Activist fund calls for merger of Sabana Reit, ESR Reit

ESR CAYMAN'S cross ownership of the managers of Sabana Reit and ESR Reit puts the former at a disadvantage when the two Reits' investment mandates overlap and ESR should resolve the issue by merging them, activist fund Quarz Capital Management believes.

In a letter on Thursday, Quarz argued that Sabana Reit trades at a sharp discount to its book value of S$0.56 per unit because it is in direct competition with ESR Reit for assets in the Singapore industrial real estate sector, which is "limited in size and transactions".

Quarz wrote in its open letter to the board and management of ESR Cayman and Sabana Reit: "We find ESR's argument that they can manage the two Reits independently unconvincing... ESR's substantially larger stake (by value) in ESR Reit can potentially create corporate governance concerns on which Reit should have priority. It is also inequitable to minority investors if the Reits are forced to invest out of Singapore such that ESR can mitigate this issue."

A merger by way of a trust scheme will solve the problem, Quarz opined. "We propose a cash and unit transaction where 0.92 units of ESR Reit and S$0.067 of cash will be exchanged for one unit of Sabana Reit," it said.

Such an offer would value each Sabana Reit unit at around S$0.545 per Sabana unit, or a 2.7 per cent discount to book value. Unitholders in the enlarged ESR Reit would also benefit from a jump in distribution per unit (DPU) post-merger, Quarz wrote.

Due to Sabana Reit's low aggregate leverage of 30.8 per cent, the combined entity will also have around S$180 million of debt headroom to make DPU-accretive acquisitions, Quarz wrote.

Other catalysts that will help Sabana Reit grow its DPU are the completion of ongoing asset-enhancement initiatives at the New Tech Park at 151 Lorong Chuan in the first half of next year, which Quarz expects to yield an additional S$3.3 million of net property income per year.

Meanwhile, if Sabana Reit can bring its portfolio occupancy rate up to the national level of 89 per cent from 80.6 per cent as at Sept 30, that could generate around S$3.4 million of additional net property income, Quarz added.

Partial payment of management fees in units could also raise distributable income by S$3 million, the fund said.

Sabana Reit units were trading up 0.5 Singapore cent or 1.1 per cent at 45.5 cents as at 9.11am on Thursday morning, while ESR Reit was flat at S$0.52.

Market watchers have been bracing for ESR to drive more consolidation in the fragmented industrial Reit sector ever since ESR Reit swallowed Viva Industrial Trust last year, in the first-ever merger in the history of Singapore Reits.

Last week, ESR raised its stake in AIMS APAC Reit. Separately, ESR's parent Warburg Pincus is the biggest investor in ARA Asset Management, which runs Cache Logistics Trust.

In May, ESR took control of Sabana Reit from Vibrant Group in a S$62.2 million deal, which involved ESR paying S$0.48 per unit for Vibrant's stake in Sabana Reit. This is lower than what Quarz hopes ESR will offer for Sabana Reit now, but a "critical difference" is that Vibrant's was an all-cash transaction in which the sale of its Sabana units was bundled with its controlling stake in the Reit manager that was valued at a rich 26.1 times the Reit manager's net profit in 2018, Quarz said.

The Business Times has reached out to ESR Cayman and Sabana Reit for comment.