More stapled REITs to follow suit?

KLCC Property Holdings Bhd's (KLCCP) proposal to become a stapled real estate investment trust (REIT) made it the first in Malaysia to explore such a venue for unlocking value. However, as the company paves the way for the new asset class, which is popular in Australia, experts have mixed views on whether stapled REITs will turn into a trend among local property companies.

For starters, KLCCP will inject three properties — Petronas Twin Towers, Menara ExxonMobil and Menara 3 Petronas — which are the jewels in its crown into a REIT for a total value of RM8.76 billion. Meanwhile, those not injected into the REIT, such as Suria KLCC and Mandarin Oriental, will continue to be kept under KLCCP.

Under the stapled REIT structure, the REIT and KLCCP will be listed under a single new entity — KLCCP Stapled Group — with its securities replacing the shares currently held by KLCCP shareholders. This contrasts sharply with the usual practice, where the REIT is listed separately with the three properties and have their units distributed to KLCCP's shareholders.

Furthermore, within the KLCCP Stapled Group, two different tax structures will apply to two different groups of properties — income from properties held within the REIT will be subjected to a much lower tax of 15% while those held under KLCCP will need to pay normal corporate tax rates.

Jasvin Josen, a derivatives expert formerly with a European investment bank, says KLCCP's move could be a catalyst for more Malaysian REITs to follow suit if proper regulation is put into place.

"I am quite surprised as to why the other REITs have not taken this direction earlier," she tells The Edge.

As a stapled REIT, KLCCP will act as a property manager, thus capturing the "leakage" that REITs experience when they have to pay a substantial fee to a third-party manager to manage the properties held under the REIT, says Jasvin.

"This leakage stems from the significant economic profits made by the third party from managing the properties, which are not passed back to the REIT as rental income."

Being a trust, the REITs are not supposed to manage the properties themselves.

"With a stapled REIT, the property management company's shares [like those in KLCCP] are "stapled" to the units of the REIT. This way, shareholders receive returns from the REIT as well as the profits from the property management company. This structure captures the leakage and gives shareholders better control over the business of the REIT," she adds.

However, RHB Research analyst Loong Kok Wen is not convinced that stapled REITs will take off locally. "A pure REIT unlocks the full value of the assets, resulting in a high yield for shareholders. Shareholders would definitely want to maximise the full potential of the assets."

Meanwhile, several parties say the biggest disappointment in the KLCCP stapled REIT is that Suria KLCC will not be injected into the REIT for the time being due to disagreements with the other minority owners of the property. The injection of the mall into the REIT would have unlocked higher value for KLCC Stapled Group, analysts say.

KLCCP's share price only inched up slightly after news of the stapled REIT was announced. Still, the stock has rallied 46.3% in the span of five months to RM5.75 last Friday. The rally started after KLCCP was first rumoured to be exploring a REIT structure in June.

HwangDBS Vickers Research analyst Yee Mei Hui says the possibility of stapled REITs gaining popularity among local players would depend on numerous factors. "Not all companies can structure a stapled security. It is a massive restructuring exercise which would require common shareholders [in the holding company and the assets].

"Whether this will take off or not will likely depend on the outcome of KLCCP's stapled REIT," she adds.

When asked if companies that have already set up REITs could adopt this stapled security structure, Yee says it is possible. However, the cost involved for the restructuring process could make it inefficient to do so.

"Furthermore, there is no guarantee that it will be able to yield the same results as KLCCP," she adds.

By doing a stapled REIT, Yee says KLCCP will be spared from value cannibalisation and a holding company discount, which are common scenarios experienced by companies that have spun off REITs.

"Shareholders will essentially hold similar assets as before, except with better tax efficiencies and fewer leakages to minorities, notwithstanding higher dividend payouts due to regulations for REITs to distribute at least 90% of their earnings to unitholders in order to qualify for tax exemption," HwangDBS Vickers Research says in a report.

One company with a huge portfolio of investment properties that has yet to do a REIT is Boustead Holdings Bhd, which could potentially explore the stapled REIT structure, analysts say.

Boustead has office buildings in the Golden Triangle area of Kuala Lumpur while its retail investment properties include the Curve Shopping Mall, [email protected] and Curve NX located in Mutiara Damansara. Both the office buildings and its retail outlets register high occupancy rates, according to the company's 2011 annual report.

Meanwhile, its hotels — The Royale Bintang The Curve and The Royale Bintang Kuala Lumpur — enjoy occupancy rates of more than 90% and 80% respectively. The property division also has a resort located in Seremban, The Royale Bintang Resort and Spa, while the Royale Bintang Penang Hotel is expected to be completed next year.

This story first appeared in The Edge weekly edition of Dec 3-9, 2012.

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