Treasure Chest | Mar 04 2020
Speculative interest in Viva Energy REIT has increased and brokers assess the earnings outlook remains particularly attractive.
-Attractive long lease duration and fixed rental growth
-Tenant concentration risks are high
-Charter Hall companies enter the ring
By Eva Brocklehurst
Service station owner Viva Energy REIT ((VVR)) is expected to appeal to income investors in an increasingly volatile market, and speculative interest has ramped up with the exit of a major shareholder.
The company, for 2020, has guided to distributable earnings growth of 3-3.75%. Goldman Sachs finds the earnings outlook attractive because of the long duration of the company's leases and the fixed rental growth.
There are also opportunities for acquisitions. Viva Energy REIT acquired 15 assets in 2019, for $95m, and for 2020 there is a target of $100m, of which $20m has already been outlaid. Ord Minnett assumes $60m in acquisitions per annum in 2021-23 and calculates above-average growth in earnings per share of 5% over the next three years.
There is also minimal capital expenditure on maintenance required, because of the weighting to triple net lease structures (where tenants pay R/E taxes, insurance and maintenance costs), a major reason why Ord Minnett likes the stock, along with the fixed rental growth.
Goldman Sachs expects a compound earnings growth rate of 3.9% over the next three years, which should drive cash flow. The broker, not one of the seven stockbrokers monitored daily on the FNArena database has a $2.92 target and upgrades to Buy from Neutral.
The portfolio is now valued at $2.65bn across 469 service stations and the weighted average lease expiry is more than 11 years. Moelis, also not one of the seven, has a Hold rating and target price of $2.83, which equates to a 5% implied capitalisation rate (the ratio of income to the asset value) on the portfolio.
The broker was surprised that there was only three basis points of capitalisation rate compression on the back of one third of the portfolio being independently revalued. This implies that valuers are yet to factor in the 7-Eleven portfolio trade and the BP portfolio sale, both of which occurred late in 2019.
Recent transactions surrounding service stations should be supportive, Goldman Sachs points out, as this is a highly fragmented market. There are around 7500 across Australia, with the company owning just 6% or thereabouts.
The broker also assesses the sensitivity to movements in the 10-year Australian government bond yield has become less pronounced. Despite any prospect of the security moving about because of bond rates, Morgans highlights the attractive distribution yield of 5.2%, paid half yearly.
The company does have tenant concentration risks as it derives revenue largely from one tenant, that being Viva Energy Group ((VEA)). The latter is exposed to volatility in oil prices, refining margins and economic cycles. Any decline in profitability could affect the stability of rental income.
Adding further complexity, VEA sold its 35.5% interest in Viva Energy REIT recently. This means Viva Energy REIT will need to seek approval from its lenders that the repayment of debt facilities will not be called, although Morgan Stanley notes the Baa1 credit rating provides options in the bank and non-bank markets.
The broker has also pointed out no announcement has been made on management rights for the service stations, which currently reside with VEA. The sale of the VEA stake, of which 10% went to Charter Hall ((CHC)) related companies, Moelis contends, puts Viva Energy REIT in play as a likely target.
Brokers suspect Charter Hall et al are unlikely to remain passive investors. Ord Minnett notes these businesses have been very active in the asset class, having acquired $1.7bn in BP service stations.
FNArena's database has two Hold ratings and one Sell (Morgan Stanley). The consensus target is $2.72, signalling -0.2% downside to the last share price. The dividend yield on FY20 and FY21 forecasts is 5.5% and 5.8% respectively.
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