Cache Logistics Trust - Earnings stability with growth to boot (CIMB)

OUTPERFORM Maintained

S$0.97 @07/09/11

Target: S$1.15

REIT

• Earnings stability, high yields and acquisition growth. Cache offers one of the most attractive and defensive yields in our coverage, with CY12 DPU yields of 8.0%. In the event of an economic downturn, a potential flight to yields could provide support for its share price, we believe. Further, we like its earnings stability, low gearing and acquisition pipeline from its strong sponsor, CWT. We maintain our earnings estimates and DDM-based target price of S$1.15 (discount rate 8.6%), anticipating re-rating catalysts from lower financing costs and accretive acquisitions.

• Earnings stability in a downturn. CWT is Cache’s main sponsor and master tenant for the bulk of its portfolio. With triple net master leases and rental escalation for all its warehouses, Cache’s earnings are largely guaranteed.

• Low gearing with no immediate refinancing pressure. Cache has one of the lowest gearing ratios among peers. Near-term refinancing risks are low, as no major refinancing is expected until 2014.

• Growth from acquisitions and lower financing costs. We believe sponsor CWT could monetise one of its warehouses in 2012, offering acquisition opportunities to Cache. We also expect a near-term DPU uplift as management attempts to lower its all-in financing costs.

Earnings stability

Insulation provided by quality portfolio... Cache’s portfolio is fully leased on a longterm (5.1 years weighted average) triple net lease basis with annual rental escalations of 1.5-2%. In addition, its assets can be found in the prime logistics areas of western and eastern Singapore. In the west, Cache holds three assets along Penjuru Road, which is close to the Jurong Port. In the east, Cache owns six assets in three major logistics parks: Airport Logistics Park of Singapore (ALPS) and Changi International LogisPark North and South.

…and quality master lessees. Seven out of Cache’s 10 assets have master leases leased to Southeast Asia’s largest listed warehousing operator, CWT, and CWT’s parent, C&P, a privately-owned leader in Singapore’s logistics industry. While concentration risks may appear high with two major master lessees, we believe Cache’s earnings risks are minimal, as CWT and C&P are market leaders in Singapore’s logistics scene, with quality end-user clients such as Nippon Express and DB Schenker. Cache also has the option to receive payments directly from the endusers in the remote event that CWT and C&P are unable to meet their rental obligations. Lastly, in view of tight warehousing supply conditions in Singapore, we believe it will not be difficult for Cache to secure demand should there be a need to take over direct management. These factors mitigate earnings risks.

Solid financials

Low gearing with no immediate refinancing pressure. In the previous global financial crisis, SREITs’ share prices were pummelled to all-time lows, as REITs are leveraged entities and the market fretted over their ability to refinance during the liquidity crunch. We believe such worries will be unfounded for Cache. With a 30.2% gearing, it has one of the lowest leverage among peers. In addition, refinancing risks are limited, as Cache would only need to refinance the bulk of its debt in 2014.

Growth from acquisitions and lower financing costs Potential acquisitions from CWT in 2012. In our estimation, sponsor CWT could require S$130m-170m for its capex over the next three years and we expect around 60% of its capex needs to fall in 2012. While a net gearing of 0.42x is low for CWT and CWT could leverage up to fund its capex, a potential economic downturn could reduce CWT’s risk appetite. Prudence, then, could lead management to monetise its warehouses to part-fund its capex.

Historically, CWT maintains a net gearing ratio of 23-30%. Assuming management prefers to maintain leverage at 0.42x, we believe CWT could try to fund 60% of its 2012 capex via divestments. In our estimation, CWT would have to raise S$50m-60m internally. This suggests a potential sale of a small asset, of around 300,000 sf. At the moment, CWT owns around eight properties (see our recent note on CWT, “Original earnings base resilient”, dated 6 Sep 11).

In our view, a divestment of Pandan Logistics Hub seems likely. While CWT Logistics Hub 1 also fits the bill of a small divestment, we understand that it is CWT’s headquarters and thus, the possibility of a divestment could be small. Pandan Logistics Hub is under construction and is expected to be completed in 4Q11. In our estimation, CWT would be able to raise around S$63m, based on a cap rate of 8.0%. Going by Cache’s right of first refusal on CWT’s assets, we believe this presents an acquisition opportunity for Cache in 2012.

Acquisition could be fully debt-funded, assuming no other purchases. Cache’s management is comfortable with a 30-35% gearing. Its low gearing of 30.2% suggests sufficient debt headroom to fund any acquisition such as Pandan Logistics Hub, assuming no other major acquisitions till then. Assuming no other acquisitions till then, the acquisition will be accretive, and we expect a DPU enhancement of 4.9%, based on financing costs assumption of 3.5%.

DPU uplift from lower all-in financing charges. Meanwhile, management has recently raised a 5-year medium-term note of S$35m to fund its 22 Loyang Lane acquisition and refinance its revolving credit debt. This note will be issued at 3.5%, lower than Cache’s reported 2Q11 average financing cost of 3.92%. Accounting for the new debt issuance, we estimate Cache’s all-in financing costs at 3.85%. In addition, Cache should be able to take advantage of existing low interest rates to refinance its borrowings. In our estimation, a 25bp drop in its all-in financing charges could amount to a 1.4-1.7% uplift for FY12-13 DPU, providing near-term yield support.

Valuation and recommendation

Earnings stability with growth to boot; maintain Outperform. Cache’s earnings stability and low gearing offer comfort in a potential economic downturn. In addition, its attractive yields have been a major support during the recent market sell-down, we believe. Management’s quest to lower all-in financing charges could also provide nearterm DPU uplift. Lastly, we see a potential acquisition from CWT in 2012, which could provide a major earnings growth driver as well as stock catalyst. We maintain our Outperform rating, earnings estimates and DDM-based target price of S$1.15 (8.6% discount rate).