The Edge has more coverage on REITs restructuring which we talk about in June. (See article here)
In the last article, it talks about having REITs pegging their fees to performance of share price and dividend per share, which Cambridge, Starhill Global, Ascendas REIT and Aims Amp is doing.
This week’s focus centers on the opinion of Patrick Lecomte, the executive director of ESSEC Business School’s Advance Master in Financial Techniques and Financial Engineering.
Two things that concern international investors about Singapore REITs
There are two things that most concern international investors about S-REITs.
The first is whether the fees that REITs pay their external managers properly incentivize the managers to create value for investors.
The other bugbear is that S-REITs are often backed by a major property companies and there are frequent “related party transactions” between them.
It is a huge topic for foreign investors in Asia because they think it is a way to get some benefits for the company on the back of minority unit holders in the REIT
R-Index ranking of S REIT’s corporate governance
Lecomte ranked the REITs from a score of –11 to 88. Before 2009, every single S-REIT scored less than the midpoint until 2009. Only in 2010 did some of the companies reached mid point.
The top 6 ranked in 2010 was
- CapitaCommercial Trust
- CapitaMall Trust
- Ascott Residence Trust
- Aims Amp Capital Industrial REIT
- CDL Hospitality Trust
- Frasers Centerpoint Trust
Apparently, a lot of the REIT managers were not quite happy with the ranking.
The R-index is based on a sound methodology categorized into 8 areas:
- fees (25%)
- board matters (19%)
- related party transactions (16%)
- REIT organization (15%)
- renumeration matters (8%)
- audit committee (6%)
- gearing (6%)
- ownership (5%)
Disproving that external managers related to their sponsors have poor disclosures
Close ties between manager and sponsor have made them more careful about how they operate and more willing to make disclosures.
Disproving that REITs with assets abroad have been less transparent
CapitaRetail China Trust is among the most transparent of the S-REITs. All its fees are reported in its quarterly results, and it provides investors with extensive information about retailing and shopping trends in China.
How does the R-Index affect stock price?
Lecomte found that there was little correlation between the scores and the S-REITs operating performance. But the scores did make a difference to their stock price performance.
S-REITs with higher corporate governance scores deliver stock price performances that were 1.6% higher per year than S-REITs with lower corporate governance.
Widespread adoption of these standards would make Singapore an attractive market for REITs to list, further entrenching its leading position in the region.
Why he thinks it is better to tie fees to DPU or stock price
Most REITs pay a base fee linked to the size of their portfolio and a performance fee tied to anything from its revenue or net property income to its distribution per unit or stock price performance.
The overall fee structure tends to be overwhelmingly driven by the size of the portfolio more than anything else.
“As a unit holder, do you care about deposited property? Does it impact your return?”
In his view, REITs should have a fee structure heavily driven by their DPUs rather than the size of their portfolios.
The managers think in terms of property, the unit holder don’t think like that.
Eng Seat Moey, managing director and head of asset backed structured products at DBS Groups concurs.
“Have a performance fee, but what do you peg it to? Is gross revenue enough? Not enough. NPI? Not enough, because NPI doesn’t take into account your capital structure. You should use distributable income”
Fine Tuning Fees
Base fee should cover costs and continue with their work, it shouldn’t be allowed to inflate in lock step with the size of the REIT’s portfolio.
Eng also recommends that REITs relook the property management fees they charge to ensure that they are consistent with kinds of assets being managed. Managing warehouses and offices is less costly and requires less effort than running a shopping mall with heavy foot traffic.
Eng and Lecomte are highly critical of acquisition fees amounting to 1%.
“Acquisitions are highly controversial. When you think in terms of a normal company, does it get fees when it buys and sells business or proprties? No”
“REIT managers argue they are doing the research on the property but isn’t this part of running the business? The way you should be rewarded is if you are creating value for your shareholders. There is no way you can justify your fees”
Eng said that in the annual report the break down of fees should be made clearer.
“Put all the acquisitions for the year together and disclose the acquisitions fee for the year, since some do many acquistions. Then group al the recurring fees for the year seperately and break down any fees charges by the manager for development projects in which the REIT is invested.”
Ascendas REIT reduced its property management fee through an EGM and aligned its leasing fee compensation with longer leases.
Ascott Residence Trust approved a transaction, wavied its 1% fee for the acquistion of the redeveloped property in 2017.
Internally versus Externally managed REITs
Hong Kong fund manager Victor Yeung has this to say about internal versus external:
“There is strong evidence that internally advised REITs are stronger.”
“The share holders want a per share return. By contrast an external managers are more likely to pursue asset growth rather than share holder returns.”
They buy something expensive and are unwilling to sell under performers.
“In Australia, you have REITs buying back shares in the last two years. Share buybacks only work for the manager if they are evaluated on a total shareholder return basis because the portfolio would have to shrink if there is a share buyback, as the manager would have to sell weaker buildings to raise cash. That is why we think an internally advised structure is better. It allows the manager to manage the REIT on a total shareholder return basis.”
Lecomte seems to think other wise.
Singapore is a small market and the developer sponsors have disproportionate access to funding as well as assets. The market is aware of it. Usually, developer sponsored REITs tend to perform better during IPOs because investors are aware these REITs have access to property and support.
Developer sponsors have proven themselves willing to support their REITs during the global financial crisis in 2008/2009 when credit market froze up.