How do I read the financial results of REITs? Many investors have such a question and it is legitimate.
Nobody wants to part with their hard earned money without understanding what they are investing in
Furthermore, with the proliferation of REITs on Singapore’s stock exchange, there has never been a better time to invest in a REIT than now.
Spoilt for choice, investors can choose among REITs that invest only in Singapore, across Asia, only in China, only in the USA, only in Data Centres and many other asset classes and geographies.
So what are the few things an investor or lay-person should look out for before investing in a REIT?
Here are 9 things to look out for in the quarterly financial results of REITs.
- Gross revenue
- Net property income
- Amount available for distribution
- Distribution per unit
- Distribution yield
- Gearing ratio
- Interest rates charged by banks to the REIT
- Rental reversion
- Weighted Average Lease Expiry
REIT financial metrics summary
- Gross revenue – higher is better
- Net property income – higher is better
- Amount available for distribution – higher is better
- Distribution per unit – higher is better
- Distribution yield – higher is not always better, lower is not always worse. I would personally invest in REITs with 6 to 7% yields. Selectively, I would consider those with higher or lower yields than in that range.
- Gearing ratio – higher is not always better, lower is not always worse. However, lower is usually better. REITs on average have gearing ratios between 32% to 36%.
- Interest rates charged by banks to the REIT – lower is better
- Rental reversion – positive and higher is better
- Weighted Average Lease Expiry – higher is not always better, lower is not always worse.
A REIT’s gross revenue is indicative of how much the REIT has collected from the assets in its portfolio.
This can generally be found on the first few pages of a REIT’s quarterly financial presentation.
Investors should look for REITs that have a track record of raising gross revenue.
Using Capitmall Trust as an example, they show that revenue has risen compared to the same period last year.
Net property income
The difference between gross revenue and net property income is that expenses has been deducted.
Think about your salary or allowance as gross revenue, expenses as your bus, mrt, food, shopping expenditure, and what you have left as the net property income.
In the case of a building, gross revenue is what tenants pay you, expenses generally are what has been spent on upkeep, maintenance, property taxes, electricity etc., and net property income is whatever is left.
Net property income can be found in the first few pages of a REIT’s quarterly results slides.
Investors should look for REITs that have a track record of raising net property income.
Using Sutnec REIT as an example, net property income has risen compared to the same period last year.
Amount available for distribution
Going into more detail, amount available for distribution (AAFD) is what can really be distributed to unit/shareholders.
The difference between net property income and AAFD is that payment has been made to the REIT’s employees.
This is generally a base component as management fee and variable component as a performance fee.
The performance fee is paid when the REIT manager has done a good job of improving the performance of the REIT.
Different REIT have different performance fee structures.
Using Capitacommercial Trust as an exmple, the distributable income has risen compared to the same period last year.
Investors should look for REITs that have a track record of raising the AAFD.
Going one step more detailed, distribution per unit (DPU) is what really ends up with each shareholder.
DPU is calculated as AAFD divided by the total number of units outstanding.
If you have 1,000 shares of Mapletree Industrial Trust, and based on their 3QFY17/18’s DPU of 2.88 Singapore cents per share, you would be entitled to S$28.8 of dividends.
Since 2.88 Singapore cents per share is what is paid out in 3Q, you need to annualize it to estimate what Mapletree would pay out for the whole year.
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This can be done by multiplying 2.88 Singapore cents per share by 4 = 11.52 Singapore cents per share.
That would entitle a shareholder holding 1,000 shares to S$115.2 of dividends in the year.
Investors should look out for REITs that have a consistent increase in DPU.
Distribution yield compares the DPU an investor receives against how much he needs to pay for each share (share price).
The formula is calculated as: Annual DPU divided by share price
In the case of Keppel DC REIT, the DPU yield is found at the front of their presentation slides as they’ve calculated it for investors.
Generally, all the REITs in Singapore have an average yield of about 6%. Keppel DC REIT’s yield are slightly lower because it may be perceived as safer compared to other REITs.
Not all REITs with high yields are good, and not all REITs with low yields are bad.
My personal rule of thumb is to invest in REITs that have a yield of at least 6 to 6.5%.
I tend to avoid REITs that have a yield of above 8% unless very compelling. Likewise for REITs with yields below 5%. That would mean Keppel DC REIT is out of the question for me.
Gearing is another word for leverage. Both can be used interchangably.
The definition of a REIT’s gearing ratio is the total amount of debt divided by the total value of deposited property.
Total value of deposited property means the value of all the properties in the REIT’s portfolio. The value does not take into account cash, receivables and other assets.
Investors should look for a REIT with a gearing ratio that isn’t too high or low compared to its historical average.
A low gearing ratio means that the REIT has headroom to buy assets. It could also mean that the REIT manager is not capable enough to buy a property resulting in low leverage.
Gearing ratio indirectly tells an investor how leveraged the REIT as a company is.
The highest the gearing ratio, the likelier it is that the REIT is spending more on interest payments. (However, the interest rate on the REIT’s borrowings also play a part – a REIT with a lower gearing ratio may have higher interest payments than another REIT with a higher gearing ratio. This is because the REIT with the lower gearing ratio may have been charged a higher interest rate by the bank).
Using Frasers Commercial Trust as an example, the gearing ratio at the end of 2017 was 34.8%.
On average, Singapore REITs have a gearing of between 32% to 36%.
Personally, 34.8% is a comfortable range for me to invest in a REIT. I would be wary of REITs that have a gearing ratio higher than 40%.
Interest rate charged by banks
Most REITs will also disclose the interest rate charged by banks or the capital market to them.
This is also called the cost of debt.
In all cases, a lower interest rate is always better than a higher one.
Using Keppel REIT as an example, the company has an interest rate of 2.62% as of 31 Dec 2017.
This level is considered low with the stronger and more well-known REITs having interest rates of about 2-3%.
REITs that do not have strong sponsors generally have higher interest rates.
REITs that have overseas properties also generally have higher interest rates. Examples include REITs with China or India properties.
Rental reversion is a metric captured by some REITs that show whether new leases that were signed in the quarter have higher or lower rental rates than before.
For example, if tenant A that was paying S$100 per square foot exited the property on 31 Sept 2017, and was replaced by tenant B paying S$120 per square foot, the rental reversion would be 20%.
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The above is a simplified example. The actual rental reversion calculation takes into account all the changes in all the properties during the quarter.
Investors should look out for REITs that have a history of positive rental reversions.
Using SPH REIT as an example, their 1QFY17/18’s result show a negative rental reversion 10.6%.
This means that the new leases signed in the quarter were 10.6% lower than previous tenants on average.
Negative rental reversion rates mean that new tenants are paying less than older tenants.
The implication for the REIT is that gross revenue will gradually decline if the reversion does not turn positive.
Ultimately, net property income, AAFD and DPU will turn negative which is not good for investors.
Weighted Average Lease Expiry
Weighted Average Lease Expiry (WALE) is the duration of tenants in the REIT’s properties in years.
In an improving market, investors should look out for REITs with short WALEs. The implication of short WALEs is that when leases expire, new tenants may lock in their leases at a higher rate (due to an improving market).
A REIT with short WALE means that present tenants can be kicked out and replaced with those who can pay higher. Alternatively, the REIT can negotiate and ask the present tenants to pay higher rates.
In a deteriorating market, investors should look out for REITs with long WALEs. In a deteriorating market, new tenants that are signed generally would have lower rental rates.
The REIT manager does not want tenants with lower rates. As a result, it would be better to hold on to the present tenant than let them expire and sign a new one with lower rates.
Using Ascendas REIT as an example, the REIT has a WALE of 4.2 years.
This means that on average, the leases in the properties held by the REIT has a tenure of 4.2 years.
So these are the 9 things that I would look out for before investing in a REIT.
Not really rocket science so keep these in mind before you invest in your next REIT!
Share with us, what other metrics do you look at before buying a REIT?