When the word “REITs” is mentioned, most investors will think of them as stable, consistent dividend vehicles.
This assumption is true to an extent, as the main purpose of REITs is to provide a stable source of dividend flow from consistent rental income enjoyed by the REIT.
After all, REITs are mandated to pay out at least 90% of their distributable income to enjoy tax exemptions.
With only 10% of net profit retained, REITs appear to have little wiggle room for reinvestment for growth.
In reality, however, many REITs have, over the years, enjoyed consistent and steady growth in both their portfolio of properties, as well as their distribution per unit (DPU).
As such, investors in these REITs can enjoy both capital gains and rising dividends.
The trick is to find the right REITs that can grow.
With that in mind, here are three methods that REITs make use of to grow their DPU over time.
REITs consist of a portfolio of real estate assets, and the REIT manager may, from time to time, engage in asset enhancement initiatives (AEI) to spruce up certain properties within it.
AEI can take many forms, and a variety of REITs including hospitality, retail and industrial may undertake them.
Enhancements could involve the addition of an atrium to a lobby, sprucing up the façade of a mall, or renovating certain areas of an industrial property to maximise space usage.
The purpose of such AEI is to generate higher income from existing space, while also possibly freeing up more space or optimising it for better efficiency.
A property that has undergone AEI can also be better marketed to tenants to yield higher rental rates, thereby bumping up the rental income for the REIT, all things being equal.
Some examples of AEI include those announced by ESR-REIT (SGX: J91U) and Sabana REIT (SGX: M1GU).
ESR-REIT will conduct AEI on two existing properties in its portfolio, 7000 Ang Mo Kio Avenue 5, and UE BizHub EAST.
For the former, the REIT manager plans to utilise the untapped plot ratio to create new development gross floor area, while for the latter, rejuvenation works will be executed to attract quality tenants.
For Sabana REIT, it will undertake AEI on its largest property, New Tech Park. Phase 1 will increase the plot ratio from 1.95 times to 2.05 times, while Phase 2 will turn the canteen into a food court.
The term “rent reversion” refers to the increase or decrease in rental contracts renewed with tenants.
If the reversion is positive, it is a good sign for the REIT as it means that rental contracts are renewed at higher rates, thereby increasing rental income from the same tenant.
As land is scarce in Singapore, REITs with Singapore properties have mostly witnessed positive reversions over the years.
Frasers Centrepoint Trust (SGX: J69U), a retail REIT, reported portfolio average rental reversion of 5.2% for its second-quarter fiscal year 2020 results.
And Mapletree Commercial Trust (SGX: N2IU) achieved 5% portfolio rental reversion for the full year ended 31 March 2020, though the increase was mainly driven by the retail component rather than the business parks segment.
However, not all REITs experience positive rental reversions. ARA Logos Logistics Trust (SGX: K2LU) reported a -0.1% rental reversion in its first-quarter 2020 earnings report.
The third method a REIT can use to increase its DPU is through acquisitions.
Acquisitions are an effective way for a REIT to quickly scale up its portfolio and its DPU.
However, investors need to comb through the acquisition announcement to make sure that the acquisition is DPU-accretive, and not dilutive.
As acquisitions are usually funded by either debt or equity (or sometimes, a combination), there is a chance that the issued share count may increase.
The idea is for the rise in the DPU to more than surpass the increase in the issued share capital base.
When this happens, unitholders will enjoy an overall increase in DPU arising from the acquisition.
A recent acquisition by Mapletree Industrial Trust (SGX: ME8U) involved the acquisition of the remaining 60% interest in 14 data centres in the US.
The acquisition was projected to increase pro-forma DPU from S$0.1224 to S$0.1266, for an increase of 3.4%.
With share prices battered to multi-year lows, many attractive investment opportunities have emerged. In a special FREE report, we show you 3 stocks that we think will be suitable for our portfolio. Simply click here to scoop up your FREE copy… before the next stock market rally.
Disclaimer: Royston Yang does not own shares in any of the companies mentioned.