Australia | Aug 06 2021
This story features BWP TRUST, and other companies. For more info SHARE ANALYSIS: BWP
The prospect that distributions from BWP Trust will remain flat for the next few years will weigh on investor sentiment and the way forward is likely to come from acquisitions
-Investor sentiment likely to be impacted by a lack of distribution growth
-Repositioning assets as Bunnings vacates likely to overhang the stock
-Acquisitions are key to a return to growth for BWP Trust
By Eva Brocklehurst
Earnings growth remains elusive for BWP Trust ((BWP)) despite comparatively less impact from the pandemic and a low interest rate environment. As Morgan Stanley explains, the business is traditionally an asset-heavy rent-collecting A-REIT and now has to deal with Bunnings ((WES)) vacating around a couple of sites per year.
The weighted average lease expiry (WALE) is 4.2 years with 11% expiring in FY22. This highlights a portfolio that is more asset-management intensive than traditionally the case, Ord Minnett notes.
The broker continues to believe the core Bunnings assets are conservatively valued relative to transaction data and many will benefit from the re-rating of infill industrial assets, although this is largely reflected in the implied 4.8% capitalisation rate.
Around 99.6% of rent was collected in FY21 and the distribution was flat at 18.29c per security in FY21, and a similar outcome is expected in FY22. Furthermore, distributable profit of $117.5m in FY21 was supported by a $3.5m contribution from capital profits.
This pushes the business to become more assertive in obtaining income. While funding distributions from capital profits is not of great concern in itself, as the balance sheet is solid, Moelis suspects the fact earnings and distributions are unlikely to grow will affect investor sentiment.
Morgan Stanley estimates there may be no growth in distributions until FY24 when underlying earnings can fully support payments to shareholders. Even then there are downside risks relating to the lease expiries.
BWP Trust has hired two development managers, which the broker asserts is a large undertaking for a traditionally passive A-REIT. Around $11m of developments were completed at two assets during the year which resulted in new 10-year leases. New tenants have been secured across recently-vacated sites, Cairns and Belmont, yet the challenge is 9-10 sites have leases expiring each year to FY24.
Like-for-like rental growth was1.6% in FY21, the lowest level since FY12. Market rent reviews totalled 13 during the year and resulted in a -20 basis points reduction in rent across these assets. There are two reviews still outstanding from FY20 and a further 11 from FY21 that are unresolved and subject to negotiation.
BWP Trust realised $30.5m from the sale of two properties and a further nine are being considered for alternative use. The recently-refurbished Cairns property is fully leased as a film studio for five years while Belmont North is now a vaccination hub and Midland a car dealership. Asset upgrades in FY22 are likely at Lismore and Coburg.
The impact of Bunnings vacating stores and whether BWP Trust sells or re-positions the assets will overhang the stock for some time and Moelis finds it hard to envisage a return to earnings growth until FY23.
An increase in the CPI might then contribute to stronger like-for-like growth and there will be fewer Bunnings stores subject to transformation. UBS agrees BWP Trust may benefit from a temporary pick up in inflation, as around 53% of its leases are tied to the CPI.
Yet if the CPI remains low and the outlook for interest rates softens then there will be little growth and an ever-decreasing WALE, consequently increasing the risk profile. Occupancy is 97.8% and is expected to remain under pressure, as lease expiries average 10% for the next five years.
UBS assumes one-in-six leases will not renew. Therefore, upside will stem from better lease renewals or the successful re-positioning of assets through development. Nevertheless, the broker believes the yield on costs, which ranges from 4.0-5.5%, and the returns rate of just 7-8%, does not compensate for the development risk.
Where the land value is high and development makes sense, Bunnings is more likely to stay because of a lack of suitable alternatives, UBS suggests. Ord Minnett believes with the balance sheet that is just 17.7% geared there is capacity to keep funding a small portion of the distribution out capital while the company is parked on the sidelines in terms of acquisitions.
Moelis notes the transformation is ongoing and it appears large format retail maybe come an increasingly bigger component of the portfolio, yet while on the acquisition trail management has found the current environment hard to execute within.
BWP Trust tried to buy several assets over recent months but was out-bid. Acquisitions are key, in Jarden's view, to any outperformance and the return of some growth, especially as current rents are flat-lining and returns on developments are minimal.
Over the short term, Jarden expects cost inflation and a normalisation of the pay-out will largely offset any acceleration in income growth. The ability to deploy capital at attractive returns is also limited, given the tight transaction market for Bunnings assets.
Citi agrees acquisitions are key to offsetting the earnings impact of the re-positioning of the Bunnings portfolio and estimates debt-funded acquisition capacity would be around $260m, taking gearing to the mid point of the preferred range (20-30%) and this could be 5-6% accretive to earnings.
Moelis, not one of the seven stockbrokers monitored daily on the FNArena database, assesses the stock is trading at an elevated 22% premium to net tangible assets and at current levels the risk is to the downside, maintaining a Sell rating and $3.42 target. Jarden, also not one of the seven, has a Sell rating and $3.50 target.
The database has three Sell ratings and one Hold (Ord Minnett). The consensus target is $3.65, signalling -7.8% downside to the last share price. The distribution yield on FY22 and FY23 forecasts is 4.6% and 4.7%, respectively.
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