Viva Industrial Trust (‘Viva’) conducted its FY2017 Annual General Meeting (‘AGM’) on 20 April 2018 at Viva Business Park (‘VBP’). Heartland Boy attended the event as a unitholder of Viva Industrial Trust. The mood was jovial and light-hearted as unitholders present were generally contented and satisfied with the performance of the Manager for the year. In addition, the Board claimed at the start of the AGM that it is not able to respond to queries regarding the proposed merger with ESR-REIT. Here are some of the material questions raised during the meeting, together with personal insights from Heartland Boy regarding some of these issues.
Question 1: “Please provide an update with regards to the tax transparency treatment on income support from IRAS.”
Manager: “We have engaged external advisors and submitted our views to IRAS in April 2018. We are fairly confident that we will be able to obtain tax transparency on income support that came in from January 2017 onwards. For income support before January 2017, we are not as confident. Please be assured that as the sum concerned is significant, we will pursue this wholeheartedly so that our unitholders will benefit from a positive outcome.”
Heartland Boy’s Analysis
Rental support came in at $14.7 million in 2017. Applying a corporate tax rate of 17%, unitholders can potentially look at additional distributable income of $2.5 million. (gross before deduction of external advisors’ fees) This is indeed substantial as it makes up 3.4% of FY2017 distributable income.
Question 2: “Please provide an update on the land lease tenures for Jackson Square and Viva Business Park.”
Manager: “The transfer of industrial properties from HDB to JTC only took effect from 1 January 2018. Please be assured that we will engage in proactive discussions with JTC. In addition, we are optimistic that any financing raised (whether debt or equity) to pay for the top-up in leases shall lead to a more than proportionate increase in NAV.”
Question 3: “Please explain the situation regarding UE BizHub since the rental support will come off in November 2018.”
Manager: “The income support arrangement was there initially to establish a fair market value for the property when Viva bought it during its IPO. Changi Business Park has an overall occupancy of 91%. Changi City commands the highest asking rent of approx. $5.50 psf per month. The asking rent for UE BizHub is $5 psfpm. The situation is that we have 3 units ranging from 14,000 to 20,000 sqft each that are currently vacant. We are in active discussions with several prospects who would like to lease such bulk spaces. In addition, we are also optimistic that we will experience positive rental reversions on the existing leases to offset the loss in income support.”
For the definition of income support, refer to this REIT’s glossary from Heartland Boy.
Heartland Boy’s Analysis
The expiring income support from both UE BizHub and Jackson Square is definitely an albatross hanging around the neck of VIT. Heartland Boy’s view is that besides the short land leases left for Viva Business Park and Jackson Square, this is the other major reason why VIT still trades at a discount to its peers.
One year on since publishing an initiation report on Viva Industrial Trust on his blog, it is timely for Heartland Boy to review his original investment thesis. He decided to analyse further to estimate the potential loss of income once these respective arrangements come off. This is a step-by-step personal assessment by Heartland Boy. Note that these are purely estimates and cannot be verified for accuracy. Whenever in doubt, Heartland Boy tends to be conservative and err on the side of caution.
1. Establish the income support drawn
In 4Q2017, the total income support drawn was $3,039,000. A simple extrapolation shows that the annualised amount would be $12.1 million. This was an additional benefit to unitholders which would disappear once the rental support payments expire.
2. Look for additional revenue sources
A) Some of the master lease agreements that Viva executed have in-built rental escalations which are coincidentally timed at around November:
- $0.108 million from 11 Ubi Road
- $0.048 million from Home-Fix Building
- $0.044 million from Jackson Design Hub
- $0.099 million from Mauser Singapore
- $1.11 million from UE BizHub (Hotel component) – renewal subject to JTC approval
Annually, this translates to $1.41 million in additional revenue or more importantly, S$986,000 of distributable income. (assume distributable income to revenue ratio of 70%)
B) Contribution from White Space at Viva Business Park
The white space achieved occupancy of 96% but only 87% contributed in 3Q2017. This could be due to reasons such as rent-free period accorded to tenants as they were fitting out their leased spaces. From 1Q2018, Heartland Boy expects full contribution from the committed tenants at Viva Business Park. This should bring in additional distributable income of $958,400 per annum by assuming a rental rate of $7 psfpm.
C) Positive rental reversion from expiring leases in UE BizHub and Viva Business Park
As stated by consultants and as reflected in Viva Industrial Trust’s annual report, the supply and demand dynamics for business parks remains largely positive. There is minimal upcoming supply and landlord should hold the upper-hand when it comes to rental negotiations. In 2018, 16% of Viva’s underlying gross rental income will expire, of which 13% are directly as a result of existing leases at VBP and UE BizHub. Heartland Boy estimates that these expiring leases will experience an average positive rental reversion of 4%. This should lead to additional distributable income of $725k p.a.
D) Increased occupancy at Jackson Square, UE BizHub and Viva Business Park
The occupancy of Jackson Square, VBP and UE BizHub are at 86%, 79% and 90% respectively. There is still a lot of space to be leased out. Assuming a 5% increase in occupancy in each for the buildings, the additional distributable income could be $2.74 million per annum. The rents assumed are $2.4 (Jackson Square), $3.5 (VBP) and $4.5 (UE Biz Hub) psfpm respectively.
3) Analyse the impact on DPU
All in, a conservative estimate of the additional distributable income in 2018 from the sources listed above is approximately $5.4 million. This implies that there is still a potential shortfall of $6.7 million when the income support comes off in November 2018. The impact of DPU would be a fall of 0.00692. Assuming a share price of 89 cents, the trailing FY2017 dividend yield of 0.07472 (with income support) would originally be 8.4%. Under Heartland Boy’s worst-case scenario, the yield would be 7.6% without income support.
If you are keen to understand the concept of income support, you may refer to Heartland Boy’s article on “How To Invest In The Best Singapore REITs”.
Do note that Heartland Boy remains a vested shareholder as at 6 May 2018 when this article was published. He did trim half of his shareholdings although that was owing to uncertainty from the proposed merger with ESR-REIT.