Soilbuild Business Space REIT: NK Ingredients tenancy turns sour November 9, 2017

PSR Recommendation: REDUCEStatus: MaintainedTarget Price: SGD0.61
  • NK Ingredients fails to top-up insurance guarantee and Trustee has called for the balance of the guarantee
  • Negative impact from FY18 onwards
  • KTL Offshore could be next to default

What is the news?

The Trustee of Soilbuild Business Space REIT (SBREIT) has called for the $1.69 mn balance of the NK Ingredients insurance guarantee. The Trustee had previously called for and received $3.42 mn arising from rental arrears. The tenant then had seven days to top-up the insurance guarantee after it was drawn down on 10 October. The tenant failed to top-up after the Trustee demanded for the top-up on 16 October.

How do we view this?

  • No impact to our FY17e forecast

The $1.69 mn balance insurance guarantee is approximately equal to four months of rent and we estimate it to be adequate until January 2018.

  • Likely for the lease to be terminated early

We believe that to be so, since the Tenant is unable to furnish an insurance guarantee. The existing master lease is actually for 15 years, commencing from the acquisition date on 15 February 2013.

  • Significant impact to portfolio income visibility from FY18e onwards

On a full year basis, NK Ingredients accounted for 8.9% of portfolio gross rental income (GRI) and 6.8% of net property income (NPI) in FY16. For the most recent 9M17, NK Ingredients contributed 5.9% of portfolio GRI. We believe that marketing of the property at 2 Pioneer Sector 1 will commence soon. Other than impact to the GRI, we expect property expenses to add to the burden for the duration it remains vacant and if the property is converted to a multi-tenancy. We currently assume the property to remain vacant for four months after January 2018. Property valuation at the end of this year could possibly be negatively impacted as well.

  • 72 Loyang Way already dragging portfolio down; KTL Offshore could be next

72 Loyang Way is only 27.0% occupied as at 3Q17, and there is difficulty in back-filling the property. The difficulty arises from not only having to secure a tenant specifically from the Offshore Marine sector, but also requiring up to 148,500 sq ft of space. Meanwhile, KTL Offshore Pte Ltd (tenant at 61 & 71 Tuas Bay Drive), which contributed 5.9%/5.1% of FY16 GRI/NPI, is now in arrears. Its parent company, KTL Global Limited was flagged by its Independent Auditor, doubting the Group’s ability to continue as a going concern. More recently, the Group is also reshuffling its top management.

Outlook

The outlook is negative due to multiple tenant defaults in the portfolio – Technics Offshore Engineering, NK Ingredients and KTL Offshore. Income visibility from NK Ingredients has been impaired, and we think there is a high possibility that KTL Offshore could be next.

Maintain Reduce; lower target price of S$0.61 (previously $0.64)

No changes to our FY17e estimates, but lowered our FY18e GRI/DPU estimates by 4.4%/7.0% from previous. We would have to make further cuts to our estimates, if a default by KTL Offshore materialises. Our target price represents an implied FY17e P/NAV multiple of 0.86x.

Relative valuation

SBREIT is relatively undervalued to the peer average P/NAV multiple, and has a higher yield compared to the peer average. We believe the higher yield compared to peers is a reflection of the risk of the portfolio going forward.

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About the author

Profile photo of Richard Leow

Richard Leow
Investment Analyst
Phillip Securities Research Pte Ltd

Richard covers the Transport Sector and Industrial REITs. He graduated with a Master of Science in Applied Finance from the Singapore Management University. He holds the CFTe and FRM certifications and is a CFA charterholder.

He was ranked #2 Top Stock Picker for Resources & Infrastructure in the 2016 Thomson Reuters Analyst Awards.

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