Re-rating catalyst: geographic diversification
- FEHT’s 5-year historical P/BV of 0.73x is at a 20.9% discount to the P/BV of its hospitality peer CLAS and CDREIT and 11.1% to FHT.
- Geographical diversification is the key re-rating catalyst, in our view, with Japan acquisitions being the most probable given the positive yield spread.
- Reiterate Add. Our DDM-based TP implies a FY23F P/BV of 0.85x for FEHT.
Re-rating through AUM growth, diversification, increased free float
FEHT’s 5-year (2018-2023) historical P/BV of 0.72x is at a 20.9% discount to the P/BV of its hospitality peer CLAS (0.91x) and CDREIT (0.91x) and 11.1% to FHT (0.81x) (Fig. 1). We think that the discount relative to its peers could be due to FEHT’s 1) comparatively smaller market capitalisation, 2) lower free float, 3) lack of diversification, and 4) comparatively fewer acquisitions. Amongst the above-mentioned factors, we think geographical diversification would be the key to a re-rating for FEHT, increasing its investible market and allowing it to accelerate its inorganic growth.
High time for an acquisition
Since its IPO in 2012, FEHT’s portfolio has increased from 11 properties to 12 properties (post divestment of Central Square in 2022), as well as a 30% stake in a JV holding 3 hotels in Sentosa. FEHT’s gearing of 32.0% is one of the lowest amongst the SREITs, translating into debt headroom of c.S$600m to reach a gearing level of 45%. FEHT’s right of first refusal pipeline consists of 7 hotels and service residences located in Singapore. However, given the comparatively higher interest rate environment in Singapore, we think that acquisition of Singapore assets may not be adequately accretive in the near-term.
Looking overseas
In previous analyst briefings, the management cited Japan, the UK and Australia as target acquisition markets. In this current interest rate environment, several SREITs are looking to Japan as target acquisition markets given the positive yield spread. We think that this could be a similar strategy for FEHT. Given the lower quantum for Japan properties (c.S$30m and above) compared to Singapore assets (c.S$100m and above), we think that FEHT could fully debt-fund a Japanese acquisition whilst keeping gearing at a comfortable c.30% level. An overseas acquisition would help break the acquisition hiatus for FEHT as well as re-rate FEHT as a geographically diversified REIT with more opportunities for inorganic growth.
Reiterate Add. FY23F DPU yield of 6.0% attractive at +1.4 s.d. level
We lower our FY23F-25F DPU by 2.6-8.0% on 1) lower margins for the 4 hotels as it ramps up its occupancy after exiting the government contracts (read more on page 4), 2) lower margins for the rest of the portfolio due to higher operating costs, 3) lower revenue for retail/commercial space on slower leasing, and 4) higher interest cost assumptions. As a result, our DDM-based TP is trimmed from S$0.79 to S$0.77. Re-rating catalysts include accretive acquisitions/divestments and faster ramp-up period for its hotels that have exited government contracts. Downside risks are lower-than-forecast leisure and/or corporate travel demand which would impact FEHT’s occupancy and room rates.
Geographical diversification could be the key to rerating
We note that CLAS and CDREIT have similar 5-year historical average (2018 -2023) P/BV multiples of 0.91x. While CLAS’s market capitalisation and free float is 2.5-2.6x higher than CDREIT’s, they both have geographically diversified portfolios.
While CDREIT and FEHT are similar in terms of market capitalisation (S$1.5m vs. S$1.2m), CDREIT’s free float of S$1.1m is almost double that of FEHT (S$0.6m). This, along with FEHT’s lack of geographical diversification and slower pace of acquisition, could explain why FEHT is trading at a 20.9% discount to CDREIT’s P/BV.
Despite having a larger market capitalisation, free float, average daily turnover (ADTV) and AUM compared to FHT, FEHT’s 5-year historical average (2018- 2023) P/BV of 0.72x is 11.1% lower than FHT’s P/BV of 0.81x. While both SREITs have not made any acquisitions in the last 5 years, we note that the key difference between FEHT and FHT is geographical diversification. FEHT’s narrowly focused, Singapore-only mandate limits its acquisition opportunities and hampers its ability to grow inorganically. However, at previous analyst briefings, the management has said that it is exploring Japan, the UK and Australia as potential target acquisition markets.
As such, we think the geographical diversification could be the key to re-rating catalyst for FEHT, allowing it to narrow the gap from its current P/BV of 0.72x, to CDREIT’s P/BV of 0.91x.
Waiting for the first domino to fall
We think an expansion of mandate could be the first domino to re-rate FEHT, potentially narrowing its P/BV discount to its peers. A wider geographical and/or asset class mandate would increase FEHT’s investable market, allowing it to seek more acquisition opportunities in deeper and wider real estate markets, or diversify its asset base into longer-stay accommodation assets, similar to what its peers CLAS and CDREIT have done in recent years.
A smaller discount to P/BV could allow FEHT to accelerate its inorganic growth as more deals would be accretive given that future equity fund raising would be less dilutive. Future equity fund raising or reduction of its sponsor’s c.52% stake could also help to increase its free float, making it investible for institutional investors.
A Japan acquisition – killing two birds with one stone
Given the current interest rate environment, several SREITs are looking to Japan as target acquisition markets given the positive yield spread (Figure 2). We think that this could be a similar strategy for FEHT. A Japan acquisition would help break the acquisition hiatus for FEHT as well as rerate FEHT as a geographically diversified REIT with more opportunities for inorganic growth.
Right of first refusal pipeline and sponsor support
FEHT’s right of first refusal pipeline consists of 1,823 rooms spread across 7 hotels and service residences located in Singapore. Within its sponsor pipeline, we think that the FEHT will prioritise the remaining 70% stake in the JV holding Sentosa hotels, The Clan Hotel, Oasia Residences (West Coast), AMOY Hotel given that these are the relatively newer assets, completed in 2013-21.
FEHT’s acquisition of Oasia Downtown from the sponsor in 2018 was made possible due to the sponsor’s support. The sponsor sold Oasia Downtown with a land lease of 62 years (instead of the full land lease of 92 years), thereby lowering the purchase value for FEHT and making the acquisition more accretive for FEHT. In our view, the willingness of the sponsor to support FEHT in terms of flexibility in pricing could help the REIT in its inorganic growth ambitions.
Model adjustments
As mentioned in our earlier report, 4 of FEHT’s hotels will exit their respective government contracts (3 hotels in Mar 23 and 1 hotel in Nov 23) and return to the market for public bookings. We expect margin compression for these hotels, given that it will take 3-5 months for the hotels to rebuild their forward bookings and ramp up hotel occupancy post-government contract.
