Optimising balance sheet through L&I expansion
- Slight miss in earnings as a result of FX and rising borrowing costs
- Rental growth has significantly offset the impact of cap rate expansion on valuations
- FLCT to be more active in optimising gearing in FY24; focusing on L&I assets in Singapore and Japan
- Maintain BUY with a slightly lower TP of S$1.44
Robust leasing activity with continued positive rental reversions. In the last quarter, FLCT experienced robust leasing activity with consistently positive rental reversions. They successfully concluded approximately 100,000sqm of leases in 4Q23. For the entire year, FLCT has inked agreements covering more than 490,000sqm, which accounts for about 18.5% of its total portfolio.
Rental reversions in 4Q23 continued to be positive, with the L&I portfolio witnessing an impressive 33.5% increase in rents, while the commercial portfolio saw a 9.2% uptick in rents. On a full-year basis, FLCT reported an overall positive rental reversion of 18.9% for its entire portfolio. This growth was primarily driven by leases signed in Australia, both for L&I and commercial properties, as well as the commercial leases in Singapore.
Stable occupancy rates and minimal lease expiries. FLCT managed to maintain a commendable overall portfolio occupancy rate of 96.0%. While the L&I portfolio remained fully occupied, there was a marginal 0.2ppt decline in overall occupancy, mainly attributable to vacancies at Central Park, 357 Collins Street, Farnborough Business Park, and Maxis Business Park.
Lease renewals for FY24 have already begun. During the quarter, FLCT also concluded leases that were set to expire in FY24, leaving only 8.7% of its portfolio leases to be renewed next year. With rents remaining stable and even showing an upward trend, we anticipate that FLCT will continue to report positive rental reversions in the coming year. It’s worth noting that leasing inquiries have picked up, but tenants might be taking more time to commit to leases.
Upcoming challenges with Google’s space. We will closely monitor the impending vacancy of Google’s space at ATP in February 2024 and the potential for the non-renewal of their remaining lease that will expire in December 2024. The first lease expiry covers approximately 150,000sqft of space, and we understand that FLCT is already in advanced negotiations to backfill it. However, there may be some downtime for the space once Google’s lease expires in February 2024.
FY23 DPU of 7.04Scts was slightly below our estimates. FLCT’s FY23 DPU of 7.04Scts. was slightly below our estimates. Despite the strong leasing momentum and positive rental reversions, FLCT’s FY23 DPU was c.1.5% lower than our projections. This was primarily due to the weaker AUD and higher financing costs. Looking ahead, we believe that the recent developments in Worchester and Blythe Valley Park will contribute to earnings growth. Additionally, the development at Ellesmere is expected to be completed in December 2023, and FLCT has just announced another forward-funded development project in the Netherlands. While this is a smaller project (around S$20.9m), it offers an attractive yield of about 6% and will be completed in November 2024.
Cap rates have expanded, but valuations supported by rental growth. Although there have been cap rate expansions of 50-175bps across Australia and Europe, FLCT reported a manageable decline of c.4.7% in portfolio valuations. Excluding the effects of FX, portfolio valuations would only have declined by c.3%. The most significant cap rate expansion occurred in the UK, with the L&I portfolio witnessing a 140bps expansion and the business parks reporting a 175bps expansion. In Australia, the L&I portfolio experienced a slightly larger cap rate expansion of 89 bps (compared to 78bps for commercial properties), but valuations increased by approximately 1.4% due to strong rental growth.
However, negative fair value adjustments amounting to S$359m, combined with divestments and a weaker AUD, led to a 10.0% y-o-y decline in NAV to S$1.17.