Sunday, 21 February 2021

Will ARA US HT Carry Out a Rights Issue?

The financial reporting period for REITs has almost come to a close. One of my biggest worries in the COVID-19 fallout is the devaluation of assets held by REITs, which could lead to their aggregate leverage ratios rising above the regulatory limit and needing to carry out massive rights issues. So far, this worry has not materialised. The 2 REITs that had to carry out massive rights issues are Lippo Malls and First Reit, both of which are related to financial difficulties at their sponsors, Lippo Karawaci. 

Among the various REIT asset classes, hospitality trusts (HTs) are at most risks because international tourism has largely been decimated by border closures to control the spread of COVID-19. Both occupancy and room rates took a dive, resulting in significantly reduced revenue. Ancilliary facilities like restaurants, banquet halls and convention rooms, etc. did no better as governments imposed lockdowns and stringent safe distancing measures. To survive, some hotels serve as quarantine centres for visitors and residents returning from abroad. Nevertheless, in terms of asset devaluation, the HTs that have announced full year results have not performed too badly, with the exception of Eagle HT, whose troubles are widely known. The table below shows the devaluation that the HTs had to take in their full-year financial results (for Eagle HT, the results are for 3Q2020).

Counter Devaluation Properties % Devaluation
Ascott $379,092 $6,096,138 6.2%
CDL HT $185,523 $2,513,235 7.4%
Eagle $534,234 $1,267,480 42.1%
Far East HT $121,219 $2,645,700 4.6%
Frasers HT $145,985 $2,330,332 6.3%
Average

13.3%
Median

6.3%

Excluding Eagle HT, asset devaluation ranges from 4.6% for Far East HT to 7.4% for CDL HT. One reason for the lower asset devaluation for Far East HT is because all its hotels and serviced residences are under master leases whereas the other HTs have management contracts and franchises in addition to master leases. In a master lease, the owner (i.e. HT) leases the hotel to an operator in return for a pre-defined fixed or variable rent. In a management contract, the owner engages an operator to run the hotel and receives the profit/loss from hotel operations. In a franchise, the owner runs the hotel using the franchisor's brand and receives the profit/loss from hotel operations. Thus, when the hospitality industry is in a recession, master leases will be less impacted. See Not All Hospitality Trusts Are Created Equal for more details.

The remaining HT that has not reported its full-year financial results is ARA US HT. It is due to report results this coming Wednesday, before market opens. How much will its asset devaluation be, and will it be required to carry out a rights issue?

As at Sep 2020, its aggregate leverage ratio is 43.0%. A 14% devaluation will bring this ratio to the regulatory limit of 50%. It is already in breach of loan covenants but has obtained a 12-month waiver from the banks from Apr 2020 till Mar 2021.

Not only that, its cash balance is also running low. As at Sep 2020, its cash balance is only USD19.6M. This is a drop from USD45.2M in Dec 2019, USD22.0M in Mar 2020 and USD21.5M in Jun 2020. On 18 Dec 2020, it announced that it had obtained USD10.0M in unsecured revolving credit facilities to partially refinance operating expenses. 

Will ARA US HT carry out a rights issue? Considering the potential asset devaluation, low cash balance and breach of loan covenants, my opinion is that it will. 


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