio as well as potential bank covenant breaches towards end of 2023?

This is the million dollar question that many investors are asking and pondering. 

(i) Since 2021, ECREIT acquired 58 properties that seek to diversify its main tenant of Department for Pensions and Work (“DWP”) of existing properties from IPO. These leases are predominantly UK Government-leased commercial assets and are expected to provide stable cashflow and recession proof yields. 

(ii) In addition, most of the government agencies leases are linked to inflation which has up to 13.1% rental reversion from 1st April 2023 to protect ECREIT from the recent raging inflation from high interest rates. The idea of ECREIT “almost risk free” keeps floating around from almost all media and investors since its IPO in February 2020. So, theoretically speaking, cost of operating the REITs are adequately covered from inflationary pressure.

(iii) To add to the mystery, interim property break clauses for many of its properties were negotiated and remove as at 30 June 2022 and 87.5% of ECREIT leases were being secured up to March 2028. It managed to even secure a 3.5% fair value gain in property valuation at that juncture.

2. House of cards came crashing down from 2023 onwards from “triple whammy”

The mix of 3 factors of (a) UK Government vacating 12 leased offices + rental cuts across another 11 properties to retain tenants, (b) badly managed financial management (from 31% leverage ratio to over 42%) as well as (c) high interest rate charges set the stage for ECREIT to be on the brink of collapse from MAS statutory aggregate ratio and breaches of banking covenants with its bankers. It has spread itself too thin from the 2021 acquisition exercise and excessive debt being undertaken. 

(a) Tenants vacating 12 leased offices + rental cuts across another 11 properties to retain tenants

In 2022, the portfolio of properties were reporting up to 98% in occupancy rate. This has declined significantly to 92.1% as at 30 June 2023. Management seems to be caught completely off-guard and unable to lease these properties out timely and even has to resort to selling some of the properties off. 

(b) Badly managed balance sheet with 42% leverage ratio after major acquisition in 2021 relative to 31% pre-acquisition 2020.  

This is the classic over-reliance on cheap debts in 2021 to provide high yields. The previous management team are rather aggressive in growing the REIT and underestimated the potential downsides from Pt 2(a) above and Pt 2(c) below. The aggregate leverage ratio has shot up from 31% in 2020 to over 42% at end of 2021 post acquisition. Not surprisingly, there were “leadership renewal” changes to the CEO of ECREIT. The CFO of ECREIT also left at the end of 31 December 2022 after seeding the stage for imminent financial disaster-personally, I thought that the CFO should have stayed on for another year to clean up the mess.  

Leverage ratio was a healthy 31% as at 31 Dec 2020 before acquisition

Leverage ratio shoot up to 42% as at 31 March 2021 after acquisition exercise.

(c) Surging financing cost to combat inflation

The relentless interest rate increase worldwide caused the distribution available for ECREIT to plunge by an incredulous <-27%> during Q1 of 2023. Its leverage ratio also remained high at 46.6% as at 31 March 2023. Worse still, only 62% of its interest exposure is fixed which means that 38% are floating rates but the good news is that there is no major re-financing till November 2024.

Parting thoughts

ECREIT will be conducting a rights issue to raise funds to lower its leverage ratio and to prevent it from crossing the red line which will trigger off many adverse events such as bank loans default. This is something that SREITS with US properties are unable to quickly address and we have seen the disastrous Manulife US REIT barely surviving its financial crisis without a solution for more than 12 months. Personally, I do not like that a REIT is so concentrated with over 90% in a single tenant albeit being “AA rated” where the picture of being “resilient” and “virtually risk free” is being painted by most stakeholders. As we can see above, the mixture of seemingly minor issues such as tenants not renewing lease, internal aggressive financial management coupled with external macroeconomic conditions changes can easily push a REIT towards financial disaster despite this veil of invincibility.

(P.S: I just want to point out that this is a free world. It is ok to have different views from my thoughts above. The above is just my personal view. This is not a recommendation to buy or sell or to talk-down a particular REIT.)