Source: Business Times – S-Reits face risks from debt reliance: Fitch
SINGAPORE real estate investment trusts (S-Reits) are exposing themselves to various risks as they rely more and more on debt financing, a trend that is likely to continue this year, according to Fitch Ratings.
The uncertainties include refinancing risk and exposure to interest-rate shocks, while the increasing use of debt in S-Reits’ funding mixes stems from low interest rates and demand for dividend distribution amid falling asset yields, Fitch said in a report released yesterday.
“The availability of low-cost debt capital has led to the increasing use of debt to fund asset acquisitions, new developments, asset improvement programmes and unitholder payments,” it said.
This trend is likely to continue this year, and “competition for assets that results from the use of leverage will put downward pressure on underlying asset yields”, Fitch noted.
S-Reits have benefited from falling short-term interest rates in terms of funding costs over the past six years, but they may face issues with covering debt payments if rates normalise.
Reits here generally have a weak liquidity profile because of a reliance on short-term debt, Fitch pointed out, citing as a reason the short-dated maturity of leases on commercial property, which limits funding options.
“In the event of a sudden move to higher interest rates, the gap between asset yields and interest rates would widen owing to the much slower pace at which asset yields are prone to self-correct,” it added.
If interest rates do go up, S-Reits can switch to secured borrowings or securitisation as most of their assets are unencumbered. They could also dispose of assets or raise equity to cover fixed charges.
There are also broader risks for S-Reits. The pace of supply is outstripping demand for space, and a threat of higher vacancy rates looms as a result.
“Fitch expects this trend to accelerate in 2013 and to therefore increase the exposure of the S-Reit sector to a sustained macroeconomic downturn.”
That said, S-Reits are still a fairly resilient asset class, Fitch believes.
It expects revenues to grow across all segments of the S-Reit sector this year. As for profitability – measured by net property income (NPI) and earnings before interest, taxes, depreciation, amortisation, and restructuring or rent costs (Ebitdar) – Fitch expects fairly stable NPI but a slight decline in Ebitdar.
“The revenues and profitability of the S-Reit sector are underpinned by the strong economic fundamentals of Singapore,” it said, pointing to S-Reits’ higher revenues and margins during the 2008-2009 global financial crisis, as testament to their robust and defensive earnings profile.