Category: Property

Given the short-term nature of these leases and the growing demand for self-storage space, management had been able to achieve material rent increases from new and existing tenants. The industry has experienced tremendous growth in the last several years, and we see further societal shifts fueling that growth for years to come, albeit at a more modest pace.

Public Storage has achieved impressive growth over the years, but we do not think management can increase prices indefinitely. The low cost of building and the undifferentiated nature of self-storage facilities allow supply to enter the market and absorb tenants who eventually get priced out of Public Storage units.

Raising Public Storage FVE to $279 on Acquisition of ezStorage and Strong Pandemic Performance

We are increasing our fair value estimate for no-moat Public Storage to $279 from $207 after incorporating the recently announced acquisition of ezStorage for $1.8 billion into our model. The 48 self-storage facilities acquired are almost all high quality in Mid-Atlantic markets with higher-than average barriers to entry and a strong growth outlook. The impact of the company’s stronger-than-anticipated first-quarter results, which led us to increase our short-term internal growth outlook..

Additionally, we now anticipate increased storage facility usage over the next few years as the millennial generation seeks to move from their urban apartments to suburban homes, which could create additional short-term demand as they look for a new home.

Financial Strength

Public Storage’s balance sheet has long been the gold standard among real estate investment trusts light on debt and heavy on progressively cheaper preferred stock, with a good portion of acquisitions and facility developments fueled directly with cash flow from operations. Public Storage’s industry-leading EBITDA coverage ratio separates its balance sheet from its self-storage REIT competitors. Public Storage benefits from a diversified stream of financing, including minority investments from which it receives cash dividends.

Bulls Say

• Public Storage’s commanding lead in supply restricted markets leads to consistent revenue growth.

• Life changes related to the corona virus crisis will increase demand for self-storage facilities.

• Public Storage’s industry-leading balance sheet leaves room for low-cost consolidation opportunities in a fragmented market.

Company Profile

Public Storage owns and operates over 2,500 self-storage facilities in 38 states, with over 150 million net rentable square feet of storage space. Through equity interests, it also has exposure to the European self-storage market through Shurgard Europe and to an additional 29 million net rentable square feet of commercial space in the United States through PS Business Parks.

(Source: Morningstar)

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

The group also recently announced another acquisition, spending AUD 51.2 million to buy the Butler Central Shopping Centre in Western Australia. Purchased on a 6% cap rate, which is about in line with our estimated yield on Charter Hall Retail REIT.

Recent acquisitions and divestments have transformed Charter Hall Retail REIT’s portfolio. AUD 177 million portfolio of shopping centers was sold in fiscal 2020. Then in July 2020, the REIT acquired a stake in a Coles distribution centre with 14 years remaining on the lease, with fixed annual rental uplifts of 2.75%. As at June 30, 2020, Woolworths was the largest tenant, representing 18% of income, but we expect Coles will be the largest tenant by the end of fiscal 2021. Aldi is also likely to rise in our view (currently 2% of income), via store numbers increasing in Charter Hall’s portfolio. And BP now represents about 12% of rental income, from zero a year ago. Wesfarmers will likely decline
Slightly as a result of Target stores closing or converting to Kmarts.

Rent is Charter Hall Retail REIT’s dominant revenue driver. Unlike many other Australian REITs, it does not operate any meaningful funds management business, and is unlikely to do so given funds management opportunities are housed in the head stock Charter Hall.

Financial strength
Charter Hall Retail REIT is in reasonable financial health after raising equity in April and May 2020, bolstering the balance sheet. Gearing reduced from near 40% in December 2019 to 35% in December 2020 (as measured by look-through gearing, which is net debt/assets, including debt obligations in underlying vehicles). The covenant of most concern is over an underlying fund, not the entire REIT. It specifies that gearing within that fund is limited to 55%. The fund is already geared to at 40.5%. That implies that a 25% fall in asset values would see that fund flirting with a breach. This fund represents only a small portion of the REIT’s overall assets, so we estimate leverage problems there could be solved by a modest cash injection into the fund – that should be affordable given manageable gearing at the REIT level of 35% (December 2020).

Bulls Say
• Well over half of revenue comes from tenants that we consider to have a low likelihood of missing rent payments. Combined with long leases on anchor tenants, CQR’s income is relatively resilient.
• Interest rates look set to remain lower for longer, suggesting that the market will maintain low discount rates on property assets that can generate income.
• Good anchor tenants generate foot traffic, and Charter Hall Retail charges rent well below levels in high-end discretionary focused shopping malls, suggesting less vulnerability to e-commerce.

Company profile
Charter Hall Retail REIT, or CQR, owns and manages a portfolio of convenience focused retail properties, including neighborhood and sub regional shopping centers, service stations, and some retail logistics properties. The REIT is managed by Charter Hall, a listed, diversified fund manager and developer, which owns a minority stake in CQR, and frequently partners with it on acquisitions and developments. More than half of rental income comes from major tenants Woolworths, Coles, Wesfarmers, Aldi and BP (the latter occupies service station assets). The portfolio is more seasoned than some convenience rivals, with approximately two thirds of supermarket tenants at or near thresholds for paying turnover-linked rent.

(Source: Morningstar)
General Advice Warning
Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

However, Qube’s strategy to consolidate a fragmented industry should deliver above-market rates of growth and scale benefits. Qube is developing the Moorebank intermodal terminal, located on the Southern Sydney Freight Line, to help alleviate congestion at Port Botany and drive efficiencies in the distribution supply chain. Moorebank, on full completion and ramp-up, should materially contribute to group earnings and deliver a strong competitive advantage for the group’s logistics operations.

Qube’s strategy is to consolidate the fragmented logistics chain surrounding the export and import of containers, bulk products, automobiles, and general cargo, to create a more efficient and cost-effective supply chain. The business has enjoyed some successes to date, though significant scope for industry consolidation remains. Qube to generate robust earnings growth over the long term on acquisitions, developments and organic growth. The domestic port logistics industry has traditionally been very fragmented, highly competitive, and inefficient. Currently, there are more than 250 operators providing port logistics services in one segment of the market.

Qube’s strategy is to provide a broad range of services nationwide, touching multiple segments of the import/export supply chain. Successfully developing its strategic land holdings into inland intermodal terminals should add materially to Qube’s future earnings and support cost advantages to less efficient peers. Qube aims to develop inland rail terminals as an alternative to moving container volumes from port via road. The bulk and general segments are highly fragmented and competitive but Qube is one of the largest players, with operations at 28 city and regional ports. The automotive stevedoring business operates in a duopoly market structure, holding long-term off-ship transportation, processing and storage contracts with major foreign vehicle manufacturers.

Financial Strength

The sale of Moorebank warehouses, Qube will be in strong financial health. Gearing (net debt/net debt plus equity) was 27% in December 2020, slightly up from from 26% in June but below Qube’s 30%-40% long-term target range. It should be in a net cash position after receiving Moorebank sale proceeds, providing ample headroom to fund developments and bolt-on acquisitions. We forecast net debt/EBITDA to fall from 3.8 at June 2020 to be at or below 1 over the medium term assuming the sale of the warehouses goes ahead as planned. Qube’s businesses have delivered steadily increasing operating cash flow in recent years, though operations remain cyclical. Recent growth initiatives should generate strong future cash flow, though a large-scale acquisition or development project may require new equity funding. Qube has significant capital expenditure requirements including Moorebank development. Qube is committed to paying 50%-60% of net operating profit after tax as dividends.

Qube Holding’s Port Logistics Services

• There is significant potential to increase efficiency through vertical integration of port logistics services. Qube will attempt to deliver on this strategy through consolidation and integration.
• The Moorebank Intermodal Terminal should become a key piece of Sydney’s transport infrastructure, driving strong returns for Qube.
• Senior management has a proven track record in the port logistics segment and has demonstrated an ability to generate strong returns for shareholders.

Company Profile

Qube has three main divisions: operating; infrastructure and property; and Patrick. Operating undertakes road/rail transportation of containers to and from port, operation of container parks, customs/quarantine services, warehousing, intermodal terminals, international freight forwarding, domestic stevedoring, and bulk transport. Patrick is the container terminals business acquired from Asciano, and the infrastructure and property division includes tactical land holdings in Sydney.

(Source: Morningstar)

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

We see that as appropriate given gearing was an aggressive 42% as at June 30, 2020. There were some acquisitions on behalf of funds management clients, but these should generate fee revenue for Cromwell without stretching the balance sheet unduly.

We’re now more confident Cromwell’s lease to Qantas is not in jeopardy. We estimate the lease generates rent of AUD 20-35 million per year, which is only a tiny part of Qantas’ approximate AUD 12 billion 2020 cost base. Morningstar views Qantas as able to pay its bills. Furthermore, Qantas itself appears to view the lease as rocksolid because in September 2020 the airline advertised office space at its Mascot headquarters on a sub-lease basis. This suggests to us that Qantas is locked into the lease, and Cromwell will continue to collect rent at least until the lease’s 2032 expiry.

Qantas alone counts for about 15% of Cromwell’s gross rental income. Another 41% comes from federal, NSW, or Queensland government tenants. The landlord code of conduct has been extended generally until the new year, depending on the state. However we don’t view the code of conduct as onerous for Cromwell given SME tenants only represent about 9% of income.

We wouldn’t be surprised to see ARA’s proportional takeover offer price increased given solid performance in Cromwell’s portfolio and a strong market recovery sine the offer was first made. While the offer was only for 29% of each investor’s securities, when combined with ARA’s existing stake, and takeover creep provisions which allow ARA to buy securities on market at certain times, ARA may eventually gain control of Cromwell. The offer price offers no control premium, which is a further reason why we think investors should reject it.

 (Source: Morningstar)

Disclaimer

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

The majority is in the Sydney CBD or fringe (54% by book value), as well as substantial CBD exposure in Melbourne (18%) and Brisbane (13%), and minor other holdings around Australia. The group has a sizable industrial property portfolio (14% of income), and small retail and healthcare property interests. Funds management and property management accounts for about 8% of income, with funds management the group’s fastest growth engine. The group targets a gearing of 30 40%, so financial risk is moderate considering that revenue is underpinned by long leases with fixed or CPI uplifts. Its funds management business is sticky given lock-ups and switching costs (exit penalties, and tax/transaction costs).

Key Investments

• Rental income is underpinned by high-quality assets, relatively long leases, and fixed or CPI-linked escalations. Developments and the funds-management platform can add to growth.

• Very low government bond yields increase the relative attractiveness of Dexus’ yield, but the share price would likely retrace sharply to any unexpected jump in bond yields, or further negative earnings surprises.

• Office supply is increasing and Dexus has material lease expiries in fiscal 2021 and 2022 (especially in Melbourne, 25% in fiscal 2021). The group will likely offer substantial lease incentives to attract tenants.

• Dexus owns a high-grade office property portfolio and a solid industrial portfolio, and it will likely benefit from an ongoing demand for quality property from the likes of pension funds, sovereign wealth funds and other offshore investors.

• Population growth boosts the value of Dexus’ assets with high-quality sites achieving more rent bargaining power, and some low quality sites potentially switching to higher value uses. OLower interest rates could weigh on capitalisation rates, offsetting pressure on rent collections.

• Capitalisation rates are historically low and likely to rise. Even if government bond yields remain low compared with history, property is not a risk-free asset and should be priced with appropriate risk premiums. OProperty may be considered a bond proxy, but it is not a bond. The poor performance of retail property is a reminder that property can be disrupted by technology, as is now occuring with the work-from-home trend undermining office rents.

• Office and industrial property have benefited from several years of tight supply and rents have increased dramatically. COVID-19 is likely to cause that to unwind.

 (Source: Morningstar)

Disclaimer

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

Management is admirably transitioning the company into the digital world, with significant investments in online infrastructure and product, while leveraging its incumbent status and physical reach. Further, the addition of Tatts’ near-monopoly lotteries business should help smooth the earnings volatility, and facilitate stronger cash flow generation. This should provide the company with additional financial firepower to reinvest and strengthen its digital wagering offer.

Key Investment Considerations

• Market infatuation with defensive earnings and yield has propelled Tabcorp’s trading multiple to lofty levels, leaving little margin of safety for investors.

• While there is a degree of resilience to the company’s earnings, their long-term sustainability is clouded by structural factors because of digital disintermediation and proliferating competition.

• The critical investment issue remains Tabcorp’s ability to maximise returns from its dominant (and licence-backed) physical distribution channels while managing customers’ migration online.

• Tabcorp operates three segments. The ostensible spread belies the fact that the wagering (providing betting services) and media (providing racing pictures to complement betting services) division generates more than a third of the group’s earnings.

• Long-life wagering, lotteries and Keno licences furnish Tabcorp with a stable earnings and cash flow profile, underpinning a relatively high dividend payout ratio.

• Tabcorp’s retail exclusivity and extensive brick-andmortar distribution presence place the company in a strong position to migrate its wagering customer base to a multichannel environment.

• While Tabcorp Gaming Solutions is relatively small, it boasts solid growth potential, not just in the core Victorian market, but especially in the New South Wales electronic gaming machine servicing space.

• The company’s multichannel strategy may fail to stem the spillage of its traditional customers to more nimble and innovative online betting operators, diminishing the value of Tabcorp’s vast physical retail network. OA protracted impact of the COVID-19 pandemic could weigh significantly on Tabcorp’s earnings.

• Pressure on Tabcorp from structural headwinds could have a downstream impact on the racing bodies (lower product fees), lead to lower-quality races (because of less prize money), and devolve into a negative economic loop for the whole wagering industry.

 (Source: Morningstar)

Disclaimer

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

In their Best Ideas report, the analysts wrote: “Simon Property Group trades at a steep discount to our fair value estimate. We think the shares have traded down on short-term issues that are already accounted for in our estimates. Investors are worried that the corona-virus will have a dramatic impact on brick-and-mortar retail, which would negatively affect the rents for mall REITs.

Many retailers are likely to declare bankruptcy due to the lack of sales, which will reduce occupancy across Simon’s portfolio.

“However, we believe that Simon’s Class A mall portfolio will recover and show solid growth over the next decade. We recognize that e-commerce will continue to apply significant pressure to brick-and-mortar retail, particularly after the majority of America was forced to do nearly all shopping online for several months. Still, we believe that there will be a continued bifurcation of physical retail performance, with the highest-quality assets continuing to produce strong sales growth and the lower-quality assets experiencing declines in foot traffic and sales.”

The remaining three stocks not in the portfolios are all constituents of the Income Bellwethers watchlist.

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

The weighted average concession life of the portfolio is around 30 years. Under the leadership of Scott Charlton, Transurban has aggressively expanded its portfolio through a combination of acquisitions and greenfield projects. Toll roads have high barriers to entry and benefit from rising traffic volumes and tolls, which increase in line with the consumer price index or higher. Traffic volumes are recovering strongly from COVID-19 lockdowns. Nonetheless, distributions fell 20% in fiscal 2020 and are not expected to fully recover until fiscal 2023.

Key Considerations

• Cash flow is typically defensive and increases strongly, as solid revenue growth is leveraged over a fixed cost base. Profitability benefited from falling debt costs because of low global bond rates, but we think rates are likely to trend higher. Coronavirus remains a headwind.

• The core Australian roads generate strong returns on initial investments. Upgrades, such as widening these assets, should also generate good risk-adjusted returns.

• Finite life concessions require the firm to add new roads to extend its existence, introducing high forecasting risk for developments and leading to the need for ongoing equity issues.

• Core Australian roads generate defensive revenue that grows with traffic volumes and toll price increases, which are at a minimum pegged to inflation.

• Solid revenue growth and a high fixed-cost base translate to strong cash flow and distribution growth.

• Transurban owns high-quality infrastructure assets with limited regulatory risk.

• There are attractive organic growth opportunities, such as potential widening of roads.

• Building and acquiring new roads can destroy equity value as a result of overbidding and overly optimistic traffic forecasts.

• Transurban faces risk from the coronavirus outbreak, given high financial leverage coupled with a major hit to revenues as countries go into lockdown to prevent the spread of the disease.

• Bond yields are likely to trend higher, detracting from profitability and the attractiveness of its distribution yield.

• Transurban is expanding aggressively late in the cycle, increasing risk.

 (Source: Morningstar)

Disclaimer

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

The strategy is to be vertically integrated, enabling Lendlease to generate income from each stage of the process: deal structuring and financing, value-add via planning approvals, developer fees, construction fees, and fund management fees if the assets are ultimately purchased by its property management platform.This strategy appears to be working well, with Lendlease able to leverage its successful track record in Australian projects into secure similar large-scale urban renewal projects globally. While Lendlease has managed development risk to date by securing presales and utilising third-party capital, shareholders could be exposed to capital losses if interest rates spike, or a sustained economic downturn triggers falls in the value of property assets.

Key Investment Considerations

• Disclosure is opaque, making it difficult to see financial performance at a divisional level. High business complexity and long-dated earnings potential makes it difficult to estimate fair value precisely.

• Construction is inherently cyclical and competition is fierce. Consequently, margin on large projects are thin, which means a firm can suffer large losses if it doesn’t understand or correctly price construction and design risks.

• Earnings growth in residential development has been robust in recent years, but high Australian dwelling prices and rising supply will make this very difficult to sustain.

• Lendlease Group is a diversified property and development empire. Operations have condensed from 40 countries in 2009 to less than 20 today, with key operational regions being Australia, North America, United Kingdom Like other diversified property owners and developers, Lendlease is increasingly using third-party capital on developments. This reduces pressure on its balance sheet, facilitates higher return on equity and reduces development risk, but the trade-off is lower potential development profits.

• The Lendlease pipeline of major projects has expanded, but most are in an early phase of delivery, meaning the group has yet to reap full benefits from its vertically integrated businesses.

• A solid balance sheet post raising equity in April 2020, and good access to third-party capital from its fundsmanagement platform mean that Lendlease likely benefits from a development-funding cost that is lower than those of most competitors.

• With government balance sheets increasingly strained, and there being a desire to promote economic activity via construction, the public sector will return to private-public partnership models to fund long-term infrastructure, and other stimulus measures. Lendlease is well positioned to participate in this growth because of its expanding footprint and capable management.

• With about a fifth of EBITDA derived from the construction division, a substantial portion of group operating earnings is nonrecurring. As such, a steady stream of work needs to be secured to maintain earnings. This is looking challenging, given constraints on the government budget, corporate constraints, and falling commodity prices.

• Earnings in recent years were propped up by rising asset values and central bank cutting interest rates. Sustained and large falls in asset values could ensue if coronavirus shutdowns last longer than expected or recur, and this would hurt earnings, as asset values will decline and borrowing costs will increase materially.

• Lendlease maintains a significant amount of capital in development projects. With property prices elevated across the globe, Lendlease has high exposure to a slump in residential and commercial property prices.

 (Source: Morningstar)

Disclaimer

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

Further out, though, we expect earnings to moderate due to affordability constraints, weak wage growth, and a smaller pipeline. We expect Mirvac to gain market share amid tough conditions, due to its scale and land bank. The group’s commercial property portfolio faces uncertainty from COVID 19. The scorching pace of rental increases seen in office markets in 2019 looks like it will unwind. Meanwhile, we expect existing pressures on retail to continue and likely accelerate.

Key Investment Considerations

• Because of near-full occupancy and long leases with rental uplifts, medium-term earnings from commercial property are relatively secure. But further out, we expect pedestrian rental growth.

• Though employees will eventually return to offices, supply and caution from businesses portend a fall in office rents and lacklustre growth thereafter.

• Very low government bond yields increase the relative attractiveness of Mirvac’s income stream, but the share price could retrace sharply to any unexpected jump in bond yields, a prolonged economic downturn, or further negative earnings surprises.

• A resumption of inbound immigration should support the value of Mirvac’s assets and underpin the viability of major development projects that the group has in its pipeline.

• Mirvac has been shifting toward industrial exposure, a sector that was less affected by the coronavirus, and could benefit as businesses seek to invest in local supply chains and e-commerce capabilities.

• Demand could continue for quality real estate from the likes of pension funds, sovereign wealth funds, and other offshore investors, especially as the Australian economy has dealt with the coronavirus health crisis better than some, which could allow a faster resumption of business activity.

• Mirvac has heavy exposure to retail department stores, one of the hardest-hit segments in the entire property space.

• Capitalisation rates on property are unsustainably low. While government bond yields are likely to remain low compared with history, property is not a risk-free asset and should be priced with appropriate risk premiums.

• Office and industrial rents increased dramatically but are expected to unwind due to coronavirus lockdowns and economic weakness, particularly for office.

 (Source: Morningstar)

Disclaimer

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.